By Scott Berinato
October 22, 2014
When HBO and CBS announced that they’re going to go over the top (OTT),offering their programming to internet users who don’t have cable subscriptions,the news was greeted in some quarters as the beginning of the end of cable TV. Thomas Hazlett, a George Mason University economist and author who has been studying the cable business for three decades, tends to scoff at such predictions. But the ne
ws has at least made him sit up and pay attention.
“For some time, I’ve had trouble explaining the OTT phenomenon in terms that did not seem dismissive,” Hazlett says. “It’s been real, but very much on the margins. The cable/telco/satellite subscription model has held steady in subs and revenues, adjusted for macro-economics factors. Yet, with the HBO announcement, my reflex reaction is: now things are getting interesting.”
But for Hazlett, interesting doesn’t mean cable TV is facing its demise. If anything, he views HBO’s move less like sedition and more like uncertain hedging, and one that could help platform players ultimately continue to thrive.
It turns out that consumers of cable TV have a lot in common with the cable providers they love to complain about. You don’t like having to pay for huge bundles of channels no one watches? Neither does Comcast.
The real power players in the current arrangement are the cable channels.
Providers want to offer popular channels like ESPN and Discovery on a basic tier, because they get people to subscribe to cable. But content creators like Disney (ESPN’s owner) and Discovery tell them that to get those popular channels, providers must also bundle SoapNet, or the Science channel, and dozens of other channels. Oh, and they’ll have to pay a higher license fee for the main channel they want as well. All a network needs is one really popular channel to create that leverage.
This bundling system has been preposterously great for the content companies. Hazlett reports that the cable revenues were split 90/10 between cable providers and cable networks in 1990. By 2005 it was 50/50. Between 1999 and 2008, the number of cable networks doubled, but cable network revenue tripled to more than $42 billion. Cable providers have passed their increased programming costs on to consumers. Expanded basic cable costs 188% more than it did in 1995. (Drastically more than either inflation or wages in that time frame.)
Meanwhile, forcing dozens of channels into the basic tier also gets the programmers instant scale–110 million households–for advertisers. “The strong channels carry the weak ones,” explains Hazlett. “It’s a marketing ploy to get fledgling networks established.” Sometimes this doesn’t work (CNNfn); sometimes it works brilliantly (The History Channel).
And while the networks reach all those households, they don’t have to market to all of them. The service providers are doing that for them by selling subscriptions with their channels. “[Cable networks] don’t want to deal with the mass market,” Hazlett says. “They don’t want to sign up 100 million customers, they want to sign up 20 providers.”
So where does that leave the cable providers?
For them, change will be tougher. Hazlett says that platform players like Verizon and Comcast can’t mimic the a la carte strategy because of the 1992 Cable Act, which mandates that all cable providers’ offers must start with a basic tier that includes the over-the-air channels, the so-called “buy through provision.” You have to buy through the basic tier; additional channels must be on top of that. Even if they wanted to sell you just a broadband pipe plus just ESPN or HBO, they can’t without a policy change.
Hazlett’s not convinced the providers want to do that anyway.
“People think the the service providers are in the programming business, but programming has always just been one of the main inducements to the platform.” he says. Even if you’re streaming shows over the internet, “you still need [internet] bandwidth coming to your house to get it onto your screens. And Verizon and Comcast and those guys are in the best position to sell you that, probably at a higher price than they do now. It will certainly be lower cost for them if they get out of or reduce their participation in the programming business, because there won’t be those massive license fees going out the back door.” That means that a new, a la carte world might be even better for cable providers than the current system.
If this ever happened, it wouldn’t be for a while. “Cable has legs left. The hip tech blogger view is that cable is a dinosaur. But if you look at subscriber numbers, there’s not a lot of migration away from cable.” Although, Hazlett concedes, “You’re seeing a lot of it with Millennials, yes.” They are the least likely to subscribe to a cable bundle and most likely to watch programming on different devices.
And that means the recent HBO and CBS announcements are less a harbinger and more of a hedge. Or as Hazlett calls it, “a straddle.”
Get the Millennials who don’t have cable to subscribe to HBO. If their media consumption habits stay unbundled over time, or if the world moves that way, you got ‘em. If they get married, have kids, move to the ‘burbs and sign up for cable – young families have always been the target demographic for the cable providers, they’re too busy to worry about managing their media habits — well, you still have contracts with the providers so you still got ‘em.
Ultimately Hazlett keeps coming back to the notion that the favorable economics of cord-cutting aren’t necessarily sustainable. Before streaming services were even a thing, in 2006, he argued in a paper cleverly titled “Shedding Tiers for a la Carte” how regulation and other market conditions made it such that “restricting the basic tier… to just those…channels a given subscriber prefers is actually more expensive than providing the large tier to all.”
OTT services like Netflix and HBO Go seem to have changed that calculus by coming in with a lot of content at a much lower cost, but they still rely on the internet bandwidth going into the house, cable providers have priced, thus far, as all you can eat. That means that the favorable economics of paying only for the content you use relies, ironically, on cable providers not pricing internet bandwidth that way, because if it were, some of the heaviest users would be paying much more for it. “Consumers say it’s unfair that they can’t pay for only what they use when it comes to programming,” Hazlett says, “but if you tell them they’re going to pay for bandwidth by getting charged for what they use, they say that’s unfair, too.”
What Hazlett doesn’t see right now is any one company or model with the inside track on the future of TV. “It’s all in flux. No one knows really where it’s going to go,” he says. “There’s a graveyard of failed experiments and it’s growing. And we’re going to see Apple TV, Roku, Google, Sony, Samsung, and others we’ve never heard of all take more shots at this. No one’s gotten it right, and that includes Netflix, which I think may be in the most precarious position of all.
“All these players are trying to get in there, get a spot on the food chain. There’s intense competition everywhere. This is capitalism. It’s fun to watch.”