By Jimmy Schaeffler

Many Americans today are on the verge of purchasing a wonderful new vehicle – one that will take them to new heights – yet they don’t even know it. The reason is the new vehicle – or really the engine inside this vehicle — is designed to be stationary and to fit neatly into a closet or attic at home. The name of this great new device is a set-top box (STB).

As more functionality makes its way into the STBs that roll off factory lines in Mexico and Asia, the device becomes more and more of a “thinking” machine, and less and less of a “dumb” one. American cable and satellite consumers increasingly will be buying these “engines,” moving their older STBs out and bringing newer ones in.

Outmoded STBs

The major function of first and second generation STBs, built for cable operators, was to unscramble an analog signal that sent 30-40 channels to a home for viewing on a single TV set. Eventually, the product category grew. As more content became available, more homes had multiple TV sets and more STBs were needed. Once satellite makers and STB manufacturers realized that STBs could include personal computer capabilities, such as a hard drive to record and store digital content, the STB of old was on its way out. Instead, it has morphed into the “new home hub.”

The Next DirecTV STBs

This STB metamorphosis clearly is progressing. Now, some observers are predicting the STB ultimately will surpass the PC as the nerve center of the households of tomorrow. Ultimately, many pundits expect the nation’s consumer electronics stores to sell STBs for cable, satellite, telephony and other signal carriers. These super STBs will not only run the TV monitors at an average house, but the refrigerator, the stereo, the DVD, home lighting, security, and even the computer itself.

Brad Beale, DirecTV’s senior vice president for advanced products and new media, is his company’s in-house guru of new technologies. “There will eventually be a digital furnace in the home, placed in the closet, with a terabyte of information storage available,” Beale said. “This will be the new STB.” Beale goes on to note that the digital video recorder (DVR) is just the amoeba of what will be available five to 10 years down the road.

EchoStar’s Engines

EchoStar Communications [Nasdaq: DISH], like Hughes Electronics’ [NYSE: GMH] DirecTV unit, is clearly headed in the direction of STB enhancements. The company is looking for new STB applications that will make money and attract customers to its service. Revenue will come from actual STB sales (possibly even one day including profits on those sales) and from ARPU (average revenue per unit) driven by subscriber purchases of enhanced content, features or devices.

In fact, even at this early stage in the game, it is difficult to imagine the STB not taking this “home hub” role. Expect the cable companies to begin highlighting new STB features, as well, when they discover these boxes can be the key to the stickiest, most loyal, highest paying of their new and existing customers.

Challenges Ahead

Thus, the future of telecommunications, at least in the context of home-based data, signals and images, will be in the hands of consumer electronics manufacturers and their clients in the cable and satellite industries.

Nonetheless, significant obstacles remain before companies can embrace these new solutions, retailers can begin selling them and consumers can enjoy the fruits of these high- powered STBs. Two of these key issues are developing universal standards that will allow STBs to interact and protecting copyright and digital rights. How these issues are addressed will affect consumers in America and elsewhere. The speed with which key industry leaders address these issues will be directly proportional to the speed with which STB capabilities grow. Moreover, once these technical and legal concerns are abated, prices for the new STBs likely will fall to spur widespread mass-market adoption.

Where We Stand Today

For now, satellite providers will continue to push cable providers. Within a few years, some form of STBs for over-the-air broadcast services might emerge. The reason this is so important to consumer electronics dealers is that they eventually will become the primary source of STBs to consumers. This already is happening with customers of DirecTV and EchoStar, and eventually it will become the case with cable operators. A new “plug ‘n play” initiative is coming from cable operators and new TV sets will be cable-ready. Longer term, the solution would be a universal STB that worked with cable, satellite, telephony and other technologies.

Looking into a Crystal Ball

The future likely will see an entire wall devoted to STBs at consumer electronics stores. Those stores will be the new clearinghouse for these digital brains. The stores will have the opportunity to profit from the sale of STBs and a plethora of ancillary devices and content. Sales people will explain STB capabilities the way they do now with VCRs, high-definition TV sets and DVRs.

In the view of DirecTV’s Beale, “Satellite operators, for now, are not necessarily the leaders in the development of this home hub. We’re waiting for the technologies and the pricing. But you can be sure, we want to skate to the puck, because there is an opportunity there.” In the same vein, consumer electronics dealers, cable and satellite operators, and others who keep their eyes focused will be ready to take advantage of this new opportunity. Ultimately, they will score the goals required for enhanced revenue and profitability.

Jimmy Schaeffler is a subscription TV analyst at The Carmel Group (http://www.carmelgroup.com), a publisher of industry databooks and the monthly newsletters DBS Investor and Satellite Radio Investor. The company specializes in telecommunications (e.g., cable, satellite, broadcast and wireless), as well as computers and the media. He can be reached by e-mail, [email protected], or by phone, 831/643 2222.