Further FCC Report to Congress on À La Carte and Tiered Programming

On Feb. 9, 2006, the Media Bureau of the Federal Communications Commission issued a 61-page Further Report On the Packaging and Sale of Video Programming Services to the Public (the “Further Report”) on the issue of an à la carte model for delivery of video services. The Further Report reexamined the conclusions and underlying assumptions of the earlier Media Bureau report on à la carte submitted to Congress in November 2004 (“First Report”). The Further Report described what it identified as errors in the First Report and found that the First Report “relied upon unrealistic assumptions and presented biased analysis” in concluding that à la carte was not economical. The Further Report concluded that à la carte “could be in consumers’ best interests” and suggested additional options for consumer choice, including mixed bundling, themed tiers, and subscriber-selected tiers.

Assessment of First Report’s Analysis and Conclusions
The FCC concluded that the First Report relied on incomplete and incorrect analyses, and that it failed to critically examine industry allegations of potential harms from à la carte. The Further Report criticized the assumptions in the Booz Allen Hamilton economic analysis (“Study”) relied upon in the First Report, stating that it was based largely on unsupported and unrealistic assumptions. One major problem with the Study was that it failed to net out the cost of broadcast stations when calculating the average cost per cable channel under à la carte. The Further Report examined the conclusions in the First Report with regard to the impact of à la carte on both the price of programming and the effect on diversity and consumer choice, as discussed below.

Impact of À La Carte on the Price of Programming
The Further Report criticized the First Report’s reliance on the Booz Allen Hamilton Study, stating that the Study contained mistakes and relied too heavily on untested assumptions, some of which appear unlikely to occur. Relying on the Study, the First Report concluded that the average household would likely face an increase in its monthly cable bills of 14 percent to 30 percent under à la carte, but the Further Report contended that the Study in fact shows that the applicable bill increase is between -2 percent and +15 percent, and that a consumer purchasing 11 cable channels would face a change in his bill ranging from a 13 percent decrease to a 4 percent increase, with a decrease in three out of four cases.

As noted above, the Further Report criticized the Study’s failure to net out the cost of broadcast stations, and concluded that as a result, the Study overstated the average cost per cable channel by more than 50 percent. The corrected calculations show that a subscriber could receive as many as 20 channels, including the six broadcast signals, without seeing an increase in the monthly bill – more than the 17 channels the average household watches. The Further Report also criticized the Study’s assumption that a shift to à la carte pricing would cause consumers to watch nearly 25 percent less television, and concluded that there is no reason to believe viewers would watch less programming if provided with an à la carte option.

Specifically, the Further Report challenged the First Report’s conclusions as follows.

The First Report:

• understated the benefits of à la carte and harms of bundling, failing to appreciate the benefits consumers could gain from à la carte;
• overstated the costs of à la carte, because it overstated the cost savings that bundling may provide, discounted bundling’s potential to inflate programming prices, and overstated the complexity associated with à la carte;
• incorrectly assessed the impact of à la carte on advertising revenues, taking a “pessimistic view” based on “unproven assumptions” about the reactions of consumers to new options;
• presented an incomplete analysis of license fees that networks are likely to collect under à la carte, assuming that advertising revenues will decrease and failing to consider that some networks could increase their revenue in an à la carte scenario;
• presented an inadequate analysis of industry allegations that marketing costs would increase, failing to consider whether networks could find alternative means to market themselves in an à la carte or mixed bundling world; and
• ignored the benefits of à la carte for niche networks; namely, that the dedicated audience of such networks might be willing to pay sufficient fees to cover the network’s costs, such as in the model for premium networks and pay-per-view programs.

The Further Report also concluded that the First Report failed to consider ways to mitigate implementation costs. Specifically, the Further Report concluded that any à la carte offering should be limited to the digital realm in order to limit implementation costs, because multichannel video programming distributors (MVPDs) would not have to simulcast its analog channels in a digital format and would not have to immediately provide set-top boxes to all subscribers.

À La Carte’s Effect on Diversity and Consumer Choice
The Further Report concluded that à la carte could be preferable to bundling in providing diverse programming. The Further Report contended that the “relevant question concerns not whether consumers are paying for bundles in excess of the bundles’ value, but rather whether consumers would prefer the service they could get under a la carte.” The Further Report concluded that bundling may create incentives for MVPDs to include or exclude programming in a manner inconsistent with consumer preference. First, MVPDs may find it profitable to include content that some consumers do not watch, forcing those consumers to pay more than they would under à la carte. Second, networks that appeal to mainstream consumers might find it more difficult to obtain carriage under bundling, because an MVPD carries a network only if it either expands the subscriber base or enables it to charge more. Third, bundling may induce MVPDs to exclude networks most valued by some of their customers, especially networks that serve a programming niche already served by one or more networks. The Further Report concludes that if à la carte resulted in the elimination of programming for which consumer value is less than the cost of production, the result would not be a blow to diversity, but rather “a restoration of programming to an efficient level, more consistent with consumer value.”

The Further Report also noted that bundling limits the ability of MVPDs to ascertain consumer demand for networks. Under à la carte, MVPDs would receive direct information about how many consumers value the network because they agree to pay a fee to receive the network. In addition, bundling may have a reduced incentive to improve quality, but under à la carte, improvements in quality can lead to an increase in the number of subscribers, providing a return on the network’s investment.

Additional Options for Introducing Consumer Choice
The Further Report examined some alternative options that it maintained the First Report failed to analyze fully. Specifically, the Further Report examined the options of (1) mixed bundling, in which consumers may choose from à la carte channels as well as bundles provided by MVPDs; (2) themed tiers; and (3) subscriber-selected tiers. The options discussed were limited to digital channels, for the reasons stated earlier in the Further Report with regard to transition costs.

With regard to mixed bundling, the Further Report noted that MVPDs have experience selling channels on this basis, such as premium channels, pay-per-view, and video-on-demand, which the Further Report contends are akin to à la carte programming. The Further Report concludes that mixed bundling would provide benefits over pure bundling, because consumers could avoid paying for networks they do not watch, but could still enjoy the cost savings associated with bundling if they chose that option over à la carte choices. The FCC concluded that mixed bundling provides the greatest flexibility for consumers.

The Further Report also discussed the themed-tier model, in which MVPDs could offer one or more tiers of programming with a particular theme, such as sports, movies, or family programming. The Further Report noted that cable operators already offer such tiers (for example, foreign language tiers), demonstrating that such tiers are economically and technically feasible. The Further Report also noted that cable operators in other countries, such as Canada, the Bahamas, and Great Britain, offer such tiers.

Finally, the Further Report discussed subscriber-selected tiers as an alternative to MVPD-established themed tiers. In this model, the subscriber could select a prescribed number of channels for a set price. This tier would be smaller than the MVPD’s pre-established bundles; for example, perhaps 20, 40, or 60 networks as opposed to perhaps 80 networks offered in a larger bundle by the MVPD. The Further Report concluded that this option would combine the benefits of bundling with the benefits and greater choice of à la carte. It noted that cable operators in Canada currently offer this option to their subscribers. The Further Report noted concerns that subscriber-selected tiers would not be economically feasible given the disparity in price among networks, and that this option would present issues with regard to setting the size and price of the bundles.

Conclusion
The Further Report concluded that the First Report “presented an incomplete and flawed analysis of the costs and benefits of bundling in the MVPD marketplace, as compared to offering programming a la carte.” The FCC concluded that further examination “reveals the promise of a la carte as a means of combating rising MVPD rates and lowering consumer bills.” The FCC suggested further consideration of mixed bundles, themed tiers, and subscriber-selected tiers as alternatives to the current system.