Seven Things That Will Change Cable TV in 2004

No industry in American business is rocked by change more than cable. And few other industries are whipsawed by such a complex array of forces: technology, Wall Street, government regulation, advertising, and the ever-changing tastes of an increasingly splintered audience.

Cable operators have been regulated, deregulated, re-regulated, and deregulated again. Now the latest hue and cry from Washington regulators: Cable should be under stricter indecency standards. Congress is also mulling a tax for high-speed Internet services—and the idea of forcing cable to sell networks "à la carte."

The deal market is hot again, sparked by Comcast's audacious, though failed bid for Walt Disney Co., which demonstrated more than anything the industry's confidence in uncertain times. Adelphia Communications will be auctioned to the highest bidder soon, and Wall Street is hungry for more deals.

As broadcast networks become more entwined with cable, NBC has emerged with the biggest cable prize of all: USA Network. With one deal, NBC—which already owns CNBC, Bravo, MSNBC, and Telemundo—plans to redefine the scope and reach of a general audience cable channel. NFL on USA, anyone? NBC's influence, not to mention recent cable hits like The Shield
on FX and Newlyweds
on MTV, makes it all the more crucial for cable programmers to find a breakaway show.

Of all the pressures roiling the industry, though, Rupert Murdoch may be the biggest force that cable operators deal with this year. The new owner of DirecTV, legendary for his tenacity, has vowed to take as many cable customers as he can.

As the business heads into its sixth decade, below are seven things that will transform the cable industry as we know it.

I. Takeover Time

The balance of power is about to shift yet again.

Adelphia, one of the biggest and oldest cable companies, goes on the auction block later this year. And, as the biggest operators look to increase their power, dealmakers are expecting lively bidding.

Adelphia may not be the only operator to go to the highest bidder. Cablevision Systems could pull in as much as $12 billion as a sale candidate once it completes the spinoff of its Voom DBS and Rainbow networks operations. Insight Communications may become a target, too, when a trigger date in its joint venture with Comcast comes up next year.

After a long, long deal drought, dealmakers welcome the auction of Adelphia like a $20 billion thunderstorm. Comcast and Time Warner are expected to lead the charge. Interested cable operators see big financial gains out of running the Chapter 11-battered Adelphia, and the auction will doubtless draw additional offers from buyout firms seeking to profit by flipping the systems.

If Adelphia's systems were divided on a market or regional basis—Florida and Los Angeles, for example—prices would surely soar as a free-for-all of financial players and cable operators ensued. Even Cox, which last week said it's not interested in all of Adelphia, would come in to play if it were sold piecemeal.

Nothing even close to this size has come on the market since 2001, when Comcast beat out Cox Communications for AT&T Broadband, paying $54 billion. Since then, buyers and Wall Street dealmakers have had to busy themselves with slivers, such as stray systems pruned by Charter Communications.

II. Can I Have That à la Carte?

Operators and networks see "à la carte" pricing as cable's dirty bomb: It might not destroy the industry, but it could render parts of it uninhabitable for some networks.

À la carte pricing—letting subscribers buy one channel at a time—is being pushed by cable's critics as a way to let subscribers get their cable bills under control. Why not sell all channels the way operators sell pay movie services, they argue—one channel at a time? If Showtime, why not TNT or MTV? Subscribers who get 100 channels watch only a handful regularly, anyway.

The biggest à la carte advocates? Critics of cable's steep prices, particularly Sen. John McCain (R-Ariz.) and influential consumer groups. If ESPN were sold à la carte, the thinking goes, non-sports fans wouldn't have to pick up the tab when ESPN jacks its already high license fees, which are now included in everyone's cable bill. Now the indecency crowd is picking up à la carte as a cause, seeing it as way to let people block South Park
without actually paying for it.

McCain dropped a clause calling for à la carte pricing from a bill restricting TV indecency in recent negotiations, but he's likely to reintroduce it when the full Senate votes later this month. In the House, the commerce committee will debate whether to impose it on all pay TV when it votes on a satellite bill this week.

Some cable networks, such as VH1 or HGTV, panic at the idea because they sell a lot of advertising based on people who graze through. And if a network's subscriber base dropped by 80% overnight, so would license fees.

Even in an all-digital world, à la carte pricing could be the kind of marketing nightmare pay TV has been, with an astounding annual churn rate of up to 50%. And it costs a lot to deliver, say, just one channel. Cable operators could likely charge $10-$15 for ESPN but might also have to charge another $15 for basic access.

III. DeathStar

Rupert Murdoch wants to put cable operators out of business.

Both cable operators and networks have plenty to fear now that DirecTV is in his hands. The DBS service is expected to aggressively steal video hounds away from cable with a panoply of new services.

Since Murdoch's News Corp. took control of DirecTV in December, the company has focused on the corporate suite, transforming Hughes Electronics from a piece of a conglomerate to a company singularly focused on DirecTV.

In coming months, DirecTV CEO Chase Carey promises to start deluging subscribers with new benefits. To blunt cable's video-on-demand systems, he plans to provide DirecTV customers with digital video recorders that can give instant newscasts or sports highlights. Interactive-TV capabilities—such as choosing camera angles at a sporting event—that have proved so popular with Murdoch's BskyB subscribers will be imported. Imagine being able to vote for American Idol
contestants on Fox network through your TV but only if you're a DirecTV customer. DirecTV already has partnered with telcos to bundle its satellite-TV service with telephone and high-speed data services. Carey could even bring Fox's O&O stations in to promote DirecTV if needed.

DirecTV has already put its targets on notice: financially weak cable operators like Charter and Adelphia, apartment buildings in every market, and ethnic markets.

DirecTV promises to be a lean competitor, too. At first, the company paid programming fees of 20%-30% more than cable operators, but Carey says that's ending. Because DirecTV is now the second-largest video distributor, Carey wants license fees more on par with what big cable operators like Comcast or Time Warner are paying.

DirecTV plans to shake up the programming world, too, shoving thinly viewed cable channels onto tiers with fewer subscribers—thereby robbing networks of viewers and license fees. "We are carrying channels in a broadly distributed tier that don't warrant it," Carey says. "And there are channels that are not delivering the price we are paying for them."

The good news for cable operators—and bad news for subscribers: DirecTV claims it has no more interest in cutting prices. Indeed, the company hiked its rates by 5% recently. "We will manage this business to maximize value, and value means profits," Carey says. "We plan to win with a quality product and fair prices, not price wars."

IV. USA Changes Stripes

Will USA Network be the fifth "broadcast" network?

With the size and reach of NBC behind it, USA, already a powerful brand, is virtually guaranteed to redefine general entertainment on cable. Think more professional sports, big-budget movies, and original series—and operators will likely get stuck with the tab.

Big-league sports already air on TNT and ESPN, but NBC may look to make USA a bidder on NFL games. NBC used to air NFL games but went to the sidelines in 1997 when the league inked its latest $17.6 billion pact with Fox, CBS, ABC, and ESPN. The rights come up after the 2005-06 season. Expect NBC/USA Network to at least be at the table. Another possibility: NBC's NASCAR package, which it currently splits with TNT, comes up in 2006.

Olympic action on USA is assured. NBC already plans to put Olympic qualifying trials on USA, as well as games from the Athens Summer Olympics. In future Olympics (NBC has the rights through 2012), USA will be a primary destination.

To pay the way, NBC will likely demand healthy rate increases when some of USA's distribution deals come up over the next year. Operators may scream, but USA—which, according to Kagan Research, averages around 40¢ per subscriber—lags far behind ESPN and TNT in subscriber fees.

USA will benefit from NBC's promotional machine and deeper programming coffers. The cable network is already on a hot streak, thanks to Law & Order: SVU
off-nets and original drama Monk.
Expect NBC to make it harder for other cable nets to win an audience. Besides better theatricals and more originals, USA seems a shoo-in to get cable rights to the second Law & Order
spinoff, Criminal Intent,
given its success with reruns of Law & Order: SVU. And if Queer Eye for a Straight Guy
is a guide, expect more repurposing (read: reruns) of NBC shows on USA and, perhaps, USA shows on the mothership.

V. Hoping for a Hit Parade

It is every cable network's single obsession: Find a hit.

A breakout program gives a channel an identity and ratchets up its value. Bravo was hardly a hip destination before Queer Eye. Now its prime time viewership has doubled since the show. But unearthing a hit is nearly impossible. Even the cleverest execs concede that there is no formula; you never know what bizarre pitch could explode into the next Punk'd
, MTV's hit prank show.

These days, "anything non-scripted is hot," says Doug Herzog, the outgoing USA Network chief who becomes Comedy Central's CEO in May. Sick of procedural drama on broadcast? Look to cable—always a breeding ground for new genres—for the next wave of offbeat dramas.

What's the next hit? We have a few hunches. Here are some possible breakouts in the hottest programming trends:

Toasting tweens:
Tweens, aka kids 9-14, flock to reality on broadcast and live-action comedies on cable. Nick is adding four live-action shows this season, hoping to keep tweens away from broadcast and rival Disney Channel. That includes 13-year-old Jamie Lynn Spears, sister of pop star Britney, starring in Nickelodeon's upcoming comedy about a teenage girl at a newly co-ed boarding school, slated for late fall or early winter.

Spinoff Fever:
If something works, keep doing it. That's what Bravo President Jeff Gaspin, formerly a VH1 programmer, did at VH1 with Behind the Music. Now at Bravo, Gaspin is cloning his hit Queer Eye
with a female version. Queer Eye for the Straight Girl, coming early next year, will dispatch a new team of lifestyle experts (three regulars and two guest stars) to help transform straight girls. We can't wait to see the new Carson. But will viewers get gay-makeover overload?

Showtime Reloads:
It's not HBO. It's Showtime. The pay channel's freshman programming chief Bob Greenblatt must be tired of hearing that. But Greenblatt has to deliver an HBO-like hit. His strategy is bigger, broader shows and fewer hyper-niche dramas like Soul Food
and Queer as Folk.
Cue his first offering: Huff
stars Hank Azaria as a psychiatrist with a troubled home life. Oliver Platt plays his best friend, and Blythe Danner stars as his mother. Greenblatt knows weird family dramas: He executive-produced HBO's funeral home hit Six Feet Under.

Reality's Next Step:
With reality TV fast becoming a crowded category, what's a trend-setting network to do? Find reality spoofs. Upcoming Comedy Central animated series Drawn Together,
premiering in October, throws cartoon characters, like a superhero and a fairy princess, in a house together Real World-style. And the show plays on a bigger cable trend. "Adult animation is big right now," says Comedy's Senior Vice President of Originals Lauren Corrao. "We're hoping to capitalize on that." It would be good timing. Comedy hasn't had an animated success since South Park.

More Than A Miniseries:
After a self-imposed exile, TNT is back in the original-series game. Its first shot comes in July with limited series The Grid.
The six-hour counter-terrorism series stars The Practice's Dylan McDermott and former ER
star Julianna Margulies. The limited format takes the edge off for TNT execs. The Grid
is a co-production with the BBC, which reduces cost and risk. And limited series, TNT says, attract big name talent (it is a limited commitment) and goes deeper than a one-night movie. We'll see if viewers agree.

VI. Cable Cops Clamp Down

Congress and the FCC are gunning for the foul-mouthed tykes of South Park
and the Spring Break
bikini bunnies of MTV.

Politicians are threatening to shackle cable with broadcast-style restrictions on indecent programming—and it's not just election-year sound bites. This week, the House Commerce Committee will vote on a measure requiring cable and satellite providers to offer programming on a channel-by-channel basis so that cable-TV and satellite-TV subscribers offended by boobs and bad language can't be forced to take the racier networks.

Supporters like Rep. Nathan Deal (R-Ga.) are trying to tuck the measure into a bill governing satellite TV's carriage of broadcast channels. If this last-minute bid fails, the idea is certain to emerge again when the Senate wraps up a broadcast-indecency bill later this month. Sen. Ernest Hollings (D-S.C.) has promised to push a similar amendment on the Senate floor. Under C-SPAN's cameras, lawmakers will be reluctant to vote against cleaner TV.

Congressional wags give the Senate à la carte measure an 80% chance of passing. Even tougher measures banning sexually explicit scenes and profane language during hours kids watch are likely to get a Senate vote as well. During the political "silly season," lawmakers can't resist giving the public what they think it wants. Yes, imposing broadcast-style indecency rules on cable creates huge constitutional problems, but Congress will leave those to the courts. The line on a cable indecency ban: 65% chance of passing.

VII. VCR in a Box

By pushing new digital video recorders (DVRs) into millions of homes, cable operators are giving subscribers a degree of control that threatens to dramatically disrupt broadcast-network business.

But that doesn't mean it's a great business for cable. At $10 a month, cable operators do not see DVRs boosting the bottom line in a big way. The real value of these devices—which are part of the cable box—is to keep subscribers away from DBS, which have offered DVRs for a few years. Sanford Bernstein media analyst Tom Wolzien says that "glue" would give a mere 2% boost to operators' basic-subscriber counts.

A heated debate is now raging over how much damage the devices will actually do to cable and broadcast networks, since greater control means skipping ads. Up to a third of homes are expected to use DVRs in five years. If you combine ads watched during live programming and the fact that 70% of commercials are skipped during DVR viewing, DVR users could be watching 21% fewer commercials in a few years.

Perhaps just as important, it dilutes the power of the "lead-in". Millions of the viewers watching Everybody Loves Raymond
have typically continued to watch whatever CBS aired immediately afterward. Even if DVR junkies are watching the commercials on Raymond, they will no longer flow into the next half-hour.

The Yankee Group estimates that PVRs could cost TV networks and stations as much as $5.5 billion in lost ad revenue by 2006.