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:               July 24, 2003

 

1.                  FIFTH CIRCUIT UPHOLDS FCC FRANCHISE FEE DECISION

In October of 2001, the Federal Communications Commission (FCC) issued an order involving the City of Pasadena, California (“Pasadena Order”) which permitted cable operators to pass-through franchise fees to subscribers on cable television bills based on gross revenues that encompass “non-subscriber” revenue.  Specifically, this non-subscriber revenue included income generated by advertising sales and home shopping commissions.  As a result of the Pasadena Order many cable operators around the country increased franchise fees on subscribers’ bills by .25% or more.

 

A number of local franchising authorities (LFAs) around the country, including a group of Texas franchising authorities and the National Association of Telecommunications Officers and Advisers petitioned the Fifth Circuit for review of the Pasadena Order.  On March 27, 2003, the Fifth Circuit denied the LFAs’ petition for review on the grounds that the FCC had acted within its broad discretion and not in a manner that was arbitrary, capricious or manifestly contrary to the statute in question. See Texas Coalition of Cities for Utility Issues v. FCC, 324 F. 3d 802 (5th Cir. March 27, 2003).

 

The LFAs argued that the Pasadena Order should be reversed because it conflicts with two particular provisions of the Cable Act, 47 U.S.C. §§ 542 and 543.  In particular, the LFAs contended that where the franchise fee is based on the percentage of the cable operator’s gross revenue, only the portion of that fee attributable to revenue from the subscribers may be passed through to subscribers.  The LFAs argued that the Pasadena Order permitted an improper shifting of costs on to subscribers and that each class of the cable operator’s customers should bear a proportionate amount of the franchise fee (i.e., the portion of the franchise fee attributable to advertising revenue should be passed through to advertisers).  The Fifth Circuit concluded that whether or not the court may have interpreted the statutes differently the FCC’s decision is entitled to deference and its order is not arbitrary and capricious.

 

The practical result for franchising authorities across the country is that cable operators can pass-through as a separate line item on subscribers’ bills all franchise fees due and owing the franchising authority.  These franchise fees may include non-subscriber revenues, including home shopping and advertising revenues.  In other words, cable operators will be permitted to reap the benefits of growth in non-subscription revenue while subscribers must bear the financial burden of increased franchise fees.

 

By way of example, if a cable operator sells $100 worth of advertising to a local business to provide commercial spots on the cable system, many franchises require the cable operator to pay a 5% franchise fee on that revenue.  Prior to the Pasadena Order in 2001 cable operators paid the applicable $5 franchise fee on the $100 of revenue and/or assessed the $5 fee to the advertiser.  Under the Pasadena Order this $5 franchise fee is now  spread over all subscribers in that jurisdiction resulting in a minimum .25% increase per month in the total franchise fee paid by a subscriber.  In essence, the more advertising a subscriber watches, the higher the franchise fee on their bill.

 

The Fifth Circuit decision will not result in any reduction in franchise fee payments to LFAs although subscribers will continue to bear the burden of additional franchise fee payments even as cable operators increase non-subscription revenue.

 

2.                  REGULATION OF CABLE MODEMS

On May 8, 2003, oral arguments were held regarding the FCC’s 2002 Order which limits local and state regulation over high-speed Internet access via cable modem.  Municipalities and public interest groups as well as virtually every segment of the industry is participating in the case.  At stake for municipalities is over $300 million in annual franchise fees lost.  The Ninth Circuit is expected to rule on the case by year end.  The FCC also has a pending rulemaking proceeding on cable modem services with a decision expected in the third quarter of 2003, although the Ninth Circuit case may have an impact on the FCC’s timing. 

 

Many local franchising authorities have initiated violation proceedings against cable operators arguing that the cable operators’ failure to remit franchise fees on cable modem services violates their local cable franchise.  Generally, these cases revolved around specific language in the franchise defining the “gross revenues” on which the franchise fees are to be based.  Other cases are based on the argument that the cable operators should not be permitted to cease collection and payment of franchise fees until a final ruling is rendered by the courts and/or the FCC issues its decision in the pending rulemaking proceeding.  Municipalities have been losing up to $3 per subscriber per month in franchise fee revenue as a result of the FCC’s 2002 Order.

 

Interestingly, the FCC on May 30, 2003 released a report regarding Inquiries and Complaints processed by the Consumer and Government Affairs Bureau of the FCC for the first quarter of 2003.  The FCC’s report found that complaints regarding cable service nearly doubled and cable modem service complaints increased by over 100%.  As a result of the FCC’s 2002 Order neither states nor local franchising authorities have regulatory control over the provision of cable modem services.  Thus subscribers with complaints regarding their cable modem service must direct them to the FCC.  Previously the FCC had been referring such complaints back to local franchising authorities.

 

3.                  TIER BY-THROUGH PROHIBITION

Recently, cities have experienced a number of complaints from subscribers arguing that their cable operator will not permit them to purchase pay-per-view or pay-per-channel programming without also purchasing a variety of digital packages or other tiers of programming.  Cities should be aware that in the 1992 Cable Act congress included a provision which prohibits cable operators from requiring subscribers to purchase tiers of programming, other than the basic service tier, in order to obtain access to video programming offered on a per channel or per program basis.  In addition, the Cable Act provision prohibits a cable operator from discriminating between subscribers who subscribe to only the basic tier and other subscribers with regard to the rates charged for programming on a per channel or per event basis.  This provision does not apply if the cable operator is subject to “effective competition” (see discussion below) or if a cable operator has obtained a waiver from the FCC.

 

4.                  CABLE INDUSTRY CONTINUES EFFORTS TO OBTAIN EFFECTIVE COMPETITION FINDINGS

Cable operators across the country have been stepping up their efforts to obtain rulings from the FCC that effective competition is present and therefore rate regulation should no longer apply to the cable operator in a given community.  In order to obtain a ruling from the FCC the cable operator must submit a “petition for special relief and for determination of effective competition.”  A copy of the petition must be provided to the franchising authority and the franchising authority then has an opportunity to respond to the FCC.  It generally takes the FCC several days to place the petition on public notice and the franchising authority then has 20 days from the date of public notice within which to submit comments regarding the petition.

 

While the petitions may be bulky, the basis of the cable operator’s argument is rather simple.  First, the cable operator must demonstrate that a competing provider offers programming to at least 50% of the households in the franchise area and second, the competing operator(s) serves at least 15% of the households.  Typically, the cable operator’s petition is based on competition from DBS providers.  Operators rely on data provided by a company called SkyTrends.  SkyTrends is an entity that provides satellite subscriber totals based on zip codes.  It is important to recognize, however, there are many deficiencies with respect to SkyTrends data including whether the zip codes overlap surrounding jurisdictions, whether relevant commercial establishments, temporary rentals or disconnected satellite subscribers have been accurately eliminated from the cable operator’s calculations and whether the household data reported for the jurisdiction is accurate.

 

Should a cable operator be successful in obtaining a determination of effective competition then the local franchising authority loses all of its rate regulation authority and all of the FCC’s rate regulations are no longer applicable to that cable operator within that jurisdiction.  This would impact such provisions as uniform price structure throughout a jurisdiction, tier by-through requirements, equipment and installation rates and related matters.

 

5.                  FCC REPORT ON CABLE INDUSTRY PRICES

On July 8, 2003, the FCC issued a report regarding cable industry rates.  As reported in many media outlets the monthly rate for cable programming services and equipment increased by over 8% despite the fact that the Consumer Price Index (“CPI”) for the same period increased by only 1.5%.  As a result of the FCC’s Order Senator John McCain, Chairman of the Senate Commerce Committee, described the cable rate increases as “astounding” and stated that “this means that cable rates increased an unbelievable 5-1/2 times faster than inflation.  The cable industry has risen to new heights in their apparent willingness and ability to gouge the American consumer.”  Not surprisingly, the cable industry bristled at the idea of further rate regulation via either congressional action or the FCC and has argued that increased programming, programming costs and related factors mitigate the apparent discrepancy between cable rates and the CPI.

 

6.                  DO NOT CALL LIST

Effective October 1, 2003 telemarketers across the country are prohibited from calling numbers that have been placed in the FCC’s do not call registry.  As of late June over 20 million phone numbers had been registered and the FCC expects up to 60 million numbers within the first year.  However, the FCC carved out an exception for cable operators and other businesses which permits an 18 month window for operators to call “former subscribers” without running afoul of the do not call telemarketing rules.  The only way the customer can stop the cable operator from placing such calls is to verbally request that the cable operator stop when such calls are placed.  Cable operators found in violation of the do not call rules could face fines of up to $11,000 per violation.

 

7.                  CABLE STOCKS REBOUND IN FIRST HALF OF 2003

The battered cable industry which had experienced heavy stock declines throughout 2002 found the going much easier in 2003.  Both AOL Time Warner and Comcast saw their stocks increase over 20% while Insight, Mediacom and Cox experienced more modest growth of 4% to 7%.  Charter and Adelphia, two of the hardest hit cable operators during 2002, saw their stock values increase 200% or more during the first half of 2003 although each still faces hurdles either in bankruptcy or before the SEC.

 

8.                  MUNICIPAL OWNERSHIP TO BE DECIDED BY U.S. SUPREME COURT

Beginning in October 2003 the U.S. Supreme Court will determine whether state governments can block local municipalities from offering telecommunications and cable television services.  The case, involving the state of Missouri, the Federal Communications Commission, SBC Communications and others will prove crucial in determining whether the cable and telecommunications industry can continue its state by state efforts to limit municipal entry into communications business.  Look for further updates on this case in the fall edition of this update.

 

9.                  NEW RIGHT-OF-WAY DECISION

On June 2003, a federal judge in the U.S. District Court for the Northern District of New York invalidated several provisions of a local right-of-way ordinance concluding that they exceeded the scope of a New York town’s management rights under the 1996 Telecommunications Act.  TCI Systems, Inc. et. al. v. Town of Colonie, N.Y. No. 1:00-CD-1972, 2003 WL 21180434 (N.D. N.Y. May 16, 2003).  The town had adopted an ordinance governing the issuance of franchises to telecommunications providers seeking to install facilities for the provision of telecommunications services in the town.  Citing the TCG New York, Inc. v. City of White Plaines, 305 F. 3d 67 (2d Cir. 202) the court invalidated most of the provisions at issue in the town’s ordinance.  The judge acknowledged that the 1996 Act includes a safe harbor provision in Section 253(c) which allows towns to exercise management and control of their public rights-of-way.  However, the judge found that several provisions of the local ordinance went well beyond the scope of lawful management.  These provisions included the ability for the town to consider the legal, financial and technical qualifications of the applicant in deciding whether to approve a franchise.  The judge did uphold the town’s right to consent prior to any transfer or assignment of the franchise.  Most importantly, the court also invalidated the fee provision contained in the ordinance noting that it must be applied on a competitively neutral basis and the town had yet to enforce the local law against Verizon.

 

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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, rate regulation and effective competition proceedings, 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.