Brian T. Grogan

(612) 347-0340

E-Mail: GroganB@moss-barnett.com

Web site: www.municipalcommunicationslaw.com

COMMUNICATIONS LAW UPDATE

To: Moss & Barnett Clients and Interested Parties

From: Brian T. Grogan, Esq.

Date: September 13, 2002

1. FCC Issues Competitive Franchising Decision

CTC Telcom, Inc. (“CTC”) filed a complaint with the FCC against the city of Rice Lake, Wisconsin regarding CTC’s attempt to obtain open video system (“OVS”) authorization in the city. The city is also served by an incumbent cable operator, Charter Communications, Inc., (“Charter”) and the dispute arose over the appropriate level of public, educational and governmental (“PEG”) financial and in-kind contributions to be provided by CTC. In the matter of CTC Telecom, Inc. v. the City of Rice Lake, Wisconsin, DA 02-1720, 2002 WL 1576927 (F.C.C. July 17, 2002).

FCC regulations provide that OVS operators must satisfy PEG obligations that are no greater or lesser than the PEG obligations of cable operators. Charter was providing the city with a capital grant of $5,821.20 per year. CTC argued that it was willing to pay the same “per subscriber” capital grant and additional capital grants as Charter but could not effectively compete with Charter in Rice Lake if it must pay exactly the same dollar amounts as Charter when CTC’s subscriber base is significantly less than the size of Charter’s subscriber base. CTC also argued that it should be permitted to count “connection costs” as an offset against its matching financial contributions to PEG.

Rice Lake argued that it had established the depreciated value of Charter’s in-kind contribution (the cost to establish origination points so that live programming could be aired from each point) and demanded that CTC be required to pay the monetary equivalent of that amount. In comments submitted by Charter, Charter asserted that the FCC had previously stated that duplication of equipment would be inappropriate so OVS operators should, at a minimum, be required to pay the local franchising authority the monetary equivalent of the depreciated in-kind contribution, or in the case of facilities, the annual amortization value.

The FCC concluded that when negotiations fail, FCC rules require that the OVS operator must match any contributions made by the incumbent cable operator rather than share the annual PEG access financial contributions of the local cable operator. By way of example, the FCC stated that if a cable operator makes an annual contribution of $15,000 that is used to purchase PEG access equipment, the OVS operator will be required to do likewise.

In the case of in-kind contributions, in the absence of mutual agreement between the parties, OVS operators must pay the local franchising authority the monetary equivalent of the depreciated in-kind contribution, or in the case of facilities, the annual amortization value. The FCC did, however, conclude that the costs associated with the OVS operator’s connection to the cable operator’s PEG access channel feed should be borne by the OVS operator but such costs can be counted toward the OVS operator’s matching obligation.

Finally, CTC argued that Rice Lake was attempting to mandate that CTC match in-kind contributions made by Charter before CTC served Rice Lake. The FCC clarified that any matching PEG contributions requested by Rice Lake that are attributable to Charter contributions made in years prior to which CTC commenced service are precluded. Further, CTC is only required only to match Charter’s PEG contributions, either cash or in-kind, that actually are used to provide PEG services.

This case is important as it establishes guidelines for how municipalities negotiate with competitive cable providers when attempting to address ongoing PEG contributions by the incumbent cable operator. Municipalities around the country often face similar questions from competitive cable television operators either pursuing traditional cable television franchises or OVS franchises.

2. Eighth Circuit Overturns FCC Decision – Municipalities Can Provide Telecommunications Services

On August 14, 2002, the Eighth Circuit overturned an FCC order which will mean that Missouri municipalities and municipally owned utilities will now be able to provide telecommunications services. Missouri Municipal League v. F.C.C., 299 F. Supp. 3d 949 (8th Cir. 2002)

The Telecommunications Act of 1996 adopted Section 253 which is intended to remove barriers to entry in the telecommunications field. Subpart (a) of Section 253 provides that no state or local statute or regulation may prohibit or have the effect of prohibiting the ability of “any entity” to provide any interstate or intrastate telecommunications service. Various Missouri municipalities filed a petition with the FCC asking that it preempt a Missouri Statute which contained a prohibition on the provision of telecommunications services by political subdivisions. While the FCC expressed disagreement with the Missouri Statute the FCC did not preempt the statute. The municipalities appealed to the Eighth Circuit which concluded that the phrase “any entity” contained in Section 253(a) included municipalities and, therefore, the plain language of the Federal Statute preempted the Missouri Statute.

As a result, the Eighth Circuit vacated the FCC’s order and remanded the case back to the FCC for further proceedings consistent with the Eighth Circuit decision. The case is a significant victory for municipalities and comes on the heels of a similar victory in the state of Virginia in City of Bristol v. Earley, 145 F. Supp. 2d 741 (W.D.Va 2001). Taken together these cases provide a strong precedent that any state statutory prohibitions on municipal authority to provide telecommunications services and facilities will likely be preempted under 47 U.S.C. § 253.

2. MSOs Seek to Reduce Capital Expenditures

In mid-August, Charter Communications pledged to its investors that it would reduce its debt load which is presently at about $18 billion. One of the chief ways in which companies like Charter will attempt to reduce their debt load is to significantly reduce capital expenditures. Such reductions will likely have a corresponding impact on system upgrade commitments, the launch of video-on-demand services, and/or improving equipment including digital set-top boxes. The impact on municipalities approaching franchise renewal may be significant as there simply may not be sufficient capital available to commit to immediate system rebuilds.

A quick glance at stock prices of major of MSOs provides even more revealing information regarding the dilemma. Cablevision stock is down 84% from its 52-week high, Comcast is down 42%, Adelphia has declared Chapter 11 Bankruptcy, AOL Time Warner has traded at or near $12.00 off its 52-week high of approximately $50, and AT&T is down nearly 50% to just over $10.00 from its 52-week high of $21.00.

Franchising authorities may wish to keep a close eye on any franchise mandated capital projects as your cable operator may be looking for all possible ways in which to reduce capital expenditures and improve cash flow.

3. FCC Extends Prohibition on Exclusive Contracts to 2007

In 1992, Congress included a prohibition on exclusive contracts by cable operators that owned satellite delivered cable or broadcast networks. The prohibition was scheduled to sunset on October 5, 2002 unless the FCC determined that the prohibition is necessary to preserve and protect competition and diversity in the distribution of video programming. The FCC recently conducted a rulemaking and, not surprisingly, the cable industry argued that there was no longer a need for a prohibition while DBS providers argued that an extension was necessary. The FCC recently concluded that the prohibition on exclusive contracts should be extended for five years, until October 2007.

4. Cable Rates

a. According to the Consumer’s Union cable rates have shot up nearly 45% since the Telecommunications Act of 1996 was adopted, while inflation has risen only 16.5% during the same period. Cable operators have argued that increased programming costs and capital expenditures necessary to improve their systems have resulted in rate increases.

b. The FCC has also initiated a rulemaking proceeding seeking comment on revisions to the FCC’s cable television rate regulations. The FCC proceeding has been commenced as a result of the elimination of regulation of the cable programming services tier (i.e. expanded basic cable service) which sunset in March of 1999. While many municipalities continue to regulate the rates for the basic service tier many smaller municipalities have found the process to be overly complex and costly. The FCC’s proceeding will consider modifications to the existing rate regulation process and will also consider broader changes taking into consideration issues such as systems subject to effective competition and procedures for Commission review of local rate decisions.

5. Cable Modem Dispute Continues on Two Fronts

The FCC’s Declaratory Ruling that cable modems are an intrastate information service and not a cable service has resulted in two separate proceedings. First, the FCC is conducting a Notice of Proposed Rulemaking on cable modem service. Moss & Barnett submitted comments in this proceeding in June of 2002 (see our web site for a copy of comments) and reply comments were due in August of 2002. A number of national municipal organizations submitted joint comments in this proceeding and the FCC is expected to issue its decision by year end. At the same time, the FCC’s Declaratory Ruling has been appealed to the Ninth Circuit and initial briefs are due later this fall. No decision in this case is expected until mid to late 2003.

For now virtually the entire cable industry has taken the position that revenues from the provision of cable modem service are not to be included in franchise fee calculations for municipalities. Several municipalities nationwide are considering breach of franchise enforcement procedures as a result of various contractual provisions. The precise wording of a municipalities’ franchise with its cable operator is crucial in determining whether the municipality has a basis for an enforcement proceeding.

Cable operators will undoubtedly argue that regardless of the franchise language the FCC’s Declaratory Ruling preempts local franchises and prohibits the collection of franchise fees on cable modem revenues. Given the timing of the FCC’s March 2002 decision, quarterly payments from cable operators excluding cable modem service revenues are just now being received by municipalities and select enforcement proceedings may commence in the near future. At stake in this entire dispute is literally hundreds of millions of dollars in lost franchise fee payments to municipalities should the FCC’s Declaratory Ruling be upheld.

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Brian T. Grogan is a shareholder with the Minneapolis law firm of Moss & Barnett practicing in the areas of telecommunications and cable television law. Brian represents entities throughout the country on franchise renewals, transfers of ownership, competitive franchising, telecommunications planning, right-of-way management, first amendment issues, tower siting, leasing and zoning, litigation and other related communication matters. He is a frequent presenter at state and national conferences regarding communications law and he is a member of the American Bar Association (Forum Committee on Communications Law), National Association of Telecommunications Officers and Advisors, International Municipal Lawyers Association (Contracts, Franchises and Technology Section), and is past chair of the Communications Law Section of the Minnesota State Bar Association.

Brian Grogan at Moss & Barnett, 4800 Wells Fargo Center, 90 South Seventh Street, Minneapolis, MN 55402, phone: (612) 347-0340 or via email at groganb@moss-barnett.com.

Web site: Please visit www.municipalcommunicationslaw.com for additional updates on communications law issues of interest to municipalities.

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The materials in this Communications Law Update have been complied from a variety of sources and address only a portion of the relevant issues contained within hundreds of pages of regulations and decisions. We have not addressed many important points that may apply to your situation. You should consult with legal counsel before taking any action on matters covered by this Communications Law Update.