Grievous Defects in the AT&T-Time Warner Court Decision

            A preliminary reading of the District Court decision (available at: http://www.dcd.uscourts.gov/sites/dcd/files/17-2511opinion.pdf leaves me with despair and several unanswered questions.  I am not an antitrust law expert, nor do I have a Ph.D. in antitrust economics.  On the other hand, I offer unsponsored, non-doctrinal common sense.

            The Judge places great emphasis on the pro-consumer benefits of a vertical merger.  On several occasions, he states that the merger will accrue $352 million in cost savings to the combined company (p. 67) now able to eliminate one of two content price markups: 1) Time Warner’s profit margin in licensing content to AT&T as content distributor and 2) AT&T’s profit margin in delivering content to subscribers.  Economists term this benefit the Elimination of Double Marginalization (“EDM”).

            This makes sense intuitively, but specifically as to the video entertainment market, how much—if any-- of this $352 million flows downstream to cable/DBS subscribers?  This is a question for which empirical data does exist.  The Judge excoriates the Justice Department and its expert witnesses for failing to provide conclusive and persuasive evidence of consumer harm, largely because it has to be predictive.  But insofar as the flow through of vertical integration’s efficiency gains and EDM, empirical evidence provides a clear answer.

            Year after year, the FCC’s reports that video content prices rise, well in excess of a broader measure of consumer prices. See Implementation of Section 3 of the Cable Television Consumer Protection and Competition Act of 1992, Statistical Report on Average Rates for Basic Service, Cable Programming Service, and Equipment, MM Docket No. 92-266, Report On Cable Industry Prices (rel. Feb. 8, 2018),; available at https://apps.fcc.gov/edocs_public/attachmatch/DA-18-128A1.docx.  Over the five years ending January 1, 2016, the price of expanded basic service rose, on average, by 4.4% percent annually with the average price per channel (price divided by the number of channels offered with expanded basic service) increasing 2.1% percent to 47 cents per channel, even with the proliferation of unwanted channels in an enhanced basic programming tier.  The FCC again reported the anomalous statistic that monthly rates in communities, deemed not to have effective competition, had service rates below those charged in locales meeting an effective competition test.  The Commission reported that cable operators have substantially increased charges to recoup broadcast signal retransmission costs with a 33.9% percent rise from 2014 to 2015.  So much for robust competition.

            Let’s consider a previous blockbuster vertical merger: Comcast’s acquisition of NBC-Universal.  Did Comcast reduce its rates to reflect EDM and operational synergies?  More broadly, why hasn’t Comcast reduced its rates in response to cord shaving, cord cutting and significantly greater churn?

            The Judge mistakenly assumes that the combined AT&T-Time Warner will pass through at some—if not all (see p. 69)-- of the EDM savings, but Comcast did not do so after it acquired access to a large inventory of cable networks.  Simply put, the Judge erred in thinking that the AT&T-Time Warner acquisition financially benefits consumers in a speedy and measurable way.  When pressed to identify consumer benefits of NBC-Universal acquisition, Comcast senior managers admitted that cost savings and rate reductions for subscribers were not likely.

            The Judge also did not accept any element of the Government’s assertion that a combined AT&T-Time Warner would have heightened negotiation leverage with competing content aggregators and distributors.  Again, common sense and empirical evidence challenge his confident—bordering on arrogant—conclusions.

            Just look historically at the content licensing process and identify who blinks first in the negotiation process, particularly when a blackout has occurred.  Time after time, content distributors cave, largely as “must see” television appears on the horizon.  No DBS or cable operator will hang tough once the NFL regular season starts.  Content providers have the upper hand in negotiations and who among us will pay $50 a month for a package of channels lacking CNN, TBS, TNT and other Time Warner networks?

            There are several instances where vertically integrated ventures evidence self-serving, anticompetitive behavior.  Consider this example: Comcast inserted its wholly owned Golf Channel in the enhanced basic programming tier, but relegated the unaffiliated Tennis Channel to a most expensive sport tier.   The FCC’s Administrative Law Judge determined that Comcast’s tiering decision was motivated in part by a strategy to harm a competitor.  On appeal to the FCC Commissioners, the decision was reversed.  One can readily smell a rat here, but even without politics and partisanship, the FCC staff would have been hard pressed to prove anticompetitive intent.  There always plausible deniability—that Comcast determined its subscribers like golf more than tennis, or any of a number of plausibly legitimate business motivations.

            Let us also consider a scenario where AT&T does not use its leverage, or does not have the upper hand.   Content carriage fees will increase, probably well in excess of a general measure of consumer prices.  Some non-AT&T video content subscribers will consider reducing or eliminating their cable/DBS monthly rates.  They will seek the alternatives including AT&T’s U-verse and DirecTV as well as the options the company offers via its broadband wireless, cellular radio service and “over the top” options available to broadband wired subscribers.  A significant percentage of churning video subscribers will migrate to an AT&T option, so in at least some scenarios AT&T enjoys a “win-win” proposition: 1) it can maintain or raise profit margins for still loyal subscribers and 2) it can capture new market share with churning subscribers of competitors who do not want to pay higher rates, even if they do not reflect greater AT&T leverage, post-merger.

            I’ll stop for the time being with a prediction: consumer video content costs will rise well in excess of general inflation measures and this decision will lead to an even more concentrated industry having less incentives to enhance consumer welfare and compete on price.

           

Legacy Antitrust Models Have Legs in the Internet Ecosystem: AT&T’s Acquisition of Time Warner

            A day after the FCC’s termination of network neutrality rules, District Court Judge Richard J. Leon will announce the verdict in the Justice Department’s suit against AT&T’s acquisition of Time Warner.  See https://www.nytimes.com/2018/06/10/technology/att-time-warner-ruling.html.  I’m betting the Judge will apply “old school” competition policy analysis finding no significant harm in this $85 billion deal that he will frame as vertical integration among non-competitors.  This ruling will lead to even more industry consolidation always framed as necessary to achieve scale, efficient operations and effective competition. We have not heard much about how these acquisitions offer consumer benefits, apparently because advocates do not have to bother telling us.

            Using the perspective of Chicago School economists, vertical mergers and acquisitions trigger limited concern about harm to competition and consumers while horizontal deals eliminate a competitor and further concentrate a market.  The prevailing wisdom assumes vertical integration can achieve benefits for the merging parties without offsetting harms to consumers largely because judges assume the two merger-aspiring ventures do not compete in the same market segments.

            In the Information, Communications and Entertainment (“ICE”) markets, deep-pocketed ventures operate throughout the marketplace with extensive vertical and horizontal integration.  It makes no sense to assume any ICE venture involving major incumbents, such as AT&T and Time Warner, operate in mutually exclusive market segments.  Decision makers do not seem willing, or able to understand that the Internet ecosystem seamlessly combines conduit and content and the ICE marketplace has fully integrated converging markets and technologies.

            Consider the conditionally approved acquisition of NBC-Universal by Comcast in 2011.  Even then, Comcast operated extensively in both content creation and content delivery.  It made no sense to consider the deal as solely occurring in a vertical “food chain” with Comcast a downstream distributor of content created mostly by unaffiliated ventures such as NBC.  In 2011, Comcast had 100% ownership interests in content networks including E!, Golf Channel Versus, G4, and dozens of regional sports networks, with minority interests in dozens of other networks.  See https://apps.fcc.gov/edocs_public/attachmatch/FCC-11-4A1.pdf at p. 177.

            It seems that competition policy models do not easily lose traction after having made the transition from academic theory, to preferred model by stakeholders, to conventional wisdom. For example, the Chicago School and now case precedent hold that no venture would ever deliberately underprice a good or service for any period of time beyond a blockbuster sale, e.g., the day after Thanksgiving (“Black Friday”).  The prevailing wisdom concludes that the underpricing company would have no good likelihood for recouping its losses, particularly in competitive markets that would foreclose gouging.  How then can judges and academics—including Chicago School economists—make sense of the ongoing business plan of Amazon and other Internet “unicorns” to forgo profits for years in the pursuit of market share and expanding “shelf-space” for products and services?

            Day by day consumer safeguards evaporate in the ICE marketplace.  I am not endorsing ex ante remedies that anticipate problems, but may well create their own through inflexibility.  But in this current environment, even ex post responses to legitimate complaints do not appear necessary. Who needs a largely impartial and qualified referee when economic doctrine assumes the market can solve or prevent all ills?