More Studies Question Overbuilds

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The debate over public and private cable overbuilds heated
up again last week, with the release of two studies questioning the financial wisdom of
such projects.

Both reports claimed that overbuilds do not generate
sufficient cash flow to recover upfront costs and ongoing operating expenses -- even when
significant market penetration is achieved.

The first, a study by University of Colorado professors Ron
Rizzuto and Michael O. Wirth, was presented at the Strategic Research Institute's recent
Cable/Telco Franchising & Competition Conference in Washington, D.C.

The report, which concentrated on municipal overbuilds,
concluded that systems in Glasgow, Ky.; Paragould, Ark.; and Negaunee, Mich., remain
solvent only because their municipal power companies have underwritten operating and
capital expenses, provided interest-free loans, or levied new taxes on local residents.

These subsidies allow municipal overbuilders to charge less
than the incumbent, thereby creating the "illusion" of savings for municipal
cable subscribers.

"Absent these municipal-power-company capabilities,
along with both their tax-free status and their access to lower costs of capital, none of
these enterprises could be sustained over the long run in a competitive marketplace,"
the study concluded.

Meanwhile, permanently subsidizing these projects will
require that Glasgow, Paragould and Negaunee set aside $716, $641 and $28, respectively,
for each residential household in the community.

The professors considered a fourth overbuild in Cedar
Falls, Iowa, to be too recent to determine its profitability. However, that overbuild
faces an uphill battle to recover more than $8 million, the study said.

Cable-industry representatives touted the study as evidence
that overbuilds cripple both sides by keeping cable rates artificially low.

"They're more hype than hope," said Jim Ewalt,
executive vice president of the Cable Telecommunications Association (CATA), during the
SRI franchising conference.

The study lifted Tele-Communications Inc. officials in
Iowa, where 13 towns are considering building networks that would compete with the MSO.

This is "exactly what we've been saying since 1994 ...
but so far, it's all fallen on deaf ears," said Debora Blume, director of
communications for TCI of Iowa.

Municipal officials disagreed, arguing that the study did
not take into account enhanced services that generate new revenue streams for city-owned
networks.

In Harlan, Iowa, for example, local officials noted that
their business plan was based solely on providing cable service to 5,300 residents, and it
did not factor in the 200 Internet-access customers that the city expects to have on the
books by year's end.

As a result, the city has not had to raise its basic-cable
rate of $18.95 per month since it implemented service two years ago, while TCI has had to
lower its rates to hang on to a dwindling share of the market.

TCI chopped $3.69 off expanded-basic costs in Harlan last
year, bringing rates down to $16.95 per month, or $2 below the price charged by the
city-owned network.

Meanwhile, the possibility of offering local and
long-distance telephony, as well as home-security systems, promises additional revenues,
said Gerald Quick, general manager of the Harlan-run cable system.

"Everything is on the plate," Quick said.
"If you start out with cable and never raise your rates or make any additional
offerings, then [the system] probably won't [reach positive] cash flow. But you have to
make changes. It's not a stagnant industry."

Cedar Falls officials agreed, pointing out that the city
would not have built a 750-megahertz system simply to provide cable.

Along with its 5,494 cable subscribers -- most of which
came at TCI's expense -- Cedar Falls is now also offering Internet access, high-speed-data
service, e-mail, municipal telephony and other special telecommunications services,
spokeswoman Doris Kelly said.

In Tacoma, Wash., meanwhile, where Tacoma City Light is in
the midst of a $100 million overbuild of TCI, city officials claimed that their project is
driven not by dissatisfaction with TCI, but by a need to protect an electrical-customer
base threatened by expected industry deregulation that will allow consumers to purchase
their electricity from entities other than TCL.

However, when it comes to cable, the city has its own data
from the Stanford Research Institute, which indicated that 73 percent of Tacoma cable
viewers would jump to a new service provider offering comparable programming at a lower
price, and about 44 percent would take a comparably priced service specifically offered by
TCL.

TCL superintendent Steve Klein said the combination of
cable revenues, along with the revenues generated by other service providers riding on the
network, will produce "positive" cash flow in two years and a payback on capital
investments within 10 years.

A second study of overbuilds released last week by
Washington, D.C.-based consulting group The Strategis Group reported that its analysis of
18 different financial models found that none is a "prudent investment."
Strategis' report covered municipal, telco and private overbuilds in communities as small
as 5,000 residents and as large as 150,000.

"Even after adjusting the models to reflect potential
economies achievable by telcos and municipalities, the results are similar,"
according to the study. "In short, all of the models indicated that an overbuilder
would not generate sufficient cash flow from operations of the cable system to pay back
its debt."

Ameritech New Media, the most aggressive of the regional
Bell operating companies seeking to carve out a niche in the cable business, immediately
took issue with some of the "assumptions" in the analysis.

Officials at Ameritech Corp.'s cable arm said the study was
flawed because it looked at overbuilds over the course of 10 years.

"Most cable franchises are 15 years," said Donna
Garofano, ANM's vice president for public affairs. "And even in a traditional
monopolist situation, cable operators do not expect to see net cash flow for at least six
or seven years."

Garofano said the study also makes financial assumptions
based on a model where the typical overbuild is in a market with only 70 homes per mile,
compared with an average of 130 homes per mile in ANM markets. It's also not clear whether
it amortizes the cost of a single headend over a number of communities, or it assumes that
each location will have its own individual headend, she said.

Klein, meanwhile, disagreed with the Strategis' contention
that granting a second cable franchise is not a good deal for consumers, noting that TCI
began "racing" to upgrade its local network after it saw that the city intended
to proceed with its overbuild.

"That sounds like something that an incumbent would
want you to believe -- that it's damaging for consumers," he said. "But right
now, consumers in Tacoma are in a positive situation. Their cable company is finally
treating them like real customers."

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