Cable and telephone industries in technology standoff

March 1, 1997

Cable and telephone industries in technology standoff

Despite the Telecommunications Act, neither industry is aggressively attacking the other`s markets, thereby disappointing policy makers and avoiding fiber deployment

StePHen n. brown, mev inc.

Nearly seven years ago, Sen. Conrad Burns (R-MT), one of the few sitting senators who has maintained an abiding interest in national telecommunications policy, wrote an article titled "The Cable TV Problem-- A Procompetitive Approach." His article, which appeared in the August 16, 1990, issue of Public Utilities Fortnightly, is a useful reminder of how the early debates on national policy were shaped by a now-lost vision of an integrated door-to-door fiber-optic network. Burns wrote: "The timely deployment of fiber optics to every business, school, and home in America is essential....I propose to inject competition into the cable industry by permitting limited entry by telephone companies into the business of providing cable services and programming. My purpose is not to harm the cable industry....The issue is of far greater importance....The degree of competition in cable....will determine the rate at which fiber-optic deployment will occur in America...." Sen. Burns is probably disappointed today. There is little competition between the two industries, according to Reed Hundt, Federal Communications Commission (FCC) chairman: "We still hope that eventually cable companies and telephone companies will compete with each other in all geographical markets, but as of now, expectations for a full-front 2-wire war are not being met. ...Financial markets have concluded that telephone companies` threats to cable`s video business have almost disappeared. ...Time Warner has said it won`t be doing much telephony. TCI is shifting resources from battling telephone rivals to battling satellite video competition....For the most part...the cable and phone industries [have formed] a détente." Hundt expressed his opinion in "The Hard Road Ahead--An Agenda for the FCC," which the agency released in January.

The chairman`s language likens competition to war, as if the cable and telephone industries were avoiding direct market confrontation. Hundt`s comments suggest that neither the telephone nor the cable industry is going to compete vigorously against the other. But if they did, the financial vital signs would follow this scenario: Market share diminishes, stock prices fall, the company takes on more debt, layoffs ensue, and finally, the desperate party files for bankruptcy or is bought out by the opposition. In most industries these events would be the normal progression, but it cannot happen in telecommunications. The Telecommunications Act of 1996 generally prohibits such buyouts. Local exchange telephone companies and their affiliates cannot have more than a "10% financial interest" nor can they have "any management interest, in any cable operator providing cable service within the local exchange carrier`s telephone service area." The same restrictions apply to a cable operator. It cannot buy out a telephone company "providing telephone exchange service within such cable operator`s franchise area." Also, both industries are prohibited from joint ventures with the other. The law says "a local exchange carrier and a cable operator whose telephone service area and cable franchise area, respectively, are in the same market area may not enter into any joint venture or partnership to provide video programming directly to subscribers or to provide telecommunications services within such [a] market."

Buyout provisions

The buyout provisions were intended to maintain separation between the established carriers. However, the provisions also preclude buyouts involving new entrants into local markets. If AT&T successfully entered a local telephone market and provided local service to several hundred customers, then under the law, the company would become a local exchange carrier, which is defined as "any person that is engaged in the provision of telephone exchange service or exchange access." Thus, AT&T would be prevented from buying out a cable company that serves the same market area where AT&T provides local service. Apparently no telephone company providing local service--even one new to the local market--can buy out a cable company. Conversely, no cable company--even one new to the telephone business--can buy out a telephone company. There is one exception: The buyout provisions have a section titled "Acquisitions in Competitive Markets," which contains several conditions that, if they all apply to a proposed purchase, permit a buyout. However, the conditions are restrictive. For example, the law says "a local exchange carrier may obtain a controlling interest in or form a joint venture...with...a cable system if...[the] system is not owned by or under common ownership or control of any one of the top 50 cable system operators with the most subscribers as such operators existed on May 1, 1995." On that date, the 50 top cable systems served more than 95% of all subscribers. At most, only 5% of the cable market could be purchased by local exchange carriers operating in the same market. The FCC has the power to waive all the buyout provisions, but Hundt`s desire to see competition between the two industries indicates that the FCC would never consider a waiver.

This policy may be a serious mistake because the current lack of competition between the telephone and cable industries suggests that neither side sees the other`s customers as a prize worth the competitive effort. If the buyout provisions were softened or removed, then each industry would have more to fight for. Such a proposal would immediately be attacked as a giveaway to the local telephone companies because they are in far better financial condition than the cable industry. In the past year, 9 of the top 10 cable companies` stock prices have fallen. Those same companies serve approximately 70% of all cable subscribers. TCI has approximately 27% of all cable subscribers, and its share price dropped 34%. Time Warner has 18% of cable subscribers, and its price dropped 1%. Stock prices for Cox, Comcast, CableVision, Jones Intercable, Adelphia, and Falcon dropped 2%, 2%, 44%, 15%, 18%, and 44%, respectively. These six cable companies collectively have 25% of all subscribers. In contrast to cable`s falling stock prices, the Standard & Poor 500 Index rose 20%.

The reason for cable`s declining value is the threat of direct satellite broadcasting rather than any action by the telephone industry. The Telecommunications Act`s buyout provisions are meant to protect the cable industry from the telephone industry so that "2-wire" telecommunications competition has a chance to grow. But the act did not envision the beating that the cable business would get from satellite communications. Cable`s worsening financial health casts doubt on the buyout provisions` usefulness and suggests that Sen. Burns`s vision of a technologically advanced communications infrastructure will not be realized.

Fiber deployment slows

The lack of competition between the telephone and cable industries allows them and their respective suppliers to develop products that maintain the technological status quo. Both sides are pursuing so-called asymmetric technology that raises the bit-carrying capacity of their current physical plant and allows them to offer Internet services. Cable modems supposedly will allow Internet users to receive huge amounts of data over hybrid fiber/coaxial-cable (HFC) networks. But the return path, where data is sent back to the system, has yet to be tested in an environment where several hundred users are online simultaneously. Also, many cable systems have yet to upgrade to a hybrid network, so cable modem technology based on HFC networks may not reach a large portion of subscribers. However, other cable modems, such as those exhibited by Terayon at the Western Cable Show in Anaheim last December, do not require an HFC network. Thus, a cable company could offer Internet services without adding fiber to cable plant, even though such a modem is not as fast as those designed for HFC networks.

The telephone industry also wants to avoid fiber additions in the local loop and plans instead to invest in asymmetric digital subscriber line (adsl) technology. The technology`s advantages are specified in Motorola`s CopperGold adsl Transceiver Delivers: More, Better, Faster, a white paper written by the company. Motorola comes to the heart of the issue: "Utilizing a pair of adsl transceivers, one residing in the [telephone] company`s central office and a second one residing in a box...on the customer`s premise[s], adsl can dramatically increase the bandwidth of our telephone lines....With other technologies, such as hybrid fiber/coaxial cable, a large and costly infrastructure must be put in place before a single customer can receive service. Thus, adsl eliminates the need to estimate the take rate of a neighborhood and lay cable in anticipation of a need,...allow[ing] telephone companies to spend their capital on enhanced services and not on the `Last Mile.`" This argument is being taken seriously by the telephone industry. Four regional Bell operating companies recently agreed to purchase substantial amounts of adsl equipment from Alcatel. This technological stasis and lack of competition between the industries has to be seen as a potential failure of current policy. The situation suggests that the Telecommunications Act`s fundamental premise of "2-wire" telecommunications competition is thus far fiction, not fact. The questions for policy makers, industry, and the public are: Will the problem cure itself, and how long will it be before the legislation is reworked? q

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