Harmless Collaboration or a Threat to Competition and Consumers?

On March 21, the Senate Judiciary Committee’s Subcommittee on Antitrust, Competition Policy and Consumer Rights held a hearing on Verizon’s proposed acquisition of spectrum from cable companies and related commercial agreements. The deal -- announced December 19, 2011 – is being reviewed by the Federal Communications Commission and the Department of Justice. Some lawmakers at the hearing cited AT&T’s failed acquisition of T-Mobile as confirmation of fears that consumers will face fewer choices for wireless service providers even as they come to depend more than ever on mobile devices as their primary tool to communicate. By book value, the Verizon-cable deal would actually be larger than the spectrum that would have been transferred in the AT&T/T-Mobile deal. The deal is the single largest spectrum transfer that the Federal Communications Commission has ever considered.

Three questions kept coming up during the hearing: Will Verizon's purchase essentially eliminate a major competitor from the industry? Are Verizon and the cable companies colluding to drive up broadband prices? And does Verizon really need the spectrum it’s buying from cable operators, or is it just placing it out of competitors’ grasp?

Over the last decade, Verizon has been Comcast's strongest competitor, and Verizon's new 4G/LTE network represents the most promising wireless alternative to a traditional wired broadband connection. But closer cooperation between Verizon and Comcast, many fear, will reduce competition between the two firms.

Verizon and Comcast Make the Case for the Deal

Verizon wanted to impress on the lawmakers that the deal is different from AT&T’s failed acquisition of T-Mobile . Verizon General Counsel Randal Milch made the case that the proposed spectrum deal would not hinder competition in home broadband markets since Verizon and the cable companies would still be competing with each other for wireline subscribers. He argued his company has made a "significant investment" in FiOS and they don't plan on abandoning it now. He added that Verizon never planned to expand FiOS beyond its current coverage area. Milch also said his company has already made several key investments into expanding its current capacity and will need additional spectrum to keep building out its LTE mobile broadband network.

David Cohen, the executive vice president for Comcast, backed up Milch's testimony and said that Verizon would not enter into collusion with cable providers over wireline service since it had already put so much money into building out its FiOS fiber-optic network to go head-to-head with the cable companies. But he admitted that Verizon and Comcast had already made business decisions to not compete in some markets. "Verizon announced over two and a half years ago that it did not intend to build FiOS out to additional areas, and the cable companies have made a considered business decision not to build a new wireless network," he said.

Subcommittee Chairman Herb Kohl (D-WI) asked Milch, “You argue you won’t end FiOS . . . but how will we know you will keep the same level of price competition . . . against cable companies?”

Chairman Kohl grilled Cohen over recent comments from a Comcast executive that the company "never" planned on using its spectrum. The FCC bars companies from warehousing or stockpiling spectrum without planning to use it. Cohen said his company intended to launch its own wireless network when it bought the spectrum but realized in recent years that plan was not economically viable. He said the use of the word "never" was "unfortunate."

Charles Rule, an antitrust attorney who has worked at the Justice Department, testified the spectrum sale is unlikely to run afoul of antitrust law because the cable companies were not using the spectrum and are not direct competitors with Verizon's wireless business.

Sen. Mike Lee(R-UT) questioned whether critics of the deal were overstating the competitive harms and that "regulators must take care to incentivize the productive use of spectrum."

The Side Agreements

When the spectrum sale was announced, Verizon and the cable companies also revealed that they had entered into side agreements. Through these agreements, the cable companies, on the one hand, and Verizon Wireless, on the other, will become agents to sell one another's products and, over time, the cable companies will have the option of selling Verizon Wireless’ service on a wholesale basis. Additionally, the cable companies and Verizon Wireless have formed an innovation technology joint venture for the development of technology to better integrate wireline and wireless products and services. That would allow, for example, a consumer to walk into a Comcast store and get a Verizon Wireless plan tacked on to his television, Internet and landline phone service.

The marketing agreements also create a shadow joint operating entity (JOE) between Verizon and the cable companies. This JOE, some argue, is worrisome because it could lead to agreements about technology, deployment strategies and research and design that will be controlled by the large Internet service providers (ISPs). The fear is that this organization will be able to slowly stifle new innovations for Internet services or even devices attached to wireline networks by creating technologies and standards that are only available to the JOE participants. Perhaps others might be able to license those technologies, but there’s no guarantee of that, or that the JOE would do so for a fair and reasonable amount.

At the hearing, Comcast’s Cohen defended his recent comments implying the cross-marketing agreement and spectrum sale were linked. He admitted the deals were negotiated at the same time and are "integrated," but he said they are not "contingent." Both Cohen and Verizon's Milch said they would move forward with either deal even if the other collapsed.

The price Verizon is paying for the licenses, $3.6 billion, is low considering how valuable a commodity spectrum is these days. Comcast’s Cohen testified that the spectrum was shopped to a number of carriers, including T-Mobile, and suggested Verizon offered the best deal.

"These agreements simply represent a deal between these companies to stay out of each other’s way in perpetuity," said Joel Kelsey, a policy adviser for Free Press. "They put former rivals on the path to cooperation, not competition."

Cohen testified, “By enhancing the Cable Companies’ and Verizon Wireless’s own products and services, the Joint Venture will compete with similar solutions that AT&T, Dish Network, Google, Apple, Microsoft, and others already have introduced into the marketplace. This, in turn, will spur other companies to respond, perpetuating a cycle of competitive investment and innovation.” To back up his argument, he cited the following news items: Google’s Android launch; a Google/Sprint deal that put the search giant’s tools on Sprint handsets; Apple’s iPad launch; the fact that many tech companies have been buying wireless patents; and Google’s pending deal for Motorola Mobility. In other words: In the future, our competition won’t just be other pipe companies, but other device makers, too.

The companies have argued that the FCC does not have the authority to review the cross-marketing agreement because it is independent from the spectrum sale. The Department of Justice is reviewing the agreements and public interest advocates – including the Benton Foundation – argue the FCC should include the agreements in its review as well.

Charles Rule said the cross-marketing deals do not "knock my socks off," but are not unusual. He said the companies' agreement to launch a project to research new technologies could lead to new innovations for consumers.

The Arguments Against the Deal

Steven Berry, the CEO of the Rural Cellular Association, argued that Verizon already owns substantial spectrum reserves in many major markets and does not need further spectrum to remain competitive. He testified that the spectrum deal would make it harder for smaller carriers to compete and would drive up prices for consumers. "It is the equivalent of eliminating a competitor in marketplace," Berry said. "Telecom policy should not be relegated to the mantra of 'if you can't beat 'em join 'em.'" Berry http://money.cnn.com/2012/03/21/technology/verizon-comcast-spectrum/index.htm said if the government approves the deal, it needs to place several requirements on spectrum use to preserve competition among smaller wireless carriers, such as forcing Verizon to divest in certain spectrum holdings and mandating that Verizon offer small carriers affordable roaming and backhaul agreements.

Joel Kelsey, a policy adviser for Free Press, pointed out that the wireless industry has already seen tremendous consolidation over the past decade, including mergers between Sprint and Nextel, AT&T and Cingular and Verizon and Alltel. He said that since spectrum is a finite resource, carriers that acquire large chunks of it can effectively shut out competitors by raising barriers to entering the market. He said that collaborating with the cable industry would reduce Verizon's incentive to build out its own cable television and Internet business, FiOS.

Tim Wu, a professor at Columbia Law School, argued that a truly competitive market would see wireless broadband services competing with cable companies for home Internet services instead of being offered as part of a bundle package. He pointed out that there would be little reason for consumers to buy expensive bundle packages in the future once wireless technologies evolve to the point where they can deliver faster Internet services than today's wireline services.

GigaOm’s Kevin Fitchard noted that Milch and Cohen kept side-stepping the issue of all of Verizon’s non-FiOS markets where it only offers DSL. In those markets, Verizon is essentially ceding the residential broadband market to Comcast Time Warner and Bright House Networks. Chairman Kohl said he hoped to assess whether the deals “amount to a truce between one of the two largest phone companies and over 70 per cent of the cable industry.”

What Next?

Chairman Kohl (D-WI) told reporters after the hearing that he had "strong concerns" that the transactions would hurt consumers, but he said would continue to review the data before recommending whether regulators should block them. During the hearing he asked, "Having won the battle for competition by blocking last year's AT&T/T-Mobile merger, are we now in danger of losing the war?" He pointed out:

“Spectrum is government granted public airwaves to be used for the public interest. Is it in the public’s (best) interest to sell this spectrum to Verizon, the nation’s biggest wireless company, which will keep it out of the hands of any of the competitors. Wouldn’t it have at least been better to have a public auction for this spectrum?”

Sen Al Franken (D-MN) said he is "skeptical" about the deals. "It's almost as if your companies got in a room together, and you agreed to throw in the towel and stop competing against each other," Sen Franken said. “I fear consumers will see their cable rates rise.”

Craig Moffett, an analyst at Bernstein Research, says the transactions “amount to nothing short of a complete reordering of every facet of the telecom landscape in the United States.”

Ryan Radia, an analyst at the Competitive Enterprise Institute, said that the hearing should have focused more on a "rigorous discussion of how the spectrum deal would actually affect consumers." Specifically, he said, he would have liked to see Senators ask "which companies, if any, are better equipped than Verizon Wireless to deploy mobile services using the spectrum?” Given that Verizon was willing to pay the most for the spectrum, he suggested, the wireless giant should probably be allowed to have it.

On March 26, another round of arguments against the deal will be filed at the FCC. That should generate headlines for a few days and then the Department of Justice and FCC will dig through all those comments. At this point, it is tough to predict their conclusions.

In his blog, Harold Feld suggests that IF the FCC approves the spectrum transfer, we will see conditions designed to address the competition and rural deployment concerns. In a Bloomberg op-ed, Susan Crawford points out that Comcast’s Cohen said that the FCC and the Department of Justice have no power to review the joint venture agreements among Verizon and the cable companies. “On that issue he may be right as well -- and that’s a problem,” she concludes. Feld sees the contracts as a thornier issue, too, with a range of possibilities from requiring the parties to suspend the agreements entirely to agreeing that the agreements fall outside of the FCC’s jurisdiction to a whole bunch of possibilities in between. Unlike the spectrum concentration issues, the issues raised by the side agreements are novel, difficult, and go to the heart of every serious competition question in the new world of telecom convergence. In other words, there are exactly the kind of thing that agencies loath needing to make decisions about — especially in the context of an existing transaction.