Captive Audience: The Telecom Industry and Monopoly Power in the New Gilded Age (23 page)

This new model of compensation-in-kind led to the creation of a number of new cable channels as broadcasters elected to be “paid” for their network programming by ensuring that their new cable channels had a slot in the cable lineup. In the 1990s, ABC used retransmission consent to get ESPN2 carried, NBC used it to get
America's Talking
(now on MSNBC) carried, and Fox used it to get cable operators to carry FX.
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Even though the broadcasting business itself is in a terminal slump, since this scheme was set up in 1992 the balance of power has, paradoxically, shifted in favor of broadcasters. They have more distribution outlets for video than they had before—they can get their programming out through satellite (Dish, DirecTV) or telco (Verizon, AT&T) video offerings as well as cable. In fact, video subscribers are often drawn to satellite or telco pay-TV packages instead of cable, because their prices are lower; the cable companies have unbeatable data and broadband offers, which is their comparative advantage, but they are slowly losing market share in video. A broadcaster can thus credibly threaten a cable company with withdrawing its signal unless a deal is made in the broadcaster's favor. Put simply, even though the cable distributors won't carry independent cable channels without exacting a pound of (equity) flesh, the cable distributors need the
Big Four network broadcasters more than the broadcasters need the cable guys.

As a result, in a major change in the broadcaster-cable relationship, broadcasters are now hoping to get actual retransmission fee revenue or “affiliation fees”—cash, not carriage, on a per-subscriber basis—and they have the power to ask for it. They no longer need to rely on must-carry regulations for free, or in-kind deals involving distribution of more of their channels over cable (deals that, in many cases, gave them slots for channels that did not yet exist). Now they can demand money.

So if Comcast or Time Warner has a broadcast network (like, say, ABC) on its lineup, it will be asked to pay the broadcasters. The only statutory constraint on both sides is that they have to negotiate in “good faith,” and it is entirely unclear what that means.
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Every once in a while, a broadcaster and a cable distributor play a game of chicken over their deal terms, and sometimes they actually drive over the cliff, and the cable operator, with no agreement in place, stops carrying the broadcast signal. Cable subscribers get upset, particularly when the programming they lose access to is something like the Emmys or the Super Bowl. Cable systems and broadcasters each try to direct the consumer uproar against their opponent, while legislators and the FCC express deep concern (but do nothing). Eventually, the two sides make a deal.

Cablevision and Fox went through this routine in 2010, when Cablevision refused to pay more than $150 million a year for Fox programming—reportedly a doubling of Fox's fee.
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The same year, Cablevision also fought with Disney, and Time Warner Cable fought with Fox.
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Broadcasters are happy with the retransmission consent scheme because they have been able to convert their advertising-only business model into one based on subscriber fees in addition to advertising. Just like a cable channel. As of mid-2011, CBS was planning to double its retransmission consent revenue to one billion dollars a year. As CBS's chief financial officer, Joe Ianniello, said, the revenue was pure profit: “There is no cost against it. … Whether [the billion dollars] happens in three years or five years, we can debate about the time frame, but nobody is debating that it's there. We know every contract when it expires and what we need to get in those negotiations.”
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After some high-profile scuffles, cable-distribution companies have conceded, after a fashion: they have decided simply to pass on the cost of retransmitting broadcast networks to consumers by masking the fee payments as license fees for cable networks owned by the broadcaster.

The creation of the retransmission consent scheme may have helped to make it much more difficult for independent programming to survive. After that point, broadcasters created new cable networks using the leverage that retransmission consent gave them. Allowing the broadcasters to charge cable distributors for their content made the cable distributors look for alternative ways to “pay” the broadcasters with in-kind space for programming—space that otherwise might have been available to new independent channels. Everything became a deal with existing players rather than a search for new content.

As a result of such maneuvers, retransmission-fee compensation—that is, the fees paid by distributors to broadcasters—is rising by about 20 percent a year; SNL Kagan estimates that retransmission fees paid by all distributors of broadcast networks (telephone and satellite companies as well as cable operators) grew from an estimated $487.5 million in 2008 to almost $1.14 billion in 2010 and will grow to $3.6 billion in 2017.
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Life is good for broadcasters: CBS CEO Leslie Moonves has said that these subscriber fees (whatever the cable distributors call them) should add “hundreds of millions of dollars to revenues annually” for broadcasters, and so far he has been right: the amount doled out in 2011 adds up to roughly 50 percent of the total amount of retransmission compensation ever generated from video distributors, most of which will be passed on to consumers. Indeed, cable fees have gone up since 1996 at more than double the rate of inflation.
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The advertising-only model of broadcasting no longer works. It is the cable programming model—yielding subscription fees in addition to advertising revenues—that makes the most sense for media conglomerates, including NBC Universal. And the entire system of payments—retransmission consent for broadcasters, affiliate fees for cable networks, advertising revenue for content owners—works only if cable distributors have sufficient market power to maintain the prices that consumers pay. Cable distributors thus have an interest in both achieving massive scale and vertically integrating with broadcasters; once distributors and programmers are on the same
team, the scuffles over particular retransmission fees paid to broadcasters will disappear. Just as John D. Rockefeller, according to Ron Chernow, saw competing oil producers as a “rabble of wild, excitable men, waiting for a war-cry to rush into the arena with a suitable noise” and sought to ensure steady prices and adequate returns on investment by imposing an orderly marketplace, the cable distributors have an interest in smoothing out the programming marketplace to avoid holdups and disruptions.
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In a signal to broadcasters that it would not abandon them, Comcast signed a ten-year deal for carriage of CBS's content even as the Comcast-NBCU merger was pending in Washington.
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In a further appeal to broadcasters, Comcast agreed with NBC affiliates (in a filing with the FCC) not to seek repeal of the retransmission consent regime. It suggested to legislators and the FCC that because the NBCU transaction would put it
on both sides
of the ongoing retransmission consent fracas, the company would be able to help fix the situation. Comcast, Roberts said, would “have a role, to help come up with constructive solutions of how—for the industry, how should [retransmission consent disputes] get resolved in the future.” He was confident that the other broadcasters would benefit once he was wearing both hats. And he felt certain that there was no chance the FCC would intervene. In effect, he was proposing to take the burden of regulation off the shoulders of civil servants.
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At the time it announced the NBCU deal, Comcast already had programming assets, but except for the regional sports networks these weren't nearly as successful as NBC's cable networks. E! Entertainment Television, which Comcast bills as “television's top destination for all things entertainment and celebrity,” was its leading cable channel, famous for
Keeping Up with the Kardashians
.
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Versus, Comcast's sports channel, broadcast hockey, auto racing, college sports, and some baseball and other games. Comcast's other properties included the Golf Channel (which reached a hundred million households) and FearNet. None of these held a candle to NBC Universal's cable holdings.

Still, it was widely believed that NBC Universal was not worth $30 billion—at most it should have cost $25–$26 billion. But Comcast wanted control and was willing to accept the broadcaster's inflated number to get it; Comcast wanted to build its stable of cable networks without paying the
whole sum for NBC Universal's properties up front. The bankers helped layer on a premium to get to $30 billion based on claims of synergies that would be created by vertical integration.
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The only issue was how to structure the payments. In exchange for about $1.4 billion down, Comcast was able to make a deal with a protected structure. Along with the cash, it contributed its own channels, which were assessed by the bankers using the same formulas used for NBC Universal's cable channels—leaving these properties possibly overvalued at $7 billion. The first half of the deal would create a content joint venture between General Electric and Comcast, with Comcast in control. The second half of the deal was left to the future: Comcast could buy out GE's interest in the joint venture using the venture's cash flow, but the amount to be paid to GE was stated at the start of the deal.
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Comcast was saddled with a binding commitment, but at the same time it was getting all the value of the upside of the venture's success—for just $1.4 billion in cash.

Analysts and some of Comcast's institutional investors quietly suggested that Roberts was making the NBC Universal deal simply to diversify his personal portfolio; if investors had wanted programming assets they could have bought stock in those companies separately. Instead, as the primary holder of Comcast's supervoting stock, Roberts had an incentive to mitigate his own personal exposure to the vagaries of the distribution marketplace—and he didn't seem to worry that regulators might place onerous conditions on the deal if they felt that Comcast would wield its market power to abuse its relationship with programming.
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Roberts had good reasons for wanting to hedge against the power of the other cable programmers. Sixty percent of the money Comcast spends each year already goes into programming, much of whose cost Comcast can pass along directly to consumers. But only so much can be passed along immediately—price hikes take time, and consumers are feeling the pinch these days. Meanwhile, programmers keep demanding more for their product. As a result, as John Malone says, “In the video area, the big issue for [cable distributors] is margin squeeze.”
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With powerful cable networks under its control Comcast would be able to run its distribution operations more cheaply (with less margin squeeze for the programs coming from NBC Universal!) and then use its programming to squeeze other distributors.
Small cable companies and satellite companies found the prospect alarming. For Comcast, it would be just a matter of hedging its bets.

In 1998, Congressman Billy Tauzin (R-La.)—who had pushed for the 1992 cable act—noted, “In 1992, we awakened to the sad realization that we had forgotten one crucial element, and that was that cable controlled programming. And that controlling programming was a way of making sure that there would be no competitors. If a competitor couldn't get the programming, it certainly wasn't going to launch the satellite or put up the antenna. Or, in fact, even build another cable system in the same community to compete with the incoming [incumbent] cable company.” In the newly converged world, Comcast had even more ways to use its control over programming—and, most important, over cable networks—to make it more expensive for potential competitors to stay in business. As upstart RCN said of Comcast, cutting off or impeding the flow of programming is “one of the most powerful ways an incumbent cable operator can kill off competition.”
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Comcast now could wield USA, Syfy and Bravo, cable news outlets CNBC and MSNBC, Universal Studios, a library of films and television shows, Telemundo, and the NBC Sports empire in support of its plans to dominate its markets. Oh, and NBC.

Even if some Americans dropped their cable subscriptions, Comcast would be able to continue raising its video prices for those who hung on. At the same time, facing little or no competition in its markets as it added many more high-speed Internet subscribers to its rolls, Comcast would be able to stave off the growth of successful long-form online video through its TV Everywhere scheme. And the much-maligned Zucker's team had served up the programming that Comcast could deploy in this rout; his cable division, run by Bonnie Hammer, was steaming ahead.

Yet Comcast would continue to point to the existence of other video distributors—telephone companies, “overbuilders” (which in any other reasonable marketplace would be called competitors), and satellite companies—as evidence that it was operating in a competitive marketplace.
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As President William Howard Taft had written of Standard Oil in the early twentieth century, “It was indeed an octopus that held the trade in its tentacles, and the few actual independent concerns that kept alive were allowed to exist by sufferance to maintain the appearance
of competition.”
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None of the other video distributors had Comcast's overwhelming advantages in wired high-speed Internet access in its markets. And none of them had Comcast's power in programming. Comcast's bundle—including, most importantly, its live sports programming—was going to win.

7

The Programming Battering Ram