Just after Google fiber was announced, Dallas-based AT&T Inc. (NYSE:T) announced a roll out of its own — Gigabit Internet. It seems like competition is heating up in the ISP space.
The pressure is on
Google Inc (NASDAQ:GOOG)’s push into the ISP business has worried the large dominant companies that provide Internet to large cities. Time Warner Inc (NYSE:TWX) is the largest ISP in the Kansas City, MO area and has the most to lose with Google moving into the neighborhood. Time Warner even offered $50 to people in Kansas City with information on the new Google-fiber roll out. Time Warner Inc (NYSE:TWX) certainly does not like seeing its large capital investments turn virtually worthless overnight, as Google Inc (NASDAQ:GOOG) promises to offer a better service at a better price.
Broadband has traditionally been one of the most lucrative and sticky businesses for consumers. Think about how many activities you do every day that require Internet. As more and more of us start relying on the cloud for storage, we will become more and more reliant on the companies that provide us a path to get there, the ISP. Google is putting pressure on those companies to provide better service at a better price.
The pressure’s on
Last year, Time Warner brought in $9.5 billion on its subscription division, nearly one third of its $28.9 billion in total revenue. Google Inc (NASDAQ:GOOG) Fiber is forcing these large companies to expand their broadband capacity and keep prices inline with today’s standards. This will put pressure on operating margins as capital expenditures will increase with revenue staying constant. The biggest players in this industry have the most to lose here; companies like Frontier Communications Corp (NASDAQ:FTR) in rural America won’t have to worry about a fiber line being dropped in their back yards anytime soon.
Time Warner’s saving grace will be its original content division that houses brands like HBO and Warner Brothers. As Google presses on with Google Fiber, we could see broadband margins erode as the company relies more on its creative content as its profit center and capital expenses rise. Google fiber is in its infancy now, but it could become a very real threat to the moat that Time Warner’s ISP division has built.
Google Inc (NASDAQ:GOOG) has more than $48 billion sitting idle on its balance sheet, but is that any reason to build out an infrastructure like this? Google could just use this money to purchase Charter Communications, Inc. (NASDAQ:CHTR) outright and upgrade its established network.
As a direct competitor to Charter Communications, Inc. (NASDAQ:CHTR) in many metropolitan markets, AT&T Inc. (NYSE:T)’s new U-verse products would be in jeopardy of being outdated instantly. AT&T Inc. (NYSE:T) has one of the most robust balance sheets in the country, and spent $19 billion upgrading its cell phone and broadband networks last year.
AT&T currently has a dividend of 4.7% and pays out 53% of its free cash flow. If it were forced to compete with Google nation wide, we would see Ma Bell under immense pressure to further upgrade all of its networks, leading to massive increases in capex and potentially halting any dividend increases.
Foolish bottom line
Google Fiber will not move the earnings needle at Google Inc (NASDAQ:GOOG), but it sure will shake up the Internet service-provider business. Google makes more than 90 % of its profit from its robust advertising on its search business. Google’s plan for fiber-based Internet is to increase the speed of the Internet, driving up traffic and leading more people to use its search.
Google is not in the business of becoming an ISP as of yet. However, Google is rolling out a second wave of Google Fiber and going toe-to-toe with some of the largest companies in the US, which is putting them on edge. Google does not currently pay a dividend, and its plans for Google Fiber may just be an expensive experiment that lowers the cash mountain on its balance sheet.
Google is a company with a robust earnings engine and a sprawling number of pet projects. It boasts impressive margins, and management. Google should be purchased based on its search and advertising business, but Going forward Google Inc (NASDAQ:GOOG) may see more pressure from investors to pay a dividend like Apple Inc. (NASDAQ:AAPL) instead of letting the company sit on its mound of cash.
The article Austin Has Just Received a Dose of Google Fiber originally appeared on Fool.com and is written by Wes Patoka.
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