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Economies of Scale and the Small Cable Op

There has been some concern among small cable operators concerning possible cash payments to television network affiliates in return for retransmission consent. With that in mind, here's an example of how the small cable operator does not benefit from economies of scale.

Basically, economies of scale refer to how a larger business can be more profitable with regard to certain fixed costs than a smaller business. We see this in retail businesses all the time. However, this is much more apparent in the cable industry.

For example, let's take a look at two cable systems. System #1 has 5,000 subscribers. System #2 has 50,000 subscribers. Now let's examine two separate costs — pole rental and the system manager's salary. The above chart would be representative of the cost structure for both systems.

We can see that the economies of scale play a large role here. The pole rental cost (which is a fixed cost) per subscriber per month is higher for System #1. This economic model basically states that as a fixed cost is allocated over more units (in this case, subscribers), the cost per unit will decrease.

Looking at the system manager's salary, which is not a fixed cost but a semi-variable cost, we see that the cost per subscriber is also higher for System #1. Even with an increased total cost for System #2, the larger operator can spread the total cost over more units pushing down the cost per subscriber.

In the comparison of a large retail establishment versus a general store, one could argue that the general store perhaps provides more personalized service or is possibly more customer-friendly than the larger establishment. I do not think that the same argument would hold true in the cable industry. Subscribers look at the cost of the monthly cable bill and the quality of channels that they are receiving. It is highly unlikely they are concerned about receiving the same personalized customer service as would in a general store.

Furthermore, programmers give quantity discounts to large MSOs. Smaller operators have tried to get around this by pooling all their subscribers into one unit and joining the National Cable Television Cooperative. Unfortunately, some programmers will not deal with the NCTC and this would probably not work with regard to retransmission consent and the local TV network affiliate.

Therefore, we see that it is quite difficult for a small operator to exist in this type of business climate. The small operator is going to have to think of new, innovative strategies in order to remain competitive.

Eric Rothenburg is a certified public accountant and is an assistant professor at Kingsborough Community College of the City University of New York.