GAO Finds Cable Regulation is Unwarranted

11/30/2003 7:00 PM Eastern

The following is an excerpt from testimony of Robert Sachs, president & CEO, National Cable & Telecommunications Association, delivered recently before the Senate Commerce, Science and Transportation Committee.

The years since the Telecommunications Act of 1996 have been tumultuous for many providers of communications services. Promises and expectations that accompanied that legislation have yet to be fulfilled. While encountering many of the same market challenges, the cable industry has moved forward to keep its commitments. Consumers are realizing the benefits in the form of new digital-cable, high-speed Internet, and cable-telephony services.

These conclusions are borne out by the recent report of the General Accounting Office. The report provides strong support for the view that price re-regulation is unnecessary and unwarranted and would have negative consequences for consumers and investors alike. As to the imposition of à la carte pricing, the GAO similarly confirms that a government mandated à la carte regime would increase prices for many consumers while decreasing programming diversity.

The GAO report confirms the increasing competitiveness of the video marketplace and makes several key findings that should guide public policy in this area. Not surprisingly, the GAO finds that direct-broadcast satellite, with two national providers serving nearly 21 million consumers, is an "important" competitor to cable, and has caused cable operators to significantly improve the quality of services provided to consumers.

In the increasing number of markets where DBS offers local-broadcast stations, cable operators provide more channels, improved customer service, and new bundles of service.

Further, the GAO finds that cable price increases reflect increases in costs to provide cable service, especially programming expenses and infrastructure investments.

As documented by the GAO, programming expenses to cable operators increased by at least 34% from 1999 to 2002. These increases were driven by competition among networks, higher costs for talent (especially sports talent), and more investment in original made-for-cable programming.

With respect to programming investment, expenditures by cable networks to produce programming went from about $6.5 billion in 1999 to nearly $9 billion in 2002, a rise of about 38%, according to the GAO.

The GAO also finds that spending by cable operators on labor and customer service has contributed to price increases as operators moved to 24/7 customer service and increased spending for recruitment, education and training.

Capital Expenditure

On the capital expenditure front, the GAO concludes that the $75 billion investment from 1996 to 2002 made by the nation's cable operators has directly
benefited video customers.

The investment expanded the number and quality of channels available, improved picture quality, and made cable systems more reliable.

The investment also makes cable more valuable to consumers by facilitating advanced services such as video-on-demand, HDTV, broadband Internet access, and telephone service over what was once only a one-way video network.

What is evident from the GAO report is that the principal reason cable prices have been rising at rates that exceed inflation is that cable costs have been rising at rates that exceed inflation. So too, the quality and value of cable services have been rising.

À la Carte Pricing

Turning to a subject that has received a lot of attention, the GAO concludes that à la carte pricing would give subscribers the option not to purchase some of the services they currently receive, but would not necessarily lower prices.

In fact, for many subscribers, prices would be likely to go up. À la carte pricing would, as the GAO found, impose additional equipment costs on all customers who don't currently have addressable set-top boxes.

And such pricing would diminish advertising revenue for advertiser-supported networks, resulting in higher wholesale fees to cable operators and higher retail prices for consumers.

Mini-tiers of networks grouped by genres, the GAO further found, would present similar pricing effects for customers. The GAO speculates that a mini-sports tier would have popular appeal and might be viable, but it doesn't offer any economic analysis to support this conclusion.

With respect to overbuild competition, the GAO did find a price differential in the relatively few markets that have a second wireline broadband provider. But the report doesn't examine whether the differential reflects sustainable pricing or, as we believe, is explained by anomalous factors.

In fact, it's more likely that the lower rates charged by the second provider are artificially and uneconomically low and don't represent rates sufficient to sustain the mix of services and quality that best meets consumer demand.

The GAO's analysis of 123 systems where there is a wire-based competitor was based on 2001 FCC [Federal Communications Commission] data which included companies that, by 2003, had exited the cable business, gone into bankruptcy, have no foreseeable pathway to profitability or remain in business only by selling off assets and steeply raising low introductory rates.

Many of the remaining second wireline providers may have cost structures that don't reflect the true cost of deploying a system.

Some of these operators paid as little as six cents on the dollar for the properties they operate — hardly a typical capital structure.

Thus, the pricing observed by the GAO for these limited second wireline markets, with their many anomalies, cannot be a fair benchmark to judge rates found in other markets nor do they support a conclusion that prices elsewhere aren't competitive.

Regulation Not Needed

In summary, the GAO report reflects a competitive video environment, one of increasing choice of providers, services and programming, and where price regulation is unwarranted.

The GAO's explanation for cable price increases is the most mundane: Prices are a function of costs. And cable costs have sharply increased as a result of efforts by cable operators to compete with DBS and others by offering greater value to consumers.

GAO understands this, and its report nowhere recommends price regulation of any kind — instead, it finds that such regulation could lower the quality of programming, discourage investment in new facilities, and impose administrative costs on industry and regulators alike.

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