CONSUMER STRATEGIES REPORT May 27 2003

al berrios & co. CONSUMER STRATEGIES REPORT 05.27.03: Do We Want Big Media or Not? The FCC Examined

QUOTATION OF THE WEEK
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"Sometimes when we see very pointed political or parochial programming, it gets attacked as unfair. I see some of the same people who claim they want diversity go crazy when Rush Limbaugh exists. They love diversity, but somehow we should run Howard Stern off the planet. If it has a point of view, then it becomes accused of bias, and then we have policies like the fairness doctrine, which seems to me like the antithesis of what I thought those people cared about. So when somebody is pointed and opinionated, we do all this stuff in the name of journalistic fairness and integrity or whatever, to make them balance it out." - Chairman Michael Powell in an interview of New Yorker reporter Nicholas Lemann

A busy week, indeed. No, not because I attended all of the upfront shows, but instead, went to a satellite conference and a wireless conference, where I had the opportunity to hear two FCC commissioners speak, had various conversations with industry experts, and finally, did some of my own research to bring to you my analysis of Washington policy on media. (It's about time, right?)

I also attended Beverage Forum, undoubtedly, one of the best places to learn about the business of beverages. My coverage below.

[2] MANAGEMENT
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Do We Want Big Media or Not? The FCC Examined.

If you care little for government, the Federal Communications Commission should be where your small interest should be directed, since it is the FCC that dictates the choices and rates you pay for wireless and wireline telephone service, cable, satellite, and broadcast television, radio programming, newspapers, and internet. The FCC is also tackling spam advertising, via telemarketing and email, and is also charged with making sure the economy runs smoothly by enforcing its rules on everyone who lives in the U.S. Indeed, a truly diabolical institution for you first amendment buffs, or is it?

This is the world of the Federal Communications Commission, a government body originally set up to regulate AT&T, from which every home used to get all local, long distance, and international service a little over two decades ago, and has since been broken up by the FCC to create a healthier marketplace(?). Today, the FCC also has the development of cable, wireless, and internet under its belt and has largely stalled any progress in the evolution of media (as in the distributors of content, not the content producers) under the weight of its own authority.

While most attention goes to Michael Powell, the FCC chairman, the FCC has four other commissioners that are responsible for things like public interest, different media, and other governmental bodies. However, an exhaustive review of FCC.gov reveals little as to who does what. Further, you realize that the FCC is actually a body of over 5000 people, mostly lawyers and secretaries, reviewing policy, making recommendations, and generally fighting back the interest of all their constituents (public, corporate, and government), just to get their belated rules passed by Congress.

Should media be allowed to regulate itself? Chairman Powell believes so. But without regulation, wouldn't small, independent voices be crushed out of the market, continuing the stupification and offensitivity of our culture? But hasn't regulation also spawned Qwest, Worldcom, Adelphia, Global Crossing, AOL Time Warner, and analyst Jack Grubman? Can a commission with a happy-go-lucky, self-interested, career politician and four mysterious non-elected officials constantly infighting because they're all part of different groups ever effectively speak on our behalf? Is it true that we don't really know what we want and don't care as long as our brains are numbed into submission by idols and survivors?

According to both Eddy Hartenstein, Chairman and CEO, DirecTV, Inc and Chase Carey, CEO-elect of DirecTV via News Corp., who're in the midst of completing the acquisition of DirecTV from GM's Hughes Electronics, their union is good for consumers because it'll increase innovation in programming, improve technology for the service, and ultimately add value to the consumer on several levels. However, let's not forget that News Corp. is also the company that owns the New York Post (local tabloid newspaper), WNYW (local New York television station), Fox (highly controversial 4th broadcast network based in New York), FX ("The Shield"), Fox News (home of the slightly opinionated Bill O'Reilly) and Fox Sports Net (a carbon copy of ESPN). Imagine them dictating what 11 million other people in the U.S. watch and think?

According to Kevin J. Martin, mysterious FCC Commissioner, and vocal opponent to Chairman Powell's "paralytically cautious" nature, when it comes to the satellite industry (a crucial content distributor to rural America), the FCC is concerned with carriage rights, satellite radio, anti-trust issues, and communications companies mergers and their effects on the public. (He said this at the Spring SkyFORUM hosted by the Satellite Broadcasting and Communications Association.) When EchoStar tried to purchase DirecTV, EchoStar claimed that their "proposed transaction will promote the public interest. They state[d] that [the] New EchoStar will more efficiently use spectrum to offer more local-into-local programming, provide a competitive alternative to cable television, offer more broadband services, provide better service to rural and outlying areas at nationally standardized prices, and offer more niche, educational and high-definition television programming". So why didn't the FCC allow this transaction to occur if it was so good? "The FCC found that such a loss of competition within the [multichannel video program distribution] market is likely to harm consumers by: (1) eliminating an existing viable competitor in every market; (2) creating the potential for higher prices and lower service quality; and (3) negatively impacting future innovation." Since News Corp is about to do the same thing EchoStar proposed, how do we know if the FCC really considers the public interest? Kevin agreed that this would be harmful to consumers due to lack of competition. Kathleen, on the other hand, said that this would be helpful to consumers, however, not to the economy due the creation of a monopoly.

Kathleen Q. Abernathy is another one of those mysterious FCC Commissioners. Mysterious because on her web page, she claims to be the representative of the public interest, while issuing comments that indicate her disregard for consumers. But is a belief in the benefits of big media wrong?

According to Kathleen at Consect's Global Wireless Summit, the FCC's wireless initiatives are concerned with tapping into the secondary wireless spectrum market (or regulating the ability of spectrum lessors to sub-lease underutilized spectrum), freeing up unlicensed spectrum (remember that artificial scarcity problem we discussed here in December 2002?), and greater flexibility for licensees to improve technology and services. This clearly demonstrates Kathleen's rational views on how to improve the market, which, will inevitably be beneficial for consumers. So, in effect, big media isn't wrong, it's just emotionally driven, and therefore, irrationally perceived.

Towards the end of her heavily-jargoned keynote address, Kathleen also said that she didn't sense any delay in wireless number portability from the FCC's perspective, regardless of the cost to companies. However, according to AT&T Wireless' amiable Chairman and CEO, John Zeglis at this same conference, his company is very concerned with wireless number portability, or the ability to be able to switch wireless service seamlessly and keep your number (as well as the ability to use your landline number as your wireless number), because 1) they've spent too much money (in marketing) attracting a customer only to risk loosing them to a competitor with lower rates, that didn't spend as much on marketing, 2) wireless penetration hasn't reached European or Asian levels to make this financially feasible yet, and 3) wireline providers aren't ready to make their numbers portable since they've already lost enough business to wireless and realize that portability would ultimately be their downfall, since it would increase customers "value of mobility".

al berrios & co. believes that in order for number portability to be even more profitable, it is important for wireless voice and data carriers (AT&T Wireless, Verizon Wireless, Cingular, T-Mobile, Sprint PCS) to consider offering consumers accounts, as opposed to contracts, in a similar fashion banks offer accounts. These accounts would primarily facilitate phone trade-ins without any additional fees to the customer, as well as allow the customer to more easily manage their account. The current system churns 30+% of subscribers annually and rejects millions due to bad credit. And although wireless carriers are pushing pre-paid/automatic credit replenishing combination plans (AT&T Wireless for example) to reduce the number of rejections, they're focusing too much on selling programming and content rather than marketing simplified service plans and rock-solid reliability (which is another reason older consumers hesitate solely depending on their wireless handsets - they don't trust the service).

From television programming distributors to wireless service carriers, the FCC is struggling between two camps with regards to media consolidating, but rather than approach the situation at the root, that advertisers demand broader, more cost effective reach of consumers from fewer sources, they approach it from the point of view that competition must be healthy, regardless of the increased costs to advertisers in reaching consumers. Therefore, is media consolidation, and the consequent reduction of consumer choice, being driven by media companies or their advertisers?

Eighty years ago, advertisers sponsored the bulk of radio programming, to defer the cost of the technology required to broadcast. Fifty years ago advertisers sponsored television programming on television and made network television a viable business. Twenty years ago, cable gave viewers another broadcast alternative, and advertisers a better-defined audience. Today, advertisers have supported wireless advertising, telemarketing, out-of-home alternatives, and rammed the internet down the throats of traditional media buyers. But the consequence has been massive audience fragmentation, meaning, countless potential combinations of media are still untested. And if you're an advertiser beholden to investors that don't understand consumers, just numbers, then you've got to make all your actions deliver, including marketing efforts. Ultimately, you get media buyers who are held accountable for their strategy, relegating innovation to the bottom of the list, and tried-and-true at the very top. But you also get media companies that want to capture more of a marketing budget by being a top audience aggregator. And in order to re-aggregate fragmented audience, consolidation occurs.

Do consumers want all their entertainment and information from one source via one medium (like their wireless handsets)? For more than 60 years, we didn't know since there were limited choices. But as consumers adopt every single new media choice offered without absolutely replacing any former medium, it is clear that choice is critical to consumers, whether they realize it or not. For a real-time picture of history in the making, look no further than China, where a communist-controlled media environment is slowly caving to the pressures of a 1.3 billion-size audience demanding more objective media choices via more media vehicles.

On Monday, June 2nd, the FCC will have their meeting concerning media consolidation at 9:30 a.m. in Room TW-C305, at 445 12th Street, S. W., Washington, D.C. Although representatives of the public aren't your typical liberal types, preferring all content be conservative, they do understand that they can't get their conservative content if media consolidates. Evaluate for yourselves whether or not the decision to relax rules to allow media companies to consolidate is rational or irrational from a business and consumer point of view.

I believed I had experienced the pinnacle of luxury at the Plaza Hotel in New York City, however, Cipriani's on 42nd, where this year's SkyFORUM by the Satellite Broadcasting and Communications Association was hosted, most definitely proved to me I hadn't. The space is an old-style converted bank, with over 40-feet high ceilings, beautiful detailing on the walls, marble columns supporting the entire hall, well, the kind of grand structure you'd expect to sit right next to a Vanderbilt-built Grand Central Station. This place was awesome and cozy at the same time, with grand, yet simple chandeliers, ante-rooms, and bathrooms that only multi-millionaires use. And even with all this, there was still one major flaw - the added technology (i.e. hanging speakers, lighting, etc.) somehow took away from the authenticity of the facility, even though Cipriani's did an excellent job of situating everything as symmetrically as possible to allow the venue's historic beauty to still be appreciated.

The food… although the buffet line approach was off-putting for a place this uppity, what awaited a luncher was nothing short of paradise, with an endless palette of delicious sea food, juicy chicken, mouth-watering steak, accompanied with a veritable rainbow of veggies (which even I ate), pastas, rice, and breads. Combined with an open bar with drinks of any variety, this made for a very difficult battle with the body to stay awake in a dimly lit room with lectures about satellite technology intricacies.

Lucky for us, the SBCA folks were kind enough to leave the A/C on at full blast during the entire 8-hour day, guaranteeing we'd have to get up to pee every hour or so, and as a result, stay awake.

For newcomers, all you need to know is that satellite subscription is at 20 million and continues to grow as technology and customer service improves. Satellite subscribers subscribe to satellite radio, television, and internet, and its main subscriber base is rural, where cable can't reach. For this reason, rural America has become a critical base for the Federal Communications Commission, never mind everyone else.

For you old hands, awareness of digital cable hasn't changed among DBS subscribers, and although the industry has better value than cable per programming choice, consumers in general aren't aware. Pricing and service has remained and will continue to be differentiators for consumers in their carrier selection, and due to satellite's success in these categories, has gained subscribers against cable's losses (10.2 million vs. 2.8 million in eight years, according to Deutsche Bank).

We also learned the merged DirecTV/News Corp long-term strategy: 1) expanding local channel market, 2) increasing HD programming, 3) increasing DVR penetration, 4) improving multi-room solutions for homes at fair price. In pre-transaction short-term, 1) they claim that Pegasus, (a DirecTV partner), isn't worth more than what they've already agreed to pay them, assuring that transaction will end messily, 2) they will continue retail and direct sales, and 3) they will aggressively market their broadband offering.

[4] TRADE EVENT
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Consect Global Wireless Summit 2003

Nowhere near as luxurious as the satellite conference (above), this summit was held as far east of civilization as possible, at the smallish, yet culturally enlightening Japan Society, near the U.N. in New York City. It was essentially one big sales convention, whether you were selling your service, content, or financial performance. Few of the speakers answered direct questions, so I didn't ask any. This event was purely a road show, with little to no investigative value. As a networking opportunity, this event had plenty of value.

The food, Blimpies sandwiches served buffet style, sans seating. Lethal pastries. Coke, coffee, or water. The space, uninviting. Mooooooo.

Basically, the business of wireless is still in its earliest stages, comparable, I'm sure, to what the early days of wireline must have been like. Everyone seeks growing cashflows and improved margins, reducing costs, and new services, applications, and content to increase use of their network.

The most amusing thing of the entire event was the question posed to AT&T Wireless Chairman John Zeglis, about whether or not bundling was an effective strategy for AT&T Wireless. John, very matter-of-factly, and with the confidence of all of his years at AT&T said no because bundling costs more, yet "what you get is a customer that wants a discount" since all of their service are coming from the same source. Clearly, wireless providers don't feel customers should get these discounts. Why was it so amusing? Remember C. Michael Armstrong's vision of the future? It's interesting how some ideas that seem brilliant, lack genius.

[5] TRADE EVENT
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The Beverage Forum 2003 - Predicting Consumer Preferences in Taste

The Waldorf, again. Same place, different food, so that was good. The forum was a great place to meet and greet, and learn many interesting things about the beverage business. But as usual, the subject of consumers was touched only from the point of view of sales, what they bought and didn't buy.

Although it's pretty well tracked how cultural trends influence drinks, what isn't known is how to predict or influence preferred tastes. In my discussions with bottlers and manufacturers, no one seems to understand the concept of taste. In the first "Matrix", a young crew member, Mouse, on Morpheus' ship tells Neo that the sludge they eat for lunch tastes like chicken, when he was interrupted by another crew member with the question, "How do you know what chicken tastes like if you've never tasted chicken?" Mouse replies, "Exactly. I don't." And neither did the machines that programmed the taste of chicken, "which is why everything tastes like chicken". In this exchange, it's easy to see how the flavors consumers can taste are not only limited, but subjective. And if such, why aren't there chicken flavored soda? Steak flavored beer?

Liquids are primarily for hydration, then energy, health, but always, taste. But is sugar and hops the only things that taste good in liquids? That's a matter of your gender, ethnicity, geography, age, and even income. But also the process in which the beverage gets made, according to a senior Coors executive. For thousands of years, consumer tastes have evolved away from sweet foods (at least, that's what Richard Sands, CEO of spirits and wines bottler, Constellation Brands, believes is happening on a macro level). Our palettes have become more sophisticated than that of our early ancestors that sustained themselves on sweet fruits. However, we still prefer all our juices and sodas fruity flavored. And although fruity flavored beer doesn't work, no one knows how to anticipate or influence the next major flavor preference in beverages other than to create a new flavor, launch it, and gauge success.

al berrios & co. data on consumer beverage preferences indicates that flavor is 40% of the reason consumers drink soft drinks. Shouldn't more resources be dedicated to predicting preferred tastes, rather than marketing?

Disclaimer: The recommendations, commentary and opinions published herein are based on public information sometimes referenced via hyperlinks. Any similarities or likeness to any ideas or commentary from any other sources not referenced is purely coincidental. al berrios & co. cannot control any results occurring from advice obtained from this publication nor any opinion(s) conveyed by any reader of this publication.

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