Cable is King

Corporate Research E-Letter No. 44, February 2004


by Philip Mattera

When it was revealed recently that Walt Disney Co. was involved in a merger with a firm called Comcast, many people were surprised to learn that the House of Mickey was the prey rather than the predator. Disney, after all, is one of the most famous names in Hollywood, and it was less than a decade ago that the company took over the ABC television network. Comcast, on the other hand, got its start when a belt salesman from Philadelphia bought a tiny cable operation in Tupelo, Mississippi.

Anyone who has not been closely following the cable television business in recent years may be forgiven for not knowing that Comcast has become an industry powerhouse. Thanks to a series of aggressive acquisitions, Comcast is now the largest cable operator, with more than 21 million customers in 41 states.

If successful, Comcast’s $50 billion-plus bid for Disney would open a new chapter in the ongoing concentration of ownership in America’s media and entertainment industries by creating a company with $45 billion in revenues and 179,000 employees. It would not be the first time that large content and distribution operations were under the same roof—Time Warner pioneered that combination long ago—but it would be the first time that a major television network as well as a major film studio came under the control of a cable television operator. The combined company would be larger than any of the other media giants, including Time Warner, Viacom and News Corporation.

Some analysts are saying that ABC, which is trailing in the network ratings derby, is hardly the most appealing portion of the Disney package. Disney’s cable sports channel, ESPN, apparently is considered a much bigger prize, alongside the film studio and theme parks. Broadcast networks have been losing ground to cable for many years. A Comcast takeover of Disney would symbolize the triumph of wires over airwaves.


Cable television, originally known as community antenna television, started out as a technique for delivering broadcast signals to areas that could not be reached by regular transmissions. A powerful antenna would receive the signal and relay it to households via a coaxial cable. The first community antenna was erected in 1949 to allow a group of residents in Astoria, Oregon, to pick up weak TV signals from Seattle. The first cable television company was formed the following year in Lansford, Pennsylvania.

During the 1950s and 1960s, cable remained an all but insignificant element of the television business. The Federal Communications Commission approached the issue of cable regulation gingerly, given that the business did not involve broadcasting and was not conducted across state lines. In the absence of FCC rules, local authorities asserted jurisdiction over cable, demanding that operators obtain franchises.

This arrangement gave cable companies monopoly status and encouraged a fair amount of corruption behind the scenes. The existence of shady practices became a public fact in 1971, when Irving Kahn of Teleprompter, a leading promoter of cable, was convicted of bribing local officials in Johnstown, Pennsylvania to obtain a franchise.

The vitality of the cable business began to improve in the 1970s, thanks in significant part to the appearance of Home Box Office and other pay services that provided uncut movies, sporting events, and other features not available on broadcast stations. By the late 1970s, the once sleepy cable industry was one of the hottest businesses around. As companies rushed to wire the more attractive communities (mainly wealthier urban and suburban areas) they faced pressure to make generous service commitments, including systems with 100 or more channels and interactive capabilities.


The industry, of course, hoped that the costs associated with the new services would be financed by its customers in the form of higher monthly payments. Congress cooperated with the passage of the Cable Communications Policy Act of 1984, which decreed an end to most cable rate regulation beginning in 1987.

The lifting of controls led to a rapid acceleration of subscription fees. A 1989 report by the General Accounting Office found that rates were increasing by about 15 percent a year, far in excess of inflation. For the cable industry this was a financial boon. Profits margins increased, and the value of cable systems soared.

While the industry was enjoying its prosperity, a backlash was in the making. The escalation of subscription rates elicited a large volume of protests, which came to the attention of politicians such as Senator Albert Gore, Jr. of Tennessee. Citing huge increases--100 percent or more--in cable rates in various communities of his state, Gore led a campaign to reregulate what he called the "cable Cosa Nostra." In 1992 Congress passed a bill restoring rate regulation and overturned President Bush's veto of the measure, which also gave broadcasters the right to charge cable systems for carrying their signals. The FCC responded by ordering more than $1 billion in rate rollbacks.


Meanwhile, the big cable operators kept getting bigger. Time Warner spent some $8 billion on a series of cable system acquisitions. Comcast went on its own shopping spree, buying the cable operations of Maclean Hunter and E.W. Scripps Co. Concentration was also the order of the day among the broadcasters and content providers. In 1995 Walt Disney Co. announced its plans to acquire the ABC television network and its parent Capital Cities, Westinghouse Electric agreed to buy CBS (later taken over by Viacom), and Time Warner moved to take over Turner Broadcasting.

Cable operators began facing competitive pressures on their own turf. Telephone companies, no longer satisfied with just providing dial tones, expressed a desire to carry video signals into America's homes. AT&T and several of its Baby Bell offspring began developing systems for providing wide-ranging TV and information services over fiber-optic phone lines. The cable companies fought back against what became known as the video dial tone by vowing to enter the telephone business. The FCC encouraged the free-for-all by deciding in 1992 to allow cable and phone companies to enter one another's markets. By the mid-1990s, both industries were promising to deliver a wide array of new digital services, including interactive TV and high-speed internet, to America’s households

Acting on the assumption that cable operators needed more flexibility to engage in what was supposed to be an exciting new world of competition, Congress freed the industry from most rate regulation as part of the Telecommunications Act of 1996. This was the same law that relaxed broadcasting ownership limits. Shortly after the law was announced, US West, one of the Baby Bells, announced plans to acquire Continental Cablevision, which was tied with Comcast for third place in the cable industry, trailing Tele-Communications Inc. (TCI) and Time Warner. Microsoft joined the digital TV gold rush in 1997 by investing $1 billion in Comcast. In two bold moves that sought to dominate the emerging world of digital communications, AT&T spent a total of nearly $100 billion to purchase TCI  and MediaOne Group, the name taken by US West’s cable operations, which included a 25 percent interest in Time Warner’s cable operations. In 2000, all of Time Warner was taken over by America Online.

When AT&T decided not long thereafter to spin off its cable operations, Comcast swooped in with an offer worth about $47 billion to gain the leadership position of the industry. When the proposed acquisition was announced in December 2001, the Wall Street Journal published a story headlined: Comcast Deal Cements Rise of an Oligopoly in the Cable Business. The article said that the dream of vibrant competition envisioned by the 1996 communications law was “going down the tubes.” In addition to gobbling up its cable competitors, Comcast was well situated to overtake the Baby Bells in providing broadband internet service and interactive television. It was also well-positioned to respond to the challenge from satellite providers such as DirecTV, now owned by News Corp.


Even before making its move on Disney, Comcast was making waves in the media world. Soon after the completion of the AT&T deal, it began pressuring cable channels to reduce the license fees they charged Comcast to carry their programming. Business Week wrote that “a bulked-up Comcast is shifting the balance of power” in its dealings with the likes of HBO and USA Network. Comcast filed a lawsuit to pressure Liberty Media to agree to a reduction (reportedly in excess of $100 million) in what it charged the cable company to carry its Starz Encore premium channels.

Comcast’s aggressive approach to pricing has also been seen in its dealings with cable subscribers. The company has a long history of being accused of overcharging customers and of engaging in other deceptive practices. It has also elicited a substantial volume of complaints about poor service. For example, in 2002 Comcast agreed to spend more than $4 million (in the form of cash refunds, free pay-per-view coupons and other benefits) to settle a longstanding dispute with city officials in Detroit about the quality of its service.

A takeover of Disney may not have a direct effect on cable rates or increase Comcast’s bargaining power with cable programmers, though ABC’s affiliates must certainly be worrying about what the future holds in store for them.

In a broader sense, the emergence of another media giant that exercises vast control over programming as well as distribution cannot bode well for rate stability, content diversity and public access.