First Annual Report to Congress Assessing the Status of Competition in the Market for Cable Television and Other Video Programming Services

FEDERAL COMMUNICATIONS COMMISSION

[CS Docket No. 94-48, FCC 94-235]

First Annual Report to Congress Assessing the Status of

Competition in the Market for Cable Television and Other Video

Programming Services

AGENCY: Federal Communications Commission.

ACTION: First Annual Report to Congress.

-----------------------------------------------------------------------

SUMMARY: The Commission is required under the Communications Act to

report annually to Congress on the status of competition in the market

for the delivery of video programming. On September 28, 1994, the

Commission released the first such annual report. In the report, the

Commission assessed: the definition of the market for the delivery of

video programming, including cable television services; the performance

of the cable industry since 1990; the status of existing competitors to

franchised cable systems and other actual or potential competitors;

market structure issues affecting competition (specifically, horizontal

concentration, vertical integration and technical changes in the cable

industry); and the extent of competition in, and the overall

performance of, the market. The Commission also made several

recommendations for promotion competition to cable systems.

FOR FURTHER INFORMATION CONTACT:

James W. Olson, Chief, Competition Division, Office of the General

Counsel, (202) 416-0856.

SUPPLEMENTARY INFORMATION: 1. Pursuant to Section 628(g) of the

Communications Act, 47 U.S.C. Sec. 548(g), as amended by Section 19(c)

of the Cable Television Consumer Protection and Competition Act of

1992, Pub. L. No. 102-385, 106 Stat. 1460, the Commission is required

to report annually to Congress on the status of competition in the

market for the delivery of video programming. On September 28, 1994,

the Commission released the first such annual report (the ''Report''):

Implementation of Section 19 of the Cable Television Consumer

Protection and Competition Act of 1992 (Annual Assessment of the Status

of Competition in the Market for the Delivery of Video Programming),

First Report, ______ FCC Rcd ______, FCC 94-235 (CS Docket No. 94-48

Sep. 28, 1994).

2. The full text of the Report is available for inspection and

copying during normal business hours in the FCC Reference Center (Room

239), 1919 M Street, NW., Washington, DC 20554, and may also be

purchased from the Commission's copy contractor, International

Transcription Services, Inc (ITS, Inc.''), 2100 M Street, NW., Suite

140, Washington, DC 20037, telephone number (202) 857-3805. It will

also be published in the Federal Communications Commission Record.

3. In the following paragraphs the Commission summarizes the

contents of the Report. This summary covers the following discussions

in the Report: (A) Market Definition (which is located in Section III.A

of the Report); (B) Cable Industry Performance (which is located in

Section II); (C) The Status of Existing Competitors to Cable (which is

located in Section III.B); (D) the Status of Other Actual or Potential

Competitors to Cable (which is located in Section III.C); (E)

Horizontal Concentration (which is located in Section IV.A); (F)

Vertical Integration (which is located in Section IV.B); (G) the Nature

of Technical Changes affecting Cable Systems (which is located in

Section IV.C); (H) The Extent of Competition and Assessment of Market

performance (which is located in Section V.A); and (I) Future

Considerations and Recommendations for Promoting Competition to Cable

Systems (which is located in Section V.B).

A. Market Definition

4. Congress charged the Commission with annually reporting on the

``status of competition in the market for the delivery of video

programming.''\1\ In the Commission's view, obtaining a complete

picture of the status of competition required the Commission to look

beyond multichannel video programming distributors (``MVPDs'') to other

technologies that are not explicitly included within the statutory

definition of an MVPD, but which may have constraining effects on cable

system practices. Moreover, to fulfill its statutory mandate, the

Commission believes it should also look beyond the ``effective

competition'' standard of the 1992 Cable Act, which is a bright-line

test used to determine when a particular cable system's rates may be

deregulated.\2\ Accordingly, in the Report, the Commission provided a

fuller economic analysis of the industry, rather than simply reporting

on the status of statutorily-defined ``effective competition'' in each

franchise area in the country.

---------------------------------------------------------------------------

\1\Communications Act Sec. 628(g), 47 U.S.C. 548(g).

\2\Communications Act (l)(1)(A), 47 U.S.C. 543(l)(1)(A).

---------------------------------------------------------------------------

5. Product Market. For purposes of the Report, the relevant product

market contemplated in the 1992 Cable Act--multichannel video

programming service--was the appropriate starting point for assessing

the status of competition in the market for the delivery of video

programming. A primary focus of the Report, and a central concern of

the Act, is the extent to which MVPDs that use alternative technologies

are emerging as significant competitors to cable operators. In addition

to cable operators (which include direct competitors known as

``overbuilders''), The statutory definition of MVPDs specifically

includes providers that offer television receive-only (``TVRO'')

satellite services, direct broadcast satellite (``DBS'') services, and

multichannel multipoint distribution services (MMDS'').\3\ The

Commission has subsequently determined that satellite master antenna

television (``SMATV'') systems and video dialtone (``VDT'') service

providers, which will typically offer their services through facilities

operated by local exchange carrier telephone companies (``LECs''),

should also be considered MVPDs.\4\ Consequently, the Report contained

evaluations of the status of providers utilizing each of these

technologies.

---------------------------------------------------------------------------

\3\Communications Act Sec. 602(12) 47 U.S.C. Sec. 522(12).

\4\Implementation of Sections of the 1992 Cable Act (Rate

Regulation), Report & Order, & Further Notice of Proposed Rulemaking

21-22, 8 FCC Rcd 5631, 5650-51 (MM Docket No. 92-266 1993),

summarized in 58 Fed. Reg. 29736 (May 21, 1993).

---------------------------------------------------------------------------

6. In addition, the Commission discussed other video programming

distribution media as potential substitutes for cable services. While

the statutory definition of an MVPD expressly excludes current

broadcast technology (because a broadcast station does not offer

``multiple'' channels of video programming and is not offered on a

subscription basis), the Commission nonetheless included a discussion

of broadcast television in this Report, given broadcasting's potential

constraining effect on cable industry conduct. Finally, the Commission

discussed other delivery media that arguably may have a competitive

impact in the market, including low power television, programming

distribution by electric utilities, an VCRs.

7. Geographic Market. The proper definition of the geographic

market in which cable operators compete has relevance to the assessment

of cable operators' market power (and to the administration of the

``effective competition'' standard of the 1992 Cable Act, which will be

addressed in future reports). The scope of the geographic market is

defined by the geographic area to which buyers will reasonably turn and

from which competing suppliers sell their products. Given the current

state of competitive entry, it seemed reasonable to define, at least

tentatively, the local franchise area as the geographic market relevant

to an analysis of the cable industry. However, over time, it is likely

that consumers will be able to purchase services from MVPDs offering

service from locations outside their franchise areas. For example,

wireless cable and SMATV systems may serve entire metropolitan areas. A

LEC providing VDT service may serve an entire region of the country.

Finally, DBS service providers appear to contemplate a national market.

Therefore, as competitive entry increases, the definition of the

geographic market for purposes of economic analysis may be broadened

beyond the franchise area to account for the impact of these

alternative suppliers.

B. Cable Industry Performance

1. Performance From 1990 to 1993

8. Cable Industry Output. Since the Commission last reported on the

status of competition in 1990,\5\ the cable industry has continued to

expand. The Commission found that the number of homes that could

receive cable service (``homes passed'') grew to 92.9 million in 1993

(up from 86 million in 1990), which was over 96% of all television

households in the United States. With cable services available to more

homes than ever before, the total number of households subscribing to

basic cable services has increased to 57.4 million households, which is

almost 60% of the television households in the United States (up from

51.7 million households and 55.8% of television households in 1990).

The industry's penetration (which measures the percentage of households

passed by cable that choose to subscribe to basic cable services)

increased by 2.78% since 1990 so that nearly 62% of all households that

could receive basic cable in 1993 purchased such services.

---------------------------------------------------------------------------

\5\Rate Deregulation & the Commission's Policies Relating to the

Provision of Cable Television Serv., Report on Competition, 5 FCC

Rcd 4962 (1990) (``1990 Cable Report''), summarized in 55 Fed. Reg.

32631 (Aug. 10, 1990).

---------------------------------------------------------------------------

9. Attributes of Cable Industry Service. Since 1990, average

channel capacity has noticeably increased in the industry. As a result,

by the end of 1993, nearly 97% of all subscribers for which information

is available received service from systems that could provide at least

thirty channels. Since 1990, there has also been noticeable growth in

the number of cable programming choices. The number of basic

programming networks grew by over 18%, from sixty-one at the end of

1990 to seventy-two at the end of 1993. The number of pay-per-view

networks nearly doubled, from seven in 1990, to thirteen at the end of

1993. Overall, the number of programming networks increased by over

29%, from seventy-seven at the end of 1990, to ninety-nine at the end

of 1993.

10. Cable Industry Revenue. The cable industry continued to

generate increased amounts of revenue between 1990 and 1993. It appears

that the cable industry generated $22.94 billion in total revenue in

1993, which was over 28% more than the $17.86 billion it generated in

1990. Of the 1993 amount, $13.55 billion, or over 59%, came from basic

service tier programming. Revenue from pay-per-view programming

increased 102% from $253 million to $512 million over the same time

period. Advertising revenue has become an increasingly important source

of revenue for the cable industry.

11. Cable Industry Expenditures and Earnings Before Interest,

Taxes, Depreciation, and Amortization. Cable expenditures on

programming rose by more than 25% between 1990 and 1993. In addition,

measurements of earnings before interest, taxes, depreciation, and

amortization (``EBITDA''), which people in the industry commonly refer

to as ``cash flow,'' are often used to value the economic health of

industry firms. Based on the Commission's estimates, it appears that

the industry generated cash flows of over $4.8 billion in 1987, $7.9

billion in 1990, and $10.5 billion in 1993. It also appears that the

industry had a cash flow per basic subscriber of $164.29 in 1993, which

would represent an increase of 19% for the period between 1990 and

1993. Moreover, it appears that the industry's cash flow represented

over 46% of its total revenue in 1993, which was a 4.4% increase over

1990.

12. Capital Investment. In 1990, the industry invested nearly $3.0

billion in construction. In 1991 and 1992, however, investment in

construction dropped off, to approximately $2.2 billion in each of

those years. The cable industry's construction investment rebounded in

1993, however, to almost the same level as in 1990, nearly $3.0

billion.

13. Cable System Transactions. In 1990, systems with an aggregate

value of $1.07 billion were sold, compared with the aggregate value of

$11.21 billion for systems sold in 1987. In 1993, however, the systems

sold had an aggregate value of over eight billion dollars, even though

the total number of transactions declined from 1990. The dollar value

per subscriber of systems sold increased by over five percent during

the same years, from $2049 in 1990, to $2160 in 1993.

2. Recent Developments

14. Subscriber Growth. The record in the proceeding that led to the

Report indicated that the publicly-reporting companies have experienced

continued growth in the number of basic subscribers over the first six

months of 1994.

15. Revenues. Information from cable system operators that make

financial information publicly available through the SEC indicated that

cable system revenues remained relatively steady through the first six

months of 1994. According to the most recent annual or quarterly

reports of fifteen cable system operators, ten reported increased cable

system revenues and five reported decreases. On the other hand, several

MSOs reported decreases in revenues during the first six months of

1994.

16. Capital Investment. The Commission determined that the cable

industry appears to be substantially increasing its capital investment

in infrastructure development.

17. Cable System Transactions. There has been considerable activity

in the market for cable system transactions during the first six months

of 1994. The thirty-eight transactions announced in 1994 that were

identified by the Commission have a total dollar value of nearly $10.95

billion which, if the transactions are consummated, would be

significantly greater than the $8.32 billion that changed hands in

1993. However, the average price of $2035 per subscriber and cash flow

multiple of 10.2 times cash flow are somewhat lower this year than the

1993 levels of $2160 per subscriber and 11.3 times cash flow.

C. The Status of Existing Competitors to Franchise Cable Systems

1. Overbuilders

18. The term ``overbuild'' describes the situation in which a

second cable operator enters a local market in direct competition with

an incumbent cable operator. In those markets, the second operator, or

``overbuilder,'' lays wires in the same area as the incumbent,

``overbuilding'' the incumbent's plant, thereby giving consumers a

choice between cable service providers.

19. In the Report, the Commission discussed the findings it made in

connection with its March 30, 1994 Report and Order regarding rate

regulation, when it examined the competitive differential between

markets that were overbuilt and those that were not.\6\ Under that

analysis, the Commission determined that the rates in markets that were

overbuilt were an average of sixteen percent lower than the rates in

markets that were not overbuilt.\7\ The Commission then discussed the

fact that, while most studies suggest that overbuilding produces

meaningful rate effects, overbuilding seems to have remained quite

limited, despite the 1992 Cable Act's explicit purpose to encourage the

emergence of direct competition. The Commission will track the progress

of existing overbuilds and monitor the emergence of new overbuild

construction on an on-going basis.

---------------------------------------------------------------------------

\6\Implementation of Sections of the Cable Television Consumer

Protection & Competition Act of 1992: Rate Regulation, Second Order

on Reconsideration, Fourth Report & Order, & Fifth Notice of

Proposed Rulemaking, 9 FCC Rcd 4119 (MM Docket No. 92-266 1994),

summarized in 59 Fed. Reg. 18064 (Apr. 15, 1994). Appendix C of the

order contains a detailed and technical discussion of the variables

and economic assumptions underlying the Commission's calculation.

The Commission studied 51 overbuilds (including those by municipal

providers) in connection with the order. Id. 96, 9 FCC Rcd at 4162.

\7\Id. 97, 9 FCC Rcd at 4162.

---------------------------------------------------------------------------

2. Direct-To-Home Satellite Services

20. Two distinct types of direct-to-home (``DTH'') satellite

services now offer video programming for subscription that is

comparable to the satellite-delivered programming provided by cable

television services. DBS is one. Technically, DBS service refers to

satellites that transmit signals ``intended for reception by the

general public'' and operate pursuant to Part 100 of the Commission's

Rules in a portion of the Ku-band.\8\ The second type of DTH service is

offered by the home satellite dish (HSD) industry, and involves the

home reception of signals transmitted by satellites operating generally

in the C-band.

---------------------------------------------------------------------------

\8\47 CFR 100.3.

---------------------------------------------------------------------------

a. Direct Broadcast Satellite (DBS)

21. The Commission found in the Report that DBS has advanced since

1990 as a potential long-term viable competitor to cable. In December

1993, the first high-power DBS satellite (``DBS-1''), owned by DirecTV

and operated jointly with USSB, was launched, and on June 17, 1994,

DirecTV and USSB began providing high-power DBS service via DBS-1. On

August 3, 1994, DBS-2, also owned by DirecTV, was launched. As of

September 9, 1994, equipment necessary to receive service from DirecTV,

and USSB was available in twenty-three states, approximately 40,000

households were receiving programming through small reception dishes

that are approximately eighteen inches in diameter. Retailers in the

first five markets in which that DBS service has been introduced have

reported that the demand for the dishes has exceeded the supply. In

addition to that high-power DBS service, Primestar Partners, L.P.

(``Primestar''), has been operational as a medium-power Ku-band service

provider since 1991, and its service is available to consumers using

thirty-six-inch and forty-inch dishes. As of June 4, 1994, Primestar

served 70,383 subscribers, and it began to use digital technology to

provide service to its subscribers on July 31, 1994.

22. The Commission reported that, by its very nature, DBS is a

national video programming distribution service. However, DBS services

does not offer local broadcast signals, a fact which may inhibit the

ability of DBS service to become an effective competitor to cable

service. On the other hand, DBS service might provide consumers with

service attributes that are not generally available on cable systems at

this time.

b. Home Satellite Dishes (HSDs)

23. The Commission noted in the Report that HSD technology was

first developed in 1976, and commercialized in 1989. HSDs are

approximately 7-10 feet in diameter and receive video programming

transmitted in the C-band of frequencies.\9\ Generally, HSD owners have

access to the same programming services that are available on cable,

although the most popular cable programming services are scrambled. In

order to receive one or more scrambled channels, an HSD owner must

purchase an integrated receiver-decoder (``IRD'') from an equipment

dealer and then pay a monthly or annual subscription fee to one of the

thirty or so national packagers of HSD programming.

---------------------------------------------------------------------------

\9\Because signals in this band are transmitted at lower power

than signals in other bands used for direct-to-home service, the

receiving antenna must be larger to receive the signal.

---------------------------------------------------------------------------

24. Today, there are approximately four million HSD users, roughly

half of whom subscribe to one or more programming services. It has also

been reported that almost all recent buyers of HSD systems are choosing

to subscribe to a programming service. It appears that 61% of HSD

systems were purchased by persons who did not have access to cable at

the time they purchased HSD. However, 37% of HSD owners with access to

cable subscribe to cable services, and 18% of HSD owners who subscribe

to satellite-programming packages also subscribe to cable. Among HSD

owners who subscribe to both cable and one or more satellite-

programming packages, 41% subscribe to cable for the purpose of

receiving local television stations. Accordingly, it appears that HSDs

and cable systems may be either complementary video programming

distribution services or substitutes for each other, depending on

viewer preferences and other circumstances.

25. The HSD industry's primary competitive strength vis-a-vis cable

is programming variety and flexibility. Although HSD services offer

more programming options than any other video delivery system, the cost

of a system entails a large upfront expenditure by the consumer.

Another drawback for HSD services comes from the fact that many

localities have enacted zoning ordinances that restrict the deployment

of HSDs. A third factor that may affect the ability of HSD systems to

compete with cable systems is presented by claims video programming

suppliers charge HSD program packagers prices that cannot be justified

under the Commission's program access rules.

3. Terrestrial ``Wireless'' Cable--Multichannel Multipoint Distribution

Service (MMDS)

26. The term ``wireless cable'' refers to the Multipoint

Distribution Service (``MDS'') and MMDS (Multichannel Multipoint

Distribution Service), both of which transmit video programming using

over-the-air microwave radio channels. Subscribers use rooftop antennas

to receive the programming transmitted from the wireless cable tower.

The signals received are then sent through electronics equipment to the

subscriber's television set. There are eleven MMDS (multichannel)

channels available to wireless cable system operators for full-time

use, and either two or three MDS (single-channel) channels depending on

the particular city. In addition, wireless cable system operators have

access to the twenty channels allocated to Instructional Television

Fixed Service (``ITFS'')\10\ on a leased, part-time basis. Thus,

wireless cable operators have access to a maximum of thirty-two or

thirty-three channels.

---------------------------------------------------------------------------

\10\ITFS channels are used by educational institutions to

interconnect scattered campus locations.

---------------------------------------------------------------------------

27. In the Report, the Commission noted that the wireless cable

industry increased its subscribership from 50 systems serving 300,000

subscribers in 1990, to 143 systems serving 550,000 subscribers by June

1994. In addition, the Commission discussed projections that the number

of wireless cable subscribers will grow through the end of the decade,

and concluded that, although wireless cable has not achieved

significant penetration nationwide, there are a number of markets in

which wireless cable has gained a foothold in competition with wired

cable systems.

28. In the Report, the Commission wrote that the wireless cable

industry has a number of strengths vis-a-vis cable. First, wireless

cable system operators appear to incur lower costs for the initial

construction of their systems, which allows wireless operators to

provide comparable service at lower prices than cable. Second, it

appears wireless operators may be able to upgrade their systems to

employ digital compression and interactive applications at a lower cost

per subscriber than cable system operators. Third, in contrast to cable

system operators, wireless cable operators are not required to obtain

franchises in order to provide service. However, at least one state now

regulates various aspects of the customer service provided by wireless

cable operators and other MVPDs.

29. The Commission noted, however, that there appear to be several

remaining obstacles that could hamper the growth of wireless cable.

First, wireless cable operators have difficulty in gaining access to a

sufficient number of channels to provide a competitive service. Second,

wireless cable transmitters must have line-of-sight access to a home in

order for that home to be capable of receiving wireless cable service.

Consequently, many homes are unable to receive service from this

technology because they are blocked by trees or buildings.

30. Overall, the Commission concluded that it appears that two of

the wireless cable industry's most significant problems, lack of

capital and insufficient channel capacity, are being addressed. First,

the program access provisions of the 1992 Cable Act appear to have

given wireless operators the credibility to raise money in the public

debt and equity markets, thereby easing the financial difficulties

experienced by many wireless systems. Second, the combination of

improved Commission licensing and the use of digital compression is

expected to alleviate wireless cable's problem with limited channel

capacity in the near future. The progress in these two areas has led

some analysts to forecast continued growth for this industry.

4. Satellite Master Antenna Television (SMATV) Systems

31. SMATV system operators (also known as ``private cable

systems'') are MVPDs that serve residential, multiple-dwelling units

(``MDUs''), and various other buildings and complexes. A SMATV system

offers, in general, the same type of programming as a cable system, and

the operation of a SMATV system, in large part, resembles that of a

cable system--a satellite dish receives the programming signals,

equipment processes the signals, and wires distribute the programming

to individual dwelling units. The primary difference between the two is

that SMATV systems typically are unfranchised, stand-alone systems that

serve a single building or complex, or a small number of buildings or

complexes in relatively close proximity to each other. However, SMATV

operators are increasingly using microwave facilities to interconnect

properties spread over a metropolitan area.

32. The Commission noted in the Report that one industry source

estimates that there are currently approximately 3000 to 4000 SMATV

systems operating nationwide serving approximately one million

subscribers. SMATV operators may have the ability to offer lower prices

than can wired cable operators for substantially the same services. On

the other hand, the Commission noted that regulatory barriers,

including the circumstances under which SMATV systems may be required

to obtain franchises, may artificially raise the cost of operating

SMATV systems. Moreover, SMATV operators contended in the proceeding

that the Commission's cable home wiring rules permit cable operators to

engage in conduct that has a chilling effect on competition. Those

rules, require, inter alia, that cable operators provide subscribers

with the opportunity to acquire cable home wiring before the cable

operator removes it from the premises after termination of service.\11\

The Commission concluded by stating that it will address home wiring

issues when it rules on the petitions for reconsideration that are now

pending.

---------------------------------------------------------------------------

\11\47 C.F.R. Sec. 76.802. The purpose of the cable home wiring

rules is to avoid the disruption from having the wire removed after

service is terminated and to allow subscribers to utilize the wires

with competing MVPDs, thereby facilitating competition from these

entities. Implementation of the 1992 Cable Act, Cable Home Wiring,

Report & Order, 8 FCC Rcd 1435 (1993), summarized in 58 Fed. Reg.

11970 (Mar. 2, 1993), recon. pending., MM Docket No. 92-260. The

Commission currently has before it a petition to initiate a

rulemaking to determine how cable subscribers may have access to

existing cable home wiring for the delivery of competing and

complementary services. Joint Petition for Rulemaking on Cable

Television Wiring, Public Notice, 8 FCC Rcd 8184 (1993).

---------------------------------------------------------------------------

5. Broadcast Television Service

33. Broadcast television stations are, and always have been,

significant suppliers in the market for delivered video programming. In

the Report the Commission noted that during the 1993-94 season, ABC,

CBS, NBC and Fox maintained a combined 72% share of prime-time viewers.

Even among those households subscribing to cable, retransmitted

broadcast channels had a 46% prime time viewing share in the 1992-93

season, while retransmitted independent broadcast and public television

stations maintained 17% and 3% shares respectively. Therefore, two-

thirds of all cable households watching television delivered by cable

in the 1992-93 season were watching a retransmitted broadcast channel.

Moreover, more than one-third of all households that could subscribe to

cable service elected not to do so. Accordingly, the Commission wrote

that it would appear that for at least some viewers, broadcast

television service satisfies their demand for video programming.

34. The Commission found, however, that cable systems offer a

``steadily-expanding complement of specialized program services,''

which can increasingly meet consumer demand for more video programming

choices.\12\ Accordingly, the Commission determined that the menu of

available broadcast signals is insufficient to constrain cable market

power.

---------------------------------------------------------------------------

\12\1990 Cable Report  69, 5 FCC Rcd at 4971-72.

---------------------------------------------------------------------------

D. The Status of Other Actual or Potential Competitors

1. Local Exchange Carrier (LEC) Entry

35. Since 1990, the Commission has adopted orders easing the

regulatory restrictions that had essentially prevented LECs from

participating in the multichannel video marketplace. The Commission

discussed in the Report the ``video dialtone'' (``VDT'') framework that

it created for LEC participation in the multichannel video distribution

marketplace consistent with the statutory prohibition against LECs'

provisions of video programming directly to subscribers within their

service areas.\13\ That VDT framework, along with technological

advances, has spurred increased video-related activity by LECs,

including several market and technical trails and twenty-four

applications for permanent authority covering over 8.5 million homes.

Those applications, taken together, constitute a promising source of

competition to cable operators for the multichannel distribution of

video programming.

---------------------------------------------------------------------------

\13\Communications Act Sec. 613(b), 47 U.S.C. Sec. 533(b), See

also 47 C.F.R. Secs. 63.54, 63.58 (1990); United States v. AT&T 552

F. Supp. 131 (D.C.C. 1982), aff'd sub nom. Maryland v. United States

460 U.S. 1001 (1983).

---------------------------------------------------------------------------

36. In the Report, the Commission discussed how the VDT regulatory

framework adopted by the Commission in 1992 permits a LEC to make

available, on a non-discriminatory common carrier basis, a platform

capable of providing non-discriminatory access to multiple video

programmers and of delivery video programming and other services to end

users within its local telephone service area. The LEC may also provide

additional enhanced and non-common carrier services to customers of the

common carrier platform. Neither a LEC offering VDT service, nor its

programmer-customers, is required to obtain a local cable television

franchise.\14\ Authorization pursuant to Section 214 of the

Communications Act\15\ (``Section 214 authorization'') is required for

LEC provision of VDT service, and the Commission has established

safeguards to prevent discrimination and cross-subsidization.

---------------------------------------------------------------------------

\14\The Commission's decision that neither LECs nor their

programmer-customers are required to obtain a local franchise in

order to provide video programming to end-users was recently

affirmed by the D.C. Circuit. National Cable Television Assoc. v.

FCC, 33 F.3d 66, (D.C. Cir. 1994).

\15\47 U.S.C. Sec. 214.

---------------------------------------------------------------------------

37. In addition to regulatory and legal constraints, the Commission

wrote that technology has also played a role in restraining the entry

of LECs into the multichannel video programming distribution

marketplace. While an infrastructure owned by telephone companies

currently exists for delivery of narrowband voice communications to

most homes and businesses in the nation, that infrastructure is unable

to transport and deliver multichannel video programming to multiple end

users. Various techniques, technologies and architectures for

delivering broadband video signals are currently being tested.

38. Finally, the Commission discussed the fact that a number of

issues remain unresolved with respect to the participation of LECs in

the delivery of video programming. At the time of the release of the

Report, the regulatory framework for permitting LECs to construct and

operate a common carrier VDT platform for the transmission of video

programming and other services to end-users was under review by the

Commission.\16\ Moreover, the VDT industry is in its planning and

construction phases. In future reports, the Commission will further

review the development of LEC provision of video programming and its

status as a competitive alternative to cable.

---------------------------------------------------------------------------

\16\The Commission has subsequently released an order on

reconsideration, in which it affirmed the VDT regulatory framework

in most respects, and issued a further notice of proposed rulemaking

on certain issues. Telephone Company-Cable Television Cross-

Ownership Rules, Sections 63.54-63.58, FCC 94-269 (CC Docket No. 87-

266 Nov. 7, 1994).

---------------------------------------------------------------------------

2. Local Multipoint Distribution Service (LMDS)

39. LMDS is a new technology, similar to MMDS, in which multiple

channels of video programming are transmitted using high-frequency

microwave channels in the 28 GHz band. Like MMDS, LMDS subscribers must

have a special antenna that is located with a line of sight to the

transmitter. Because of the propagation characteristics in this

frequency band, LMDS requires multiple transmitters in ``cells'' with

radii of three to six miles in order to cover a metropolitan area that

could be covered by a single wireless cable transmitter.

40. Because the Commission has not yet determined whether the 28

GHz band will be designated for use by LMDS operators, the Commission

determined that it was premature to draw any conclusions in the Report

regarding the feasibility of LMDS. If the Commission ultimately

concludes that LMDS is to be licensed in the 28 GHz band, LMDS will be

included in future reports to Congress.

3. Low Power Television (LPTV)

41. Low power television (``LPTV'') refers to use of the VHF and

UHF spectra pursuant to the regulatory scheme that was established by

the Commission in 1982 as a means of increasing diversity in television

programming and station ownership.\17\ Although this service has been

highly successful in meeting that objective, there is now interest in

using LPTV channels to provide multichannel video service.

---------------------------------------------------------------------------

\17\An inquiry into the Future Role of Low Power Television

Broadcasting & Television Translators in the Nat'l

Telecommunications Sys., 51 RR2d 476 (1982).

---------------------------------------------------------------------------

42. The Commission wrote in the Report that, while multichannel

LPTV services may eventually become available in many areas, an

application freeze on new LPTV stations within 100 miles of the thirty-

six largest United States cities, which was entered to preserve

spectrum availability for the implementation of advanced television

systems, suggests that multichannel LPTV entry will likely be limited

to smaller and mid-sized markets. In addition, it is unclear whether

multichannel LPTV will enter the market as a competitor to cable, or as

a substitute to cable service in largely uncabled areas.

4. Electric Utilities

43. The Commission also discussed the fact that electric utility

companies may provide another potential source for the delivery of

video programming. Some municipal electric utility companies are

actively engaged in overbuilding privately-owned cable systems, or are

presently contemplating such overbuilding. As is the case with LEC

provision of VDT services, the need for appropriate safeguards to avoid

cross-subsidization between regulated and video distribution businesses

in an issue associated with entry by electric utility companies.

5. Video Cassette Recorders (VCRs)

44. VCRs (video cassette recorders) are not ``multichannel video

programming distributors.'' However, widespread ownership of VCRs

allows many viewers to see over-the-air programs at times other than

when they are broadcast, and also permits those viewers to choose pre-

recorded tapes on a variety of subjects, giving them more control over

both the programming they watch and the time they watch it.

45. In the Report, the Commission found that VCRs have become more

prevalent since the 1990 Cable Report was released. It appears that by

the end of 1993, there were approximately 80.5 million households with

VCRs, which compares to approximately 57 million cable households in

1990. Although those 80.5 million households with VCRs would account

for nearly 84% of all television households in the United States, the

Commission noted that a study conducted by the Commission following its

release of the 1990 Cable Report found that VCRs are more properly

categorized as competitors of premium or pay-per-view cable

programming, rather than of cable services generally.\18\

---------------------------------------------------------------------------

\18\See Florence Setzer & Jonathan Levy, Broadcast Television in

a Multichannel Marketplace 108 (Federal Communications Commission,

Office of Plans and Policy, OPP Working Paper Series, June 1991).

---------------------------------------------------------------------------

E. Horizontal Concentration in the Cable Industry

46. The Commission determined that there has been a moderate

increase in the horizontal concentration of the cable industry on the

national level since the issuance of the 1990 Cable Report, as measured

by the Herfindahl-Hirschman Index (``HHI''), which is a standard

measure of horizontal concentration.\19\ At the end of the first

quarter of this year, the HHI for the industry is 898, which is a

number that is typically associated with an ``unconcentrated'' market,

although it does represent a modest increase in concentration since

1990. However, the Commission then discussed the fact that, by the

middle of September 1994, four transactions had been announced that

would significantly alter the shares of the market attributable to the

top ten companies. The Commission determined that, if those four

transactions are consummated, the HHI will rise to approximately 1051.

Standard antitrust analysis considers a market with an HHI between 1000

and 1800 to be ``moderately concentrated.''\20\

---------------------------------------------------------------------------

\19\The HHI is calculated by summing the squares of the firms'

percentage shares of the market. United States Dep't of Justice &

Federal Trade Comm'n, 1992 Horizontal Merger Guidelines

(``Horizontal Merger Guidelines'') 1.5, 57 Fed. Reg. 41552, 41557.

\20\Id. 1.51, 57 Fed. Reg. at 41558.

---------------------------------------------------------------------------

47. The Commission discussed the fact that the persistence of high

concentration at the local level (i.e., one cable system per community)

tends to impair market performance. In addition, Congress and the

Commission have noted that greater national concentration may have both

adverse and pro-competitive effects. Concentration in regional, or

locally clustered, marketing areas may also be pro-competitive or anti-

competitive. Such clustering may result in significant efficiencies, or

it may reflect the desire of cable operators to enter the telephone

business or position themselves to compete against LECs that are

themselves regionally clustered and poised to enter the market for the

distribution of multichannel video programming. On the other hand, the

Commission found that there are competitive risks associated with

increased regional clustering of commonly-owned cable systems. The

creation of large, contiguous clusters of commonly-owned systems may

result in the removal of cable systems that are not affiliated with

large MSOs from significant regions of the country, and thereby,

increase the market power of clustered systems by decreasing the

likelihood of entry by overbuilders.

F. Vertical Integration in the Cable Industry

48. The Commission found in the Report that, while the number of

vertically-integrated national programming services has grown

substantially since 1990, so too has the overall number of programming

services available for distribution. Consequently, approximately 53% of

programming services are integrated with cable system operators today,

compared with 50% in 1990.

49. The Commission noted that vertically-integrated national

programming services dominate the group of services that are most

widely viewed. Twelve of the top fifteen most-watched services,

according to prime-time rankings, are vertically integrated, an

increase from ten in 1990. Moreover, cable operators have interests in

fifteen of the top twenty-five services, an increase from thirteen in

1990. The Commission wrote, however, that it is too early to determine,

whether vertically-integrated services that have been introduced since

1990 will be more successful than their non-integrated counterparts.

50. Currently, there are fifty-six vertically-integrated

programming services. They are owned, in whole or in part, by only

twenty MSOs. Nine of the ten largest MSOs have attributable ownership

interests under the program access rules in one or more of these fifty-

six programming services. The four largest MSOs have partial ownership

interests in seven of the fifteen most popular services and in nine of

the top twenty-five.

51. In contrast to the ``substantial evidence of specific problems

concerning program access'' that were noted in the 1990 Cable

Report,\21\ the Commission noted that the commenters in this proceeding

have not complained about widespread unavailability of programming to

distributors competing with cable operators. From November 1993, when

the program access and carriage agreement regulations took effect,

through June 30, 1994, only twelve program access cases were filed;

eleven have since been resolved.\22\ Accordingly, the Commission

determined that its enforcement of the program access provisions

appears to be meeting one of the goals of Section 19 of the 1992 Cable

Act--ensuring access by competing MVPDs to satellite cable programming

from vertically-integrated programming services.

---------------------------------------------------------------------------

\21\1990 Cable Report 113, 5 FCC Rcd at 5021.

\22\A brief description of the resolved cases appears in

Appendix F of the Report.

---------------------------------------------------------------------------

52. The Commission also noted that it has not received any

complaints alleging violations of its channel occupancy rules or

petitions requesting that the restrictions be waived. That silence, ten

months after the rules took effect, is a strong indication that there

are no significant violations of the rules and that the rules are not

unduly restricting the ability of vertically-integrated MSOs to deliver

programming to their customers. However, the Commission did not have a

sufficient record to determine whether cable systems exclude affiliated

programming services because of the rules. Nor was there a sufficient

record to address whether the channel occupancy limits have influenced

investment of cable MSOs in programming, or whether unaffiliated

programming vendors have benefitted from the limits.

G. The Nature of Technical Changes Affecting Cable Systems

53. The Commission noted in the Report that telecommunications

technologies, including those used in the distribution of video

programming, are evolving rapidly. For example, technologies used to

transmit voice, video and data are crossing the boundaries that have

traditionally separated information distributors. Moreover, the cable

industry and competing information distributors are in the midst of

deploying new and improved transmission systems; and they are

projecting the near-term introduction of new and innovative services

that are presently unavailable to consumers, or are only available on

an experimental basis. The Commission determined that those changes

have the potential to exert a major influence on industry structure,

and will affect the sustainability of competition with incumbent cable

systems from MVPDs that use technologies other than cable.

54. The Commission found, however, that it was too soon to draw any

conclusions regarding the ongoing dynamics of technological change that

permeate the telecommunications industry today. Nevertheless,

significant issues that may have a dramatic effect on how competition

develops in the delivered multichannel video programming industry are

coming into focus. The Commission's ongoing review of such issues will

be essential to the formulation of public policies for video

distribution markets that will provide consumers with early access to

the remarkable advantages that such technologies seem to promise.

H. The Extent of Competition and Assessment of Market Performance

55. The Commission found in the Report that cable television

remains the dominant medium for providing consumers with multichannel

video programming. Most local markets for the distribution of

multichannel video programming are highly concentrated, and for most

consumers, cable television is the only provider of multichannel video

programming. There are presently only a few scattered areas of the

country where the local cable operator faces direct competition from an

overbuilder. Moreover, providers using alternative technologies have

not yet reached the subscribership levels necessary for the Commission

to find the existence of vigorous rivalry in the market for

multichannel video distribution.

56. Overall, the Commission reported that the current market

performance in the multichannel video programming distribution

industry, when assessed in terms of several indicators of economic

efficiency, is mixed. While the industry is responsive to growth in

consumer demand, the output is supplied to consumers at prices that

often imply substantial losses in economic efficiency. The industry

continues to invest in the deployment of improved video distribution

facilities, which should offer the consumer expanded video programming

options. The industry also invests in research and development, which

should improve the capabilities and performance of local cable networks

and services in the future. The willingness of new entrants to invest

substantial resources in competition with the incumbent cable systems

suggests, however, that there exist further opportunities for improved

market performance.

57. The Commission also reported that, in the longer term,

increased rivalry in the market for delivered multichannel video

programming should result in lower prices relative to present cable

rates, and in a substantially broadened array of programming options

for increasingly specialized audiences. In addition, consumers should

receive more pricing options. Such rivalry may also be expected to

provide a stimulus to more rapid development of new technologies and

product innovation. At present, however, the Commission found that

market performance in local cable markets does not yet reflect the

benefits of this competitive rivalry. Therefore, lowering barriers to

entry is likely to lead to significant gains in consumer welfare.

58. The commission noted that the cost of constructing a cable

distribution network may be viewed as a sunk cost, i.e., an operator's

investment in its cable plant cannot typically be physically redeployed

to some other profitable use of operation of the system were to become

unprofitable.\23\ The existence of those sunk costs creates strong

incentives for the incumbent cable operator to engage in strategic

behavior designed to protect that investment. While such behavior may

take the form of vigorous competition, which enhances consumer welfare,

cable operators also have the incentive to engage in strategic behavior

designed to deter entry by potential rivals.

---------------------------------------------------------------------------

\23\The concept and economic significance of sunk costs are

discussed in Appendix H of the Report.

---------------------------------------------------------------------------

59. The record in the proceeding also contained evidence that

federal statutory schemes prevent competitive entry altogether, or may

prevent the most efficient form of entry. Various state laws were also

identified as possible impediments to competitive entry. For example, a

recently enacted California statute allows municipalities to require

video programming distributors to undertake various actions in cities

in which they offer video programming. Similarly, despite limited

preemption by the Commission, local zoning regulations may inhibit

competition from direct-to-home programming distributors by preventing

home users from installing HSDs and smaller DBS dishes.

60. The creation of technological bottlenecks in the

telecommunications industry has long been of great concern to the

Commission. The record in the proceeding reflected a variety of

potential bottlenecks, some as old as the industry itself, and others

related to emerging technological developments. In particular, the

Commission noted that concerns have recently reemerged with respect to

utility poles as a potential bottleneck where cable operators

themselves might be suffering competitive harm.\24\ The Commission

determined that pole attachment is an area that could affect the status

of competition in the delivered video programming market and may merit

Commission attention in the future.\25\

---------------------------------------------------------------------------

\24\See, e.g., Selkirk Communications, Inc. v. Florida Power &

Light Co., 8 FCC Rcd 387 (1993); Heritage Cablevision Assocs. v.

Texas Elec. Co., 8 FCC Rcd 373, appeal denied sub nom., Tex. Elec.

Co. v. FCC, 997 F.2d 925 (D.C. Cir. 1993).

\25\The Commission did not seek or receive public comment on the

issue of pole attachments in this proceeding. Accordingly, the

Report did not contain any conclusions concerning the status of this

issue or the need for Commission or congressional action.

---------------------------------------------------------------------------

61. The Commission noted that MSOs are currently investing in

digital compression and encryption technologies, which could impact the

manner in which ``raw'' video programming is distributed via satellite

nationally, and possibly create a technological bottleneck to competing

distribution media. Finally, the Commission wrote that, as the cable

industry converts to digital technology and two-way communications,

issues concerning network architecture, standardization, and access may

become important competitive issues as they have in the telephone

industry. While the Report provided no analysis of the potential

significance of such issues at this time, it is likely that such issues

will require attention in future reports.

H. Future Considerations and Recommendations for Promoting Competition

to Cable Systems

62. While the Commission believes that several specific reforms

mentioned in the Report might improve market performance, most of the

competitive issues raised in the Report will require ongoing monitoring

as a more dynamic and competitive environment develops in this market.

In the coming year, Commission staff will endeavor to find a mechanism

to collect, interpret and monitor the growth of alternative

distribution media so future reports will be able to provide a more

complete picture of the status of competition at both the local and

national levels. Because this market is dynamic and evolving, the

Commission anticipates that, to a certain extent, this series of

reports will be a work in progress in which certain parts are

continually updated and revised.

63. Consistent with the requirement that the Commission annually

report to Congress on the status of competition, future reports will be

submitted to Congress by November 15 of each subsequent year.

Federal Communications Commission.

William F. Caton,

Acting Secretary.

[FR Doc. 94-30832 Filed 12-14-94; 8:45 am]

BILLING CODE 6712-01-M