News

The 75-Cent Solution

4/26/2008 2:00 AM Eastern

As the Bush administration strikes midnight, Federal Communications Commission chairman Kevin Martin is running out of time — but not out of ideas — to tame the cable industry.

Martin, who will probably leave office when President Bush’s term concludes next January, is determined in his waning days to influence how cable operators and their program suppliers go about providing some 64.7 million homes with video channels dedicated to an assortment of news, sports and entertainment.

For years, Martin has complained about soaring nominal cable rates. Earlier this month, he floated a new idea he hopes will reverse the trend: Allow cable operators to eject from expanded basic service — the most widely purchased cable programming tier — any channel that charges wholesale license-fee rates of 75 cents or more per subscriber, per month.

In theory, that could mean consumers for the first time could buy some of the most expensive cable channels — such as ESPN, the Fox Sports Net regional services, TNT and Disney Channel — on an a la carte basis.

Martin, a Republican appointee of President Bush, might be surprised to learn that the GOP-hospitable Fox News Channel could get the boot from expanded basic, losing access to millions of cable homes in the process.

Martin’s 75-cent plan is rooted in a rulemaking proposal the FCC adopted last September, which asked whether the agency has the authority to require programmers to allow pay TV distributors to purchase every channel at wholesale on an a la carte basis. The agency’s vote was the fruit of a five-year effort by small cable operators to get the FCC to focus on wholesale program tying and bundling practices.

Small cable operators in particular want to break up expanded basic to provide consumers with more choice.

“Sports programming is in the neighborhood of 35% to 40% of the total cost of basic programming,” said James Gleason, president of Sikeston, Mo.-based cable operator NewWave Communications, whose 110,000 subscribers are scattered across five nearby states. “So that’s got to go first.”

Gleason is a member of the American Cable Association, a trade group of small cable companies that began lobbying the FCC in 2002 to investigate the program-acquisition market. Until Martin, the ACA gained little traction.

ACA claims that access to 13 popular cable networks owned by big media conglomerates are tied to carriage of 60 less desired co-owned channels, putting upward pressure on cable rates and annoying consumers.

In recent comments, Martin also indicated he shared ACA’s concern about the price small cable operators pay for local TV signals. Gleason complained that TV stations are gouging his company because it lacks the market clout to resist.

“We are paying three, four, five times what the big cable operators are,” Gleason said. ACA would not disclose in its FCC filing any specific dollar amounts its members were being charged each month, claiming doing so would violate contracts and invite retaliation.

Tying: Requiring purchase of one programming service in order to have the right to purchase others.
Bundling: Offering the sale of a block of channels on a take-it-or-leave it basis.
Tiering: Mandating channels be carried on the most widely penetrated tiers, regardless of consumer interest.
Price Discrimination: Charging small operator higher per-subscriber license fees that don’t reflect actual costs.


SOURCE: Multichannel News research
Force programmers to sell channels on a la carte basis at reasonable rates without banning bundling.
Ban programmers from linking the sale of channels to specific tiering or distribution commitments.
Resolve disputes over the price of a la carte channels.
Refrain from imposing retail a la carte mandates as the technology can be too costly for some system operators.
Permit cable systems in competitive markets to offer TV stations on a tier other than basic service.


CASH ISN’T KING

For others, cash isn’t the sole issue. It’s also about the number of unwanted cable channels they must carry and widely distribute in exchange for access to TV stations that elect retransmission consent — typically ABC, CBS, NBC and Fox affiliates, as well as independent stations with local sports rights.

Insulating retransmission consent from alteration by the FCC is the National Association of Broadcasters’ second most important lobbying objective after the digital TV transition scheduled for Feb. 17, 2009.

“It’s a close No. 2. I mean, it’s an important issue for our members and for our television board,” said NAB president David Rehr. Retransmission consent has allowed some TV stations to use cable as a second revenue stream after advertising.

For years, Martin has complained about cable’s business model. Cable operators assemble channels in packages called tiers and offer them on a take-it-or-leave-it basis. Consumers need more options, according to Martin, who favors a system in which consumers pick and choose almost every channel one at a time.

Martin hasn’t tried to impose a la carte at the retail level for the simple reason that the FCC does not have the legal authority to do so, as he readily admits. But Martin now maintains the agency could have power under a 1992 cable-program access law to impose wholesale a la carte requirements on the industry.

At first, Martin’s wholesale a la carte plan looked as if any channel owned by, say, The Walt Disney Co., NBC Universal, Viacom or News Corp. would have to be offered a la carte to any pay-TV distributor.

“I believe that if a cable operator only wants to carry one channel, it should not be required to buy 10 or 20 channels in order to do so,” Martin told ACA’s annual Washington, D.C., summit on April 8.

THE 75-CENT RULE

A day later, Martin narrowed the plan in testimony before the House Appropriations Subcommittee on Financial Services. He floated a proposal that any cable network that demanded 75 cents or more per month, per subscriber, could legally forfeit its place on expanded basic.

According to license-fee data compiled by SNL Kagan research, Martin’s 75-cent rule would capture the elite members of the cable-programming community, including ESPN, the FSN regionals, TNT and Disney Channel. Fox News Channel, which reportedly collects a 75-cent license, could also be vulnerable.

ESPN, owned by The Walt Disney Co., has for many years been basic cable’s most-expensive network. It currently costs $3.65 a month per subscriber to distribute, according to SNL Kagan.

Martin hasn’t explained in detail how the 75-cent rule would work. He’s indicated that cable operators could move expensive channels off expanded basic at their discretion; presumably, programmers that refused a 75-cent ceiling would have to accept demotion to a la carte status or to a less widely viewed tier.

Last fall, the FCC proposed that the legal basis for wholesale a la carte rules could be found in a 1992 law that banned “unfair methods of competition or unfair or deceptive acts or practices, the purpose or effect of which is to hinder significantly or to prevent any [multichannel pay-TV operator] from providing satellite cable programming.’’

That law, however, was aimed at the distribution of satellite-delivered cable programming owned by cable operators. Except for Time Warner Inc., cable’s major programming suppliers are independent or affiliated with the broadcast TV industry and do not own U.S. cable systems.

“Tell me where they think they see they have legislative authority anywhere to regulate independent programmers?” said Preston Padden, Walt Disney executive vice president of worldwide government relations.

Martin’s proposal to use wholesale rates as a trigger to exile channels from expanded basic prompted a stern letter on April 15 from top brass at Disney Media Networks, MTV Networks, Universal Television Group, Turner Broadcasting System and Fox Networks Group.

“If your plan is adopted, consumers will be outraged,” the TV executives predicted.

ACA, which supports a wholesale a la carte regime that includes every cable channel, hasn’t endorsed Martin’s 75-cent threshold.

“We’re reviewing it,” said ACA president Matt Polka.

ACA has asked the FCC to intervene to resolve disputes over wholesale rates. But the group opposes rules that would force them to sell channels a la carte that they had acquired on an a la carte basis in the wholesale market.

“Forcing a full [retail] a la carte model, we do think, has a risk,” said Patrick Knorr, CEO of Sunflower Broadband, a Lawrence, Kan.-based cable operator with about 30,000 subscribers. “It’s expensive to deploy the technology for both operators and consumers.”

Not only is the cost of billing systems a factor but so is getting word to consumers that they will need a digital set-top on every TV they want served with a la carte programming.

A divided cable industry could help Martin get the two additional votes he would need to prevail, said Stanford Group cable analyst Paul Gallant.

“The small operators will be helpful to the chairman’s effort because they need more help from the FCC in dealing with programmers than the big distributors do,” he said. “It is not yet clear there is a majority for new a la carte rules.”

The details of any FCC wholesale a la carte regime would be critical. Although the objective would be to lower the price of expanded basic, a voluntary plan could fall short of that goal.

For example, a cable operator could remove ESPN and replace it with far less expensive programming while leaving the price of the tier unchanged.

Meanwhile, an ESPN fan that sought to maintain the same level of service would end up paying the same amount for expanded basic without ESPN while paying a new fee, amount unknown, to access ESPN on a sports tiers or a la carte.

“I think there would be an uproar,” said ESPN executive vice president of administration Ed Durso. “I don’t think any consumer would think that would be a good thing.”

AD SUBTRACTION

Suppose ESPN agreed to 75 cents to secure a spot in expanded basic. Could cable operators really expect to cling to selling the existing ad availabilities from such a network?

Could operators withstand intense pressure from Disney, burned by an FCC rate cap, that they pay more for other Disney-owned channels that cost far less than 75 cents? ESPN2 costs 27 cents and ABC Family 24 cents, according to the SNL Kagan research firm.

Suppose ESPN were sold a la carte, priced anywhere between $10 and $20 a month. What would cable operators do if a large percentage of customers fled expanded basic, limiting their purchase to just local TV signals and ESPN? Maybe that kind of threat offers ESPN some market protection from the 75-cent rule.

“Packaging [ESPN] that way would not be a business decision I would make,” said Sunflower’s Knorr, agreeing the consumer flight from expanded basic was a real risk.

An interesting twist to ESPN in an a la carte environment is that cable operators deemed “subject to effective competition” by the FCC are free to force consumers to purchase any number of programming tiers before they can access a la carte channels.

Martin has said the FCC can influence the cable programming market without price controls. But it’s hard to see how his 75-cent rule achieves the goal of lower cable bills and expanded choice with some kind of strict enforcement mechanism.

“Unless there is ultimately a vast rate and price regulation scheme put in place by the FCC, it will not hold together,” ESPN’s Durso said.

Martin is also showing sympathy for small-operator concerns about retransmission consent. ACA members claim that cash offers are far too expensive and many times, access to over-the-air signals is tied to the carriage of cable networks affiliated with the broadcaster.

This reality, ACA claims, sends cable bills higher and packs expanded basic with channels that cable operators would not ordinarily carry.

TV stations want to see the retransmission-consent rules change about as much as ESPN wants to move to selling each of its channels on an a la carte status.

“It would be unfortunate for the commission to inject itself into the private market place where it seems to be working pretty well as it is,” said Jerald Fritz, senior vice president of legal and strategic affairs at Allbritton Communications, owner of WJLA-TV, the ABC affiliate in Washington D.C.

LEVELING NEGOTIATIONS

Federal law requires cable operators still regulated on the basic tier to include all local TV signals in that introductory package, which cable subscribers must buy. As part of its reform proposal, ACA wants the FCC’s support in affirming that cable systems not regulated on the basic tier should be allowed to include retransmission consent stations on optional programming tiers.

One approach ACA isn’t advancing is the elimination of any legal requirement to carry local TV signals, which would force many subscribers to obtain set-top boxes with over-the-air digital tuners.

“It probably wouldn’t work for cable operators like us, because we are serving smaller communities that are farther away from where the broadcast stations are,” NewWave’s Gleason said. “A typical consumer can get probably get one or two with an outdoor antenna but they can’t get all of them, so it probably doesn’t solve our problem.”

September