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Oct 19 2004 Home

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I think a media investor summed up the industry quite succinctly: "At this point, every customer is someone else's customer". Media fragmentation isn't new, it's just taken another form with the proliferation of cable, satellite, internet, and small devices with a lot of storage capacity. Consumers have never cared how they receive their content, as long as it's in an enjoyable experience. As a result, the prevailing strategies have been to either own the content or a combination of access and content. Outside of rural MSOs, no major pure access players remain. Pure content is Disney, NBC Universal, and Viacom (excluding their interest in National Amusements Cinemas). Combinations include Time Warner, News Corp and Comcast.

Pure access works in the short term and often functions as a cash-cow. AOL started this way, but after nearly 20 years, realized that it needs exclusive content to retain subscribers from leaving its service. Comcast was a pure player, but has launched, funded, and invested in networks mainly because it doesn't like its increasing costs of content (currently at $4.1 billion). Since few acquisitions would make sense in this environment, both business models are plowing their free cash into content, often in partnerships, and with an emphasis on local and sports programming and gaming, which in turn provides greater mitigation of risk, opportunities for greater returns from all sorts of distribution channels, and ultimately lowers their cost of audience retention, since the quality and choices they can offer through their various content increase.

The Myth of Carriage Fees

While on the subject of distribution fees, there's been an oft-cited myth about fees new networks must pay distributors to carry their programming. This fee is often called "carriage fees", but may (or may not be) considered a "slotting-fee"-like payment that distributors request to place new networks within the first twenty slots on a TV dial in a regional market. The cost of acquiring/producing content, distributing it throughout the entire country through traditional channels, and marketing costs is not included in this fee.

(Slotting fees are a retail industry term that product manufacturers pay retailers to get their products placed on prime eye-level shelves. Wal-Mart is one of the few that doesn't require it, but it's prevalent enough that it's received intense scrutiny from regulators due to the way it's accounted for and it's anti-competitive. Getting prime positioning on a television dial line-up is important because consumers channel surf way more than networks would like. Having prime location on any of the first twenty slots is equivalent to having your products at eye-level on the supermarket shelves.)

I asked Tom Freston at what point during the introduction of a new network does Viacom stop paying these fees, and his reply, "We don't pay fees. We collect." Their strategy is to bundle networks like MTV with newer networks like Spike TV, essentially dodging the headaches of new independents. Brian Roberts essentially confirmed this sentiment when he replied to my question with, "It all depends on the content. Everything's negotiable." And in case you're thinking that their content-based decision is based on expected ratings, you can relax because Nielsen is still considered merely anecdotal by the cable operators for their lack of counting things like bars and dorm rooms, where a majority of networks are actually viewed.

Further, there are precedents for cable operators to invest and take equity stakes in a new networks for carriage, totally obliterating the myth of "carriage fees".

Pricing Power is Waning, but Replaced by Bundling

For the first time in history, cable operators are facing a challenge to their pricing power with:

- the penetration of satellite, providing competing rates in many markets,
- VOD (video-on-demand, which allows consumers to download movies and programs anytime they want for a fee),
- cheaper DVD prices, making renting and ownership easier and substituting cable subscriptions in some cases (mine included), (1) and
- a la carte legislation from Washington, which is attempting to cut consumer cable bills by allowing them to select just the networks they want instead of having to accept an entire basket of networks they may never actually watch at higher rates (as you can imagine, not popular among networks with already low ratings.) (2)

However, despite loss of pricing power, operators such as Comcast have overcome by bundling additional services such as internet and phone calling together with a bill - services that satellite and telecom can't effectively compete with. In fact, Comcast's average bill to subscribers has increased about 40% in the last two years since it's acquisition of AT&T Broadband. (Satellite's technical flaws include overburdened connections in dense areas. DirecTV CEO Chase Carey will also argue that consumers aren't likely to change their phone numbers as VOIP will require them to do, so it's not a major strategic challenge in his fight against cable. And although telecom has made great strides in repairing their DSL service over their copper wires, it's still expected to face negative perceptions in the marketplace compared to cable.)

Despite Comcast's impressive bundling success, there's no statistical evidence that supports consumers either want bundling or if its even a driver of growth or profitability for the provider. Personally, I believe C. Michael Armstrong's still-borne legacy will be successfully played out with Comcast, where he still sits on the board of directors. (3)

Write to Al Berrios at editor@alberrios.com

Footnotes

1 DVDs don't entirely represent a negative for combination media firms, since it does provide a huge channel to still reach into consumers' wallets (News Corp claims that the average U.S. home purchases 17 DVDs per year - considerably more in my household).

2 "Russell Banks' CEO Leadership Lectures at Baruch College Featuring Leo Hindery, CEO of the YankeeNets Yes Network" and "Subscriber Retention by Cable Networks"

3 In case you forgot, C. Michael Armstrong was the visionary that dragged the moribund AT&T kicking and screaming into the bundling digital age with its acquisition of TCI launch of AT&T Wireless. The strategy proved too early to pan out, resulting in the breakup of AT&T into the shell-of-a-company it is today. Read more here: "Consect Global Wireless Summit 2003"

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