Network: There are over 200 Internet providers in the UK. But how many can survive?

Until recently, the big telephone companies were frightened by the Internet, worried it would give consumers a cheap alternative to their services. Now they are taking control of its infrastructure, and it is the small service providers who should be frig

Henry Ford is famous for telling his customers that he would build them a car in any colour, as long as it was black. The market for Internet services in the UK is not quite as rigid as Mr Ford, yet there is far less competition than the casual observer might think. There are more than 200 Internet service providers (ISPs) in the UK, but under the surface, a few very large players control the vast bulk of the Internet industry.

These companies own the physical connections, known as the backbones, that link our cities, and connect users in the UK to Europe and North America. The smaller Internet companies are literally bit players, buying capacity from the giants and selling it on.

By far the biggest player is WorldCom. WorldCom is one of the world's fastest-growing telecommunications companies, even though few people in the UK had heard of it until it spoiled BT's attempt to buy MCI, the US phone company.

WorldCom, which has bought 40 companies in the past five years, is one of a new breed of phone companies. It sees its future in the Internet business as much as in handling phone calls. WorldCom owns UUNet, whose Pipex brand is one of the UK's best-known Internet providers. UUNet also provides the connections for the Microsoft Network.

WorldCom held the key to an earlier deal which saw America Online take over CompuServe. CompuServe was one of the most popular ways to access the Internet, and the market leader in the UK. It makes WorldCom, through UUNet, the biggest provider of physical Internet connections by far.

This is the latest salvo in a campaign that is transforming the way the Internet is run. Smaller Internet companies face stiff competition - from a strengthened AOL, from each other and, more and more, from telephone companies.

Soon, the bulk of Internet users in Europe will go online via a telecommunications company, either directly or indirectly. The AOL-CompuServe deal gives WorldCom 1.5 million more users on lines it owns, on top of MSN's subscriber base and Pipex's large share of the UK market.

In Germany, the largest ISP is T-Online, part of Deutsche Telekom; France Telecom is the market leader on its home turf. The UK's more competitive market means that the phone companies, including BT and Cable and Wireless, lag behind Internet pioneers such as Demon and Pipex. This may not be the case for long. BT Internet already has 75,000 subscribers after just 18 months, against some 120,000 for Demon Internet.

As Neil Mellor , BT's manager of Internet services marketing, points out, there are two sorts of Internet companies: those that own their own networks, and those that do not. The key advantages the telecommunications companies have are their market size, and their wires.

Almost all private UK Internet subscribers pay money to BT, or, in a few cases, to the local cable company to connect to the Internet. Most ISPs pay BT, or Mercury, now Cable & Wireless Communications, to provide local-rate phone numbers that work across the country, and connect calls to their modems. Telephone companies may see the Internet as a threat, but the fact is they already make money out of it.

Telephone companies, and that includes the cable operators, are the only firms that have lines directly into homes and offices. BT, of course, has more lines than anyone else. Telephone companies have an incentive to promote the Internet, along with anything else that increases traffic on their lines. What better way than providing their own Internet services?

"There is no doubt that the local loop is a key to our strategy," says Peter Mothersill, managing director of COLT Internet, part of the City of London-based phone company. "With all end-to-end networks, it is the access between the network and the customer that is often fundamental to quality."

"The Internet, as a combination of services, is regarded by Cable & Wireless Communications as a very attractive growth area," says Joe Grech, C&W's director of business and product planning. He concedes that, like other telephone operators, the Internet was initially seen in a negative light. "It was seen as a threat," he says. "You can ignore a threat, or you can attack it head on. We want to understand it better, and see how it can add to our business."

One way might be to offer customers a single bill for phone and Internet services. Another is super-fast access though cable modems, currently undergoing trials in south Manchester. "I think being a telco is vitally important in providing a full solution to customers," Mr Grech says. "Telecommunications costs are a huge proportion of the costs of this business."

This is one reason why independent Internet providers are less than happy about reforms by the telecommunications regulator Oftel to BT's licence. Companies such as Cable & Wireless operate under few restrictions, but BT has to run its Internet business as a separate entity. That will change, although BT will not be allowed to send out Internet sales information with phone bills, something Cable & Wireless already does. Instead, providing "IP services", in effect, the Internet's bulk traffic, will transfer to BT's main operation. BT Internet will have to buy the services at the wholesale rate, which must also be available to other Internet companies. But it is a step towards full deregulation of the Internet business, still a goal of BT executives. "We will be pressing overall for greater liberalisation, in particular with greater competition coming into the industry," says Neil Mellor at BT.

Few smaller ISPs have the resources to go head-to-head with the phone companies. Some will close, some will merge, and some will be bought by telecommunications groups anxious to gain a foothold in the market.

"ISPs have the knowledge the telcos don't have," suggests Nigel Deighton, research director at analysts Gartner. "At the same time, we are going to see the number of providers reduced. We will see a few tens, who will be allied to or part of the telephone companies we know and love."

Industry sources agree. Cliff Stanford, managing director of Demon Internet, also expects to see fewer suppliers in a year or two. According to Stanford, expansion is the undoing of the smaller Internet companies with perhaps a few thousand subscribers.

"It is growth that kills," Mr Stanford says. "We could halve our staff if we stopped growing. But we have a vision - planning for a million customers by the end of 1999 - and we don't see growth in the market slowing down until 2002.

Smaller providers, Mr Stanford argues, simply don't have the muscle to grow profitably. They are not large enough for magazine cover mount promotions; they are not large enough to take part in technical trials, such as for set-top box Internet access. He predicts that smaller Internet companies will survive only either as local specialists or by serving niche markets.

At BT, Neil Mellor believes the problems lie deeper still. Dial-up Internet access is simply not profitable, at least not on its own. "There is not one Internet service provider that has shown any black ink yet on any basic dial IP service," he says.

Mr Mellor has a formula for profitability, but it is one that does not translate well to the small, independent supplier that has done so much to promote consumer Internet access.

"If you can do it on a big enough scale, keep the acquisition costs down, and don't attract too many novice users, you have a fighting chance," he says. The shape of the Internet market in the run-up to the Millennium depends very much on how the phone companies choose to use their marketing muscle, and deep pockets.

"The Net committed a crime against the established telephone companies, and they have the money to deal with it," says Gartner's Nigel Deighton. "They will deal with it by taking it over."