Why Verizon is buying Intel Media: it’s all about taking on Comcast

Verizon(S VZ) made it official on the day of its Q4 2013 earnings call: The company is indeed buying the assets of Intel Media, the Intel(S INTC) subsidiary that has been developing an internet TV service called OnCue. As the deal unfolds, a lot of people focus on Intel and its inability to break into the TV business. But as interesting as that story is, it’s also worth taking a look at the other side of the coin: Verizon’s purchase of the Intel Media assets is a fascinating story of a company that was ready to give up on TV — until it abruptly changed course to turn on one of its former partners and take on one of the biggest players in the industry.

A partnership, a mystery box and a sudden turn of events

The thing you need to know about Verizon is: TV isn’t exactly its strongest suit. The company has some 35 million phone customers with a contract, but only around 5 million TV customers. That’s largely because Verizon’s FiOS service has a limited footprint, and building it out is expensive. So in 2012, Verizon decided to team up with with traditional cable operators, many of whom have a much larger footprint, but no wireless business to jointly market their services and develop new offerings together.

At the center of the joint venture was Comcast(S CMCSK), the cable company with the largest R&D team in the industry. Together with Verizon, it developed some promotional initiatives as well as a top-secret product called Nuon that was supposed to give consumers an alternative to online video offerings by tying broadband, pay TV and mobile together. The plan was to produce an actual hardware product — a box that was supposed to compete with Roku and Apple TV, capable of beaming video from both company’s mobile apps to the TV — kind of like a Chromecast for TV Everywhere content, if you will.

Comcast's and Verizon's Nuon box, which was manufactured by Huawei, was supposed to be a TV Everywhere-centric Roku killer.

Comcast’s and Verizon’s Nuon box, which was manufactured by Huawei, was supposed to be a TV Everywhere-centric Roku killer.

The box was produced by Huawei, and the Nuon project had the backing of some of the most senior executives in both companies. But in August of 2013, Verizon suddenly pulled out of the partnership with Comcast, which essentially killed Nuon before it was ever announced. Asked about Nuon, a Verizon representative gave me this tight-lipped answer in October:

“All work performed under the joint venture was confidential. Since none of the services were ready for launch, we cannot discuss them.”

A big buyout, some smart acquisitions and a key promotion

So why did Verizon pull the plug on Nuon and its partnership with Comcast? In short, because today’s Verizon is very different from the Verizon of 2012. Here is what changed:

The Vodafone deal. For years, Verizon Wireless was co-owned by Vodafone, which held a 45 percent stake in the wireless company. In that relationship, Vodafone was the silent partner, and by many accounts, Verizon didn’t have too hard of a time getting things done — but at least on paper, there was a clear divide between Verizon Wireless and the rest of the company’s business. That divide also made it harder to formulate a coherent vision for its future. But in 2013, Vodafone was finally getting ready to sell its stake, and in September, both companies announced that Verizon was paying $130 billion to buy out Vodafone. The deal is expected to close in the coming weeks, setting the stage for a much more aggressive integration of all of Verizon’s businesses.

The media services business. Verizon has been offering video services to third-party businesses through its Digital Media Services unit for some time. Some of that includes TV Everywhere-type streaming services for TV networks and live streaming of events. In 2013, Verizon Digital Media Services made two key acquisitions that set the unit up to do a lot more: First, it acquired the assets of upLynk, a company that specialized in adaptive streaming of live broadcasts, using the cloud to cheaply transcode signals on the fly.

In 2013, Verizon acquired some key assets to prepare itself for an online TV service. (Screenshot of the Verizon Digital Media Services website)

In 2013, Verizon acquired some key assets to prepare itself for an online TV service. (Screenshot of the Verizon Digital Media Services website)

And later in the year, Verizon bought the content delivery network EdgeCast, which is used by services like Hulu, Break.com and Lifetime Networks. With the combination of upLynk and EdgeCast, it positions itself to not only be a one-stop-shop for third-party video providers, but also to power live TV streaming for Verizon itself. “That organization turned a corner” in 2013, an insider recently told me with regards to Verizon Digital Media Services.

The TV business. Verizon ‘s TV business may have been limited by its physical footprint, but that didn’t prevent it from scaling up online. Part of that strategy was the launch of Redbox Instant by Verizon in late 2012. Redbox Instant is a joint venture between Verizon and Redbox’s corporate parent Outerwall(S OUTR), but all the technical expertise for the service came out of Verizon. And from the very beginning, it was built to also power other video initiatives for the company. For example, Verizon’s Flex View video service is based on Redbox Instant’s catalog and technology, and it’s easy to imagine that Redbox Instant would also power the VOD part of Verizon’s upcoming online TV service.

But there’s more: A few weeks ago, Verizon quietly promoted Redbox Instant by Verizon CEO Shawn Strickland to become the Head of Video Products for Verizon Communications, which includes FiOS TV as well as all of the company’s online video initiatives. In other words: Verizon essentially put an online video guy in charge of its TV business.

A better product, a big opportunity and a chance to make new friends

The big question now is: How will Verizon use Intel media’s assets? Verizon and Intel said in a joint statement Tuesday that “the transaction will accelerate the availability of next-generation video services, both integrated with Verizon FiOS fiber-optic networks and delivered “over the top” to any device.”

No matter how you look at it, the answer always comes down to its former Nuon partner Comcast. The cable giant is one of the few pay TV operators with extensive R&D efforts, capable of building and deploying next-generation TV products. Comcast is working on a cloud DVR, is getting ready to roll out its next-generation X2 set-top box and has a number of of other products in the making that are far ahead of any of its competitors. Here’s how an industry insider who has had a look at some of Comcast’s roadmap recently described it to me: “They seem quite dedicated to building products and defining the future of TV rather than (staying) the course.”

With Intel Media’s OnCue service, Verizon is getting a chance to truly compete with Comcast, if only from a technical perspective. The company could simply transition FiOS TV to a true IP-based platform with an innovative catch-up service that would allow its subscribers to watch anything they have missed in the last three days. Even if that was all that Verizon wanted to do with OnCue, it would still be a good investment.

Is the Intel Media acquisition just about making FiOS TV better, or does Verizon want to do more with it?

Is the Intel Media acquisition just about making FiOS TV better, or does Verizon want to do more with it?

However, pretty much everyone expects Verizon to do more with Intel Media’s assets. An internet-delivered pay TV service would give the company a chance to finally break free from the chains of its FiOS footprint and market its TV service everywhere. And with Verizon Wireless now even more closely aligned with the rest of its business, it could easily bundle TV with mobile to create its own double- and triple-play offerings. It also could turn cable companies like Comcast into a dumb pipe and offer a competing TV service over their infrastructure.

And there is a third option: Intel publicly described Intel Media’s OnCue service as a direct-to-consumer business, with plans to sell its set-top box through retail chains and directly sign up individual customers. However, the pay TV landscape is changing, which offers Verizon additional opportunities.

Broadcasters are playing hardball, trying to get more money for each and every channel. Cord cutters may not have grown to become a major threat just yet, but further depress the bottom line in an industry that has little room for growth to begin with. And major operators are in such a strong position that even players of significant size like Cox see the only way forward in consolidation. Smaller, regional operators are screwed in this world — and Verizon may just decide kickstart its TV efforts by partnering with some of these players and picking up a few hundred thousand customers here and there.

That way, it could grow and refine its TV offering until it’s one day ready to take on Comcast on that company’s home turf.