AT&T—Time Warner and the Mixed Results in Vertical Integration by Bellheads

              Another day, another multi-billion dollar merger in the telecommunications marketplace.  See http://www.wsj.com/articles/at-t-reaches-deal-to-buy-time-warner-for-more-than-80-billion-1477157084.  Despite the disinformation about how incumbents have closed their pocketbooks to investment because of network neutrality and assorted regulation, AT&T appears ready to push the antitrust envelop with yet another massive $80 billion acquisition.  Not content to acquire more than 50% of the satellite television market, with its $49 billion acquisition of DirecTV, AT&T has its sights on the content Time Warner creates.

            AT&T has a business plan to integrate vertically throughout the information, communications and entertainment (“ICE”) ecosystem.  Acquisitions provide the fastest way for the company to move up and down the ICE “food chain” of content creation, syndication, distribution and delivery to consumers.

            Vertical integration can achieve operational efficiencies as a single company can achieve savings through scale and a wide footprint of related business ventures.  On the other hand, it takes remarkably talented and nimble management to handle different components in the food chain.  Companies like General Electric have succeeded, but ironically this company has launched a campaign to divest itself of non-core business lines.  Other companies have failed even when they thought consumers would welcome having a “one stop shopping” opportunity, e.g., one call to book air travel, rental car and hotel.

            Depending on how your rate AT&T senior management, the company has wisely invested in the convergence of content and conduit, or it has unwisely deviated from its true competency.  Bear in mind that at divestiture from AT&T, companies like Verizon (then Bell Atlantic) invested heavily in content creation.  Verizon failed, because it did not ascend the content creation learning curve quickly enough.

            Simply put, the ICE marketplace has Bellhead, Nethead and Contenthead players with core competencies in legacy network conduits, next generation, Internet carriage and content, and core expertise in entertainment content.  The Bellheads historically have concentrated on installing and managing the networks needed to deliver content.  Incumbent Bellheads see the conduit business as having declining profit margins coupled with substantial capital expenditure requirements in new distribution technologies.  Bellheads have a twin mission to eliminate the need to maintain the fast becoming obsolete copper wire telephone networks, but also to invest in 4^th and 5^th generation wireless infrastructure.  Additionally, they hedge the network bet by moving up the food chain into content.

            Bellheads envy the profit margins Contentheads sometimes achieve and the business plans of some Netheads who use software to achieve unicorn status (multibillion dollar valuation with miniscule staff and investment) by using Bellhead networks for value added content delivery.

            Can you teach old dogs new tricks?  Bellhead telephone company senior management have to acquire the skills and understand the culture of Netheads and Contentheads.  Companies like Verizon and AT&T have made the transition into the Nethead world through acquisitions of companies such as MCI and UUNet.  Now comes an even harder challenge to embrace the Contenthead culture of Hollywood.   Good luck with that!

Regulation by Contractual Fine Print

            Advocates for telecommunications deregulation work themselves into a lather when thinking about how government regulation kills jobs and robs stakeholders of the incentive to invest and innovate.  Sponsored researchers provide cover with selective analysis of data and its quite bogus extrapolation.  For example, even as incumbent carriers like Verizon and AT&T spend billions on content and future technologies, like 5G, to deliver it, the carriers and their consulting advocates attribute regulation as severely dampening any reason to invest in new plant.

            Let me get this straight.  Incumbents have no reason to keep their business alive and fresh with cutting edge technologies, because regulators will prevent them from reaping the fruits of their labor by forcing network sharing and imposing network neutrality requirements? 

            Does this pass smell test?  Why would Verizon spend over $4 billion to buy Yahoo and its considerable inventory of content and customer base if the carrier business was being starved of funds to increase transmission speed and capacity? 

            Let’s consider the dead weight social loss in regulation.  I’ll readily admit that uncalibrated and unwarranted government oversight can harm consumers and competition.  Incumbents do not want you to know this, but they welcome regulation that imposes a disproportionate burden on competitors and creates barriers to market entry by prospective competitors.

            Incumbents also do not want you to know that their service contracts—and the regulated tariffs that preceded them—impose far worse costs on consumers than anything the FCC could impose.  Regulation by contractual fine print refers to the anticompetitive and consumer harming language carriers sneak into their terms of service.

            Here are some examples:

            Unlimited data does not mean unmetered and boundless downloading opportunities. Fine print in service terms, like that offered on a “take it or leave basis” by TMobile, offer metered service and severe penalties for exceeding a cap on so-called unlimited data service.  Should a subscriber exceed a data threshold, then the carrier downgrades network performance to a rate incapable of transmitting most data applications.

            How many commercial ventures can deliberately ruin their service with an eye toward forcing customers to upgrade to a more expensive tier?  Pretty risky proposition, but wireless carriers can get away with this strategy.

            Here’s another example: AT&T and other carriers, as well as content providers, like Yahoo, reserve the option of scanning anything you do and say online, mining it, collating it and marketing it. For ventures like Yahoo and social network like Facebook, subscribers accrue value in exchange for abandoning most privacy protection.  But in the case of carriers like AT&T, the scanning and marketing of subscriber usage data does not result in the offer of discounted service.  Just the opposite.  AT&T and other carriers floated a trial balloon of offering to eschew some customer snooping in exchange for additional monthly compensation.  Such a deal!  Customer can pay for somewhat better privacy, but the default is abdication of virtually all privacy.

            Another example is compulsory arbitration on terms set by the carrier using a venture hard wired to favor the carrier in light of the business it generates for the arbitrator.

            Consumers face a non-negotiable service terms severely tilted in favor of the carrier that writes the contract.  Even a brief scan of these agreements would show terms that reduce, regulate, limit, minimize and dilute consumer bargaining power.  Subscribers cannot simple churn out from one carrier to another one offering better terms, because these so-called robust competitors have nearly identical terms and conditions.

            So who’s the regulatory beast these days?