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Cable vs. Telco: What Happens

With a barrage of ads running on broadcast stations across Texas, local
phone company SBC informs viewers that the state's laws are “outdated”
and “preventing consumers from making their own telecommunications
decisions.” Cable companies face “less competition, and they like it that
way,” says another ad.

These spots and others like them are part of a massive campaign by phone
giants SBC and Verizon to persuade Texas citizens—read: legislators—to make
it easier to sell TV service in the state.

In equally strong counterattacks in newspaper and TV ads, cable
operators Time Warner, Comcast and Cox warn that phone companies have hired
“hordes of influence peddlers” to push legislation. The accompanying spot
shows a fatcat blowing smoke from a cigar.

As the cable-vs.-telco war to capture subscribers for bundled TV, phone
and Internet services begins in earnest, the battles have spread beyond Texas.
Across the country, the major phone companies have committed more than $20
billion to launch subscription-TV services that will eat into cable's
customer base. But their biggest obstacle isn't the money; it's Washington
and thousands of local governments hanging on to decades-old rules written when
the phone business was a government-protected monopoly.

Phone companies say that competition will sputter unless Congress and
regulators catch up with changing technology. Verizon plans to begin offering a
100-channel package for $40 a month in late 2005 or early 2006, but it can't
start building subscriber lists yet. First, it must obtain franchises from
thousands of local communities—a process that could delay TV service for
years. To dodge that roadblock, Verizon is asking Washington to streamline the
rollout by writing Internet-TV rules that would apply nationwide.

House Commerce Committee Chairman Joe Barton (R-Texas) is preparing to
do just that. “We need a federal policy with federal rules,” he said at a
recent hearing on Internet video. “We cannot expect new entrants to succeed
if they have to comply with 52 different jurisdictions, not to mention if they
have to comply with rules set by thousands of franchising authorities.”
Barton has said he wants the House to approve relief for the Bells as a
component of telecommunications-overhaul legislation to be sent to the Senate
before Aug. 1.

Leaps in technology

Because of the leaps in digital technology that only a few years ago
were unimaginable, Congress and regulators have struggled to update the rules
fast enough. Because of that, a revolution in new services and competition is
being held back, telephone-industry officials say. “Technology has just
passed by our telecommunications laws,” says Lincoln Hoewing, chief of
Internet and TV policy for Verizon. “Nobody expected broadband Internet to
grow as fast as it has.”

The telephone companies are in a more precarious spot than cable
operators because the video business they are trying to enter is highly
regulated by more than 2,000 local governments. As for the cable industry's
foray into Internet-based services—phone and data—the FCC has taken a
hands-off approach, which has allowed operators to offer high-speed Internet
service with virtually no hurdles, at least for now.

The lengthy negotiations with city councils and cable-franchise boards
that telephone companies now encounter were no threat in the early days of slow
growth and few competitors. “We're facing a very complex and delayed
process to get into video,” complains Hoewing. “We need a national policy
that will encourage deployment of new technology as rapidly as possible.”

Today, the telephone companies—which have been regulated primarily
under federal and state rules—are trying to get into video almost overnight.
The business must be developed quickly to offset losses in their core landline
phone business to cable-industry and other Internet carriers.

The phone companies face thousands of local governments determined to
write a new set of ground rules governing franchise fees, public-access
channels and construction of new plant.

Unless Washington frees the Bells from the obligation to obtain local
franchise permits the way cable companies do, the telcos say, their rollouts
could be slowed by years and tens of millions of dollars added to the cost. The
cable industry hopes the current telecommunication laws remain intact—and in
their favor.

The phone companies are so desperate for relief that they're begging
local broadcasters to take up their cause. At the National Association of
Broadcasters convention in Las Vegas last month, Verizon Chairman Ivan
Seidenberg offered to carry digital multicast channels that TV stations can
offer. His overture came only weeks after the cable industry persuaded the FCC
to reject mandatory cable carriage for multicasting.

No quick remedy

Leaders in Congress and the FCC are sympathetic to the Bells' dilemma
and are considering measures to give them relief. But cable operators are
likely to make deep inroads into the local-telephone business before the
Bells' video-franchising obligations are spelled out.

Cable operators plan to press for the status quo. “We want everybody
to follow rules that are already on the books,” says Kyle McSlarrow,
president of the National Cable and Telecommunications Association. More
pressure is expected from local governments and consumer groups, which would
prefer not to weaken municipalities' rights to grant pay-TV franchises.

Despite Washington's desire to bring new competitors to TV and
telephone services, the regulatory morass isn't about to be cleared up
quickly. Last week, the FCC turned down SBC's request for blanket exemption
from “common-carrier,” or telephone-style, rules that govern a wide range
of broadband services, including video. SBC plans to spend $7 billion over the
next three years to upgrade its network called Project Lightspeed.

Congress isn't likely to act on such a controversial issue this year.
The Supreme Court, however, is expected to rule as soon as next month on how
much flexibility the FCC has in setting rules for Internet service. With
direction from the court, the commission would probably need another year to
decide whether to exempt Internet-delivered communications from most local

“The timing is just bad for the phone companies,” says Laura
Phillips, a telecom lawyer with Washington firm Drinker Biddle & Reath.
“I don't see any momentum this year.”

SBC and Verizon are taking different approaches to local regulation.
Resigned to the possibility that it may never be relieved of heavy local
oversight, Verizon has negotiations under way with more than 100 franchise
authorities on launching TV service in their markets. It has also asked the
California, Virginia and Texas legislatures to grant statewide franchises.

Verizon, which recently cleared the way to buy rival MCI Inc., isn't
waiting for franchise approvals to begin constructing the $15 billion
fiber-optic network necessary for TV. The company argues that, because the
network can also be used for standard Internet service phone companies can
already offer, additional franchise authority is unnecessary until TV packages
are actually being sold.

In the meantime, Verizon is lining up programming. Last week, the
company proudly trumpeted a deal to carry the NFL Network. The company has also
signed up NBC Universal Cable, Starz, Showtime, A&E and Discovery, and more
deals are in the works. Verizon's buildout has angered the cable industry.
The state cable association in New York managed to win a temporary work
stoppage against the phone company, but work continued once local regulators
verified that the proper construction permits had been obtained.

In Texas, the issue-advertising war has been raging over the state
legislature's consideration of a bill to set up a statewide franchise plan
that would eliminate the need to haggle with hundreds of local governments for
local franchises. SBC and cable operator Time Warner have charged each other
with harming consumers' interests. The phone company also has complained that
cable operators won't run TV ads giving the Bells' point of view.

Cities demand oversight

SBC argues that current law already gives telephone companies the right
to deliver Internet-based TV, and it has no plans to apply for new franchise
rights. Instead, the company is waiting for the FCC to formally declare a video
franchise unnecessary before moving forward. “We don't think franchise
rules apply to Internet video,” says SBC spokesman Michael Balmoris.
“Policymakers are in the business of promoting competition. We need
clarification from regulators.”

The companies claim they aren't trying to escape obligations to serve
poor neighborhoods or other local obligations, as critics allege. Says
Verizon's Hoewing, “We're willing to pay franchise fees; we've got
capacity to carry public-access channels. We're just trying to move the
process forward while still serving concerns local governments have. Local
franchising is an outmoded process that cable regulators developed over decades
when companies had time to build out without worrying about competition.”

Not surprisingly, industry analysts have generally endorsed the phone
companies' view that they must be freed from oversight by thousands of local
governments. “Competitive entry into the video market will be delayed if the
Bells do not get relief,” says UBS Investment Research's John Hodulik in a
new report.

But local officials say obtaining franchise rights is relatively simple
as long as the phone companies sign on to roughly the same terms as local cable
incumbents. Verizon's and SBC's real aim is to enter the market with lower
franchise fees and diminished obligations, says Ken Fellman, mayor of Arvada,
Colo., and chairman of the National League of Cities' telecommunications
committee, which lobbies for city governments in Washington.

“I have a hard time buying that corporations the size of Verizon or
SBC don't have the wherewithal to get the job done,” he says. “They would
just prefer not to incur the expense.”