tions we have reported. Some communities will have higher incomes, others will require extensive undergrounding, still others will require high-cost local origination facilities, etc. To measure the sensitivity of our findings for typical systems to such variations, we have rerun all of the intermediate-sized systems (tables 5 and 7) assuming that penetration is one-third greater than would be expected on average, for each set of market characteristics. A variety of unmeasured factors can cause actual penetration to vary above or below the average value predicted by the penetration equation. In increasing the average value by one third we have in effect selected only the 10% of the cases in which penetration is most favorable; in other words, nine out of 10 com munities having the same signal lineups, income, etc. will have lower penetration. Turning to the results in Tables 9 and 10 we find that such unusually high penetration is sufficient to produce at least one profitable system in each type of market, at least if copyright fees are absent. Thus, 7,500-10,000 subscriber systems have some chance of earning a going rate of return in the top 100 markets only when local circumstances produce unusually favorable penetration. We turn finally to the financial prospects for cable when copyright fees are required. The predominant effect of Schedule 3, the statutory fees proposed in 5.644, is to reduce the financial rate of return on total capital a full percentage point for profitable 3. 3NV ,10,11U 1EV Size=10,000 Underground=10% 4 3NV, 1EU Size=7,500 # Underground=5% 11, 1E $10,000 49.5% 15.1% 14.7% 14.3% 8.4% 1. 3NV, LIU, IEV 2. 3NV, 1EU 5. 2NV, INU 6. INV, 2NU 7. INV, 2NU 8. 2NU IN, 11, 1E 10,000 73.9 20.1 19.7 19.3 12.3 # minimum originator facilities and no advertising revenue. Markets 1-50 Density=150 $12, 200 Underground=10% 50.5% 2. 3NV, 1EU 31, 1E 11,400 49.5 11.5 11.1 10.7 5.8 3. 3NV, 1Iv, 1 IU 11,1E 12,200 45.9 10.7 10.3 9.9 5.2 Size=10,000 1. 3NV, 1IU, IEV INV 21,1E 1 EU Size=7,500 # Markets 101 + Underground=5% 7. INV, 2NU 11, 1E 55.3% 8. 2NU Size=7500 # $ 9,000 9. 2NV IN, 31, 1E 10.2NU and near-profitable systems, and by somewhat less for systems well below the 10% return level. Thus, in the example system (the first line of Table 4) the rate of return falls from 10.4 to 9.3%. A one-point change in the rate of return on total capital has a considerably larger effect on equity holders. Suppose that one-half to two-thirds of the cable system is financed by 8% 12/ debt instruments. Because of leverage, a 10% return on total capital will then corres pond to a return on equity up to 13% or 14%. In consequence, a decline to a 9% return on total capital can reduce the return on equity by two to three percentage point's, depending on the capital i structure of the system. Changes of this magnitude are more than sufficient to postpone or eliminate construction of cable systems which otherwise appear marginally profitable. The preponderance of evidence in Tables 4-10 is that large systems at the edges of top 100 markets will earn a 10-13% rate of return before copyright payments, large systems in middle markets are not likely to exceed 10%, and intermediate and smaller-sized systems will be marginally profitable only where special factors operate. Copyright fees, at the level of Schedule 3, would significantly slow the rate of growth of cable in the major markets, particularly in middle areas with good quality signals and in edge market communities of intermediate size. 12 In an inflationary period borrowing costs would be higher by Copyright fee schedule number 2 is exactly one-half the rate of schedule 3, As expected, it has approximately half the effect of schedule 3 in reducing the rate of return for all systems. Schedule 4 is the flat 16.5% copyright fee. Its effect on rates of return is devasting. of all variations studied in the top 100 markets, only a single system earns a 10% return--the 50,000 subscriber edge market 51-100 system in Table 8. Fee payments of this magnitude would effectively halt cable growth in the large cities. 42 |