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that all of the facts that will be developed will support that lower fee schedule.
Senator McCLELLAN. What do you base that on? Just the idea that you want to get out of it as politely as you can?
I want something concrete here to show us if we can. I asked the other side if they were prepared to document or submit what they consider to be reasonable fees. They haven't.
I wonder if you have come now with something concrete, that you could submit to us, other than you say, well, you support the bill. In other words, show why the fees should not be more.
Mr. FOSTER. Dr. Mitchell has a rather detailed testimony and I believe that he will develop some facts along that line. He will demonstrate that the fee schedule that is in the bill will have a very serious economic impact on the industry and, in many cases, will take profitable cable operations from black ink into red ink.
Senator McCLELLAN. All right. Proceed.
Mr. Foster. For the first 5 minutes of Mr. Valenti's testimony, I thought that the National Cable Television Association was here to defend a breach of contract suit, but let's be very clear about this one point.
Senator McCLELLAN. What about that consensus agreement?
Mr. FOSTER. Mr. Chairman, we have supported the concept of cable television's paying reasonable copyright fees since 1968. You will recall in 19968 that the Supreme Court decided that cable TV operators did not have to pay copyright fees.
Senator MCCLELLAN. That was on local broadcasting, wasn't it?
Mr. FOSTER. Yes, sir. That was essentially the decision of the court. But not withstanding that decision, the National Cable Television Association has continually adopted as its official position that the industry should pay reasonable copyright fees. We did that long before the consensus agreement and we feel that was the basic, undergirding intent of the consensus agreement—to work for the early passage of copyright legislation.
We feel that S. 1361 represents that kind of copyright legislation that can be passed at an early date so that we can get on to the more pressing issues facing this industry.
Now let's talk a little bit about what has happened since the consensus agreement, since we have been negotiating with the motion picture interests, with music interests. But I will speak primarily about the motion picture interests. Continually since the consensus agreement—at intervals as often as once every week or as often as once a month-we met in extensive negotiating sessions to try to determine whether or not there could be a meeting of the minds between the parties on what might be a reasonable copyright fee.
Both parties hired expensive knowledgeable economists with a long list of credentials to try to develop facts and circumstances which would provide some realistic basis for those negotiations. We foun that the parties positions were far apart and that no factual data that was available to us could bring the parties any closer together,
Why was that the case? Primarily because cable television is still in its infancy. It is a very, very small industry. It is primarily operating in rural areas, in smalltown areas, and the major big-city markets which is really what we are talking about here in terms of the future of these copyright papers—have not yet been wired. And those small areas close to the big city markets that have been wired do not provide us with the kind of economic data that would provide a basis for a reasonable negotiation. So after many months of those negotiations, we came to the conclusion that there was no factual basis and, therefore, it was appropriate to turn this matter over to the wisdom of this committee and the Senate to come up with a fee schedule. By setting down an initial fee schedule in the bill, the concept of arbitration could then come into effect at a time when we would, hopefully, have some hard factual data based upon the experiences derived over the next 3 years.
During that period of time, we will be paying copyright fees and we will have experienced the copyright payment concept. The allocation of those fees can be worked out. The economic impact of those fees on our industry will become apparent. And we think that it is then the appropriate time for the satutory tribunal to do its work.
If that tribunal were to be convened today, it would have the same difficulties that the parties had during the past 2 years trying to conduct negotiations—they would simply be speculating as to the future of this industry, but they wouldn't be dealing with anything except one economist theorizing from one direction and another economist theorizing from the opposite direction. What would come up would be certainly no more valid, and I suspect a lot less valid, than the wisdom of the Senate.
And, therefore, we are supporting the concept of S. 1361 that the fee schedule to be imposed at this time with arbitration or a statutory tribunal, whichever you want to call it, coming into play at a time when we have evidence to deal with.
Now let's talk about what the cable television industry really is, because I think we have to have a very clear picture of that to understand what these copyright payments mean. I am now talking about the community antenna aspect of the cable television industry.
What do we do? Well, we put up an antenna at some point on top of a mountain, and from that antenna we receive television broadcast signals off the air. We don't alter those signals in any way other than to improve the quality of the signal. We then put it on a cable, a wire which goes into a family's home and into their television set.
We cannot alter the programing content in any way. We cannot put any commercials on those stations. We cannot take off any commercials. We cannot take off any programs unless we are required to do so by the rules of the FCC.
If we are carrying a channel, and it's carrying a program that we don't want to carry, we must still carry it. We have no selection process at all. We must take what they give us and all we can do is improve the quality of that signal and deliver it to some homes that wouldn't otherwise have seen that signal. That sponsored message that paid the full price of that program is now being carried to a home which ordinarily would not receive that broadcast signal.
Senator McCLELLAN. In effect, you mean to say that your service is to extend the coverage ?
Mr. FOSTER. Yes, Mr. Chairman. As a matter of fact, some people have suggested—and not at all facetiously—that the broadcasters ought to pay us for carrying those signals into areas where they would not otherwise go. We are giving their
sponsors a break. Senator MCCLELLAN. Do they have any effect on what they charge for advertising?
Mr. FOSTER. In many cases, Mr. Chairman, we understand that it does. We understand that they base their audience rating on the cable system population and thus increase the price they charge for the commercials.
I think you can understand that against that background, where we have no choice of what programs we carry, all we do is improve the quality of that program and extend it beyond a geographical range.
Under the circumstances, you can understand why it has been difficult for the cable television industry to accept the concept of paying copyright fees. To us, it sounds like I use a phrase that Fred Ford invented—I'm glad that Fred is here today—“two tickets for one show." Somebody has already bought the ticket to the show, and now we're being asked to buy it again.
Now, Mr. Chairman, we have accepted that concept, the concept of paying reasonable fees. But I think against that background, you can understand why we feel that those fees should be minimal at the outset, and that the economics of the marketplace show what they might be in the future.
Now let me address a couple of points before I turn the microphone over to my associates. There is not an exemption in the bill for small systems. Many of the small systems operators who are here today will be urging you, and have urged you in correspondence that I know they have sent you, to exempt all systems under 3,500 subscribers. These are the small growing systems. They have particularly difficult economics associated with them.
The motion picture people have told us time and time again that they are not looking at the small systems for the revenues. They are looking for the large, big city systems that are yet to be built.
And therefore, it is our official position, Mr. Chairman, that the small systems under 3,500 subscribers should be exempt from the payment of copyright fees. On the other hand, we do not feel that either nonprofit or governmental systems should be exempt. We feel that since they are directly competitive with free enterprise cable systems, they should pay the same kind of copyright fees.
Before I hand over the microphone, Senator Burdick, I would like to answer the question that you asked about why we should have a compulsory license with one flat fee across the board for the industry. The average television station carries approximately 5,000 programs per year. Let's say that the average cable telerision system carries five television stations. That would mean that the individual cable system operator would have to negotiate a copyright fee for about 25,000 individual programs.
He has no choice as to whether he has to carry those 25,000 programs. He can't say, I don't want to carry this one. It's a worthless program. He has to carry it under any circumstances.
Therefore, we feel that across the board compulsory license is the way to go. I think that you can imagine how difficult it would be for some poor cable operator down in Arkansas with 500 subscribers to have to come down to Mr. Nizer's office in New York and negotiate
25,000 individual copyright contracts. It would be an unreasonable burden.
At this point then, I will turn the microphone over to Dr. Bridger Mitchell, who will address what economic data we have been able to develop, Senator.
Dr. MITCHELL. Senator McClellan, Senator Burdick, my name is Bridger Mitchell. I am appearing at this hearing in my capacity as an economic consultant to the National Cable Television Association. While I am affiliated with the University of California at Los Angeles, and the Rand Corp., the views and conclusions expressed are those of the author and should not be interpreted as representing those of the university or the Rand Corp., or any of the agencies sponsoring its research.
In the context of the American economy, cable television today is a small industry. About 7 million homes buy its television reception service, paying on average of slightly more than $5 per month.
This year, approximately 3,000 cable systems are in operation, with annual revenues of about $400 million. Ownership of a number of these systems is by a single firm. The 10 largest firms account for about 44 percent of all subscribers.
Cable's development to date has been almost exclusively in the smallest television markets and in the fringe reception areas of a few larger cities. In those areas, the willingness of consumers to subscribe is due to the limited number of broadcast television signals available and their frequently poor reception quality which results from distance from the transmitter, or intervening terrain.
The major promise for cable television is yet to be realized. As Mr. Foster has emphasized in his statement, about 85 percent of the homes in America are located in the 100 largest television markets, and until March of last year, construction of cable systems in these markets was effectively blocked' by policies of the Federal Communications Commission.
These markets differ significantly from the communities which have been wired to date, especially in their relative abundance of broadcast signals and generally high-quality aerial reception.
Any projection of the future growth of this industry and the prospective effects of the copyright fee schedules proposed to this committee must incorporate these central facts. I have attempted to provide such an analysis in the paper, “Cable Television Under the 1972 FCC Rules and the Impact of Alternative Copyright Fee Proposals," which has been appended to Mr. Foster's written statement.
Very briefly, the method of analysis I have employed is to construct a financial model of a cable television system which incorporates the major factors affecting a system's size, costs, revenues, and profitability. For example, capital expenses depend on the geographic size of the system in miles, the amount of cable which must be laid underground rather than strung from existing tility poles, and the proportion of homes in the service area which actually subscribe, generally referred to as the penetration rate.
Operating costs are similarly related to the number of subscribers, the number of imported signals, taxes, and regulatory fees. In the same manner, revenues are determined by the monthly subscription charge, the system size, and the penetration rate.
But penetration, the generally employed measure of consumers' demand for cable service, itself depends on the monthly charge and the increase in both the number and quality of television signals on the cable relative to those available using only a home antenna.
This method of describing the economics of a cable television system was first developed in 1970 to analyze the then proposed FCC rules in a paper which Dr. William S. Comanor and I prepared for the Commission proceedings, and a number of researchers have subsequently employed versions of this model to explore related questions about the industry.
By programing the financial model for calculation on an electronic computer, the effect of a variety of different assumptions and conditions can be readily determined. Thus, I am able to adjust the size, number of broadcast signals, construction methods, and other parameters to the conditions expected to be obtained in several different types of communities.
Consequently, these typical systems are representative of the circumstances and profitability of most cable systems that could be built in the major markets.
My present study takes into account the final Commission rules and is addressed particularly to the impact of alternative copyright fee schedules on cable systems in the large urban markets. Although I have allowed for the effects of providing public access channels and programing locally originated by the cable system, as required by the FCC rules, I haxe excluded from the analysis both the costs and the revenues which may eventually result from leased channels including pay television channels and other nonbroadcast services. Since programing shown on these channels is fully subject to the present copyright laws, cable operators will have to bid for the rights to carry such material, and it is not necessary to examine the operation of that market here.
Let me now attempt to summarize my major findings; greater detail may be found in the paper itself.
Conditions for the development of cable service vary widely throughout the 100 largest markets. Near the center of these cities, penetration, the percentage of homes that actually subscribe, will range from 22 percent to 35 percent for typical systems. These urban areas generally receive all three network signals and in the larger markets there are one or more independent stations with good reception.
Even in the absence of copyright fees, profit rates for centrally located systems will be lower than returns available to capital invested in other industries. Except in exceptional circumstances, cable systems will not be built in the central cities under present FCC regulations.
Toward the edges of the major markets, signal quality, particularly for UHF broadcast stations, deteriorates rapidly. Typically, systems located in such communities will achieve penetration rates of 34 percent to 45 percent.
As a result, before payment of copyright fees, the large or multipleowned systems will earn before-tax real rates of return of between 9 and 13 percent. These profit rates, while not particularly high, are likely to attract equity investors who are able to finance an important fraction of the system from borrowed capital.