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The Cloud Hanging Over Cable Stocks

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Cablevision, Comcast, and Time Warner Cable are down as the government's heavy hand of regulation moves closer to reality.

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Last week, FCC Chairman Julius Genachowski arrived at the annual cable industry confab and proclaimed to the assembled masses, "I'm from the government and I'm here to [expletive] you."

Since announcing that the FCC will reclassify broadband as a Title II (i.e. telecommunications) service a week or so ago, Genachowski has placed a cloud over cable stocks. Cablevision (CVC), Comcast (CMCSA), and Time Warner Cable (TWC) are down anywhere from 6%-11% as the government's heavy hand of regulation moves closer to reality. As noted in last week's Wall Street Journal article describing the chairman's address to the meeting, Genachowski believes that the US lags in broadband adoption and that we haven't linked that adoption with economic growth.

The hubris of Washington regulators never fails to amaze. He stands in front of a group of executives who risked big bucks and changed this country's information infrastructure in a very positive way over the last 15 years. Now he's decided the government knows best with the creation of a straw man that doesn't hold up to scrutiny. When that happens, you need to question the real motives behind the messenger. More importantly, this has grave implications for the service providers as well as the telecom equipment OEMs that have helped create the infrastructure we have today.

The advent of broadband access arose commercially in the mid-1990s. Cable companies began replacing their infrastructure with high-speed fiber rings through neighborhoods with coax simply occupying the last mile. At the same time, development and standardization of data access via cable modems took place at the industry's R&D consortium in Colorado, Cable Labs. If you look at the graph below, you'll get an idea of the investment that's taken place to bring broadband to the masses over the last 15 years.

Some of you Cablevision subscribers may be wondering what you're carrier has been doing in recent years, but there's no questioning the commitment by Comcast. My sense is that Time Warner Cable would pretty much look the same were the data available beyond 2003.



Every dollar spent was at risk as there were no assurances that customers would subscribe to the service or that it would perform as advertised. When the telcos of the world finally realized the threat they faced, they fought tooth and nail as only a phone company could -- their lawyers pushed the FCC to classify the new data access as a telecommunications service. After that battle was lost, the phone companies rolled out digital subscriber line (DSL) service aggressively and consumers actually had choices.

Fast-forward to the mid-2000s and Verizon (VZ) does the competition one better with FiOS, its fiber-to-the-home alternative. Today we're on the cusp of mobile broadband via our wireless networks.

Maybe no other company has been the beneficiary of these market trends than Cisco (CSCO). If you think of it as a proxy for the telecom equipment industry, the graph below demonstrates just what success broadband and other technologies have meant to the markets.



As all of this took place, the government did one thing. Courtesy of the Telecommunications Act of 1996, government regulators created two types of services: Title I, a lightly regulated information service where broadband lies today; and Title II, a heavily regulated telecommunications service. Essentially, the government got out of the way and let the markets and demand follow their natural course.

Now, along comes Chairman Genachowski with his government-knows-best mantra and the Great Leap Forward (i.e. 100 million households with 100 Mbps speeds by 2020).

As I suggested earlier, Genachowski's arguments are little more than a straw man because they make no sense. The US is supposedly falling behind in broadband adoption according to the FCC's commentary. How is that possible when 95% of our population has access to it today and about 80% have access to more than one carrier?

Moreover, he asserts that we haven't linked broadband adoption with economic growth. Statements like that make me wonder if Mr. Genachowski is from another planet. Have you heard of Amazon (AMZN) or any other of a million online retailers who, 20 years ago, couldn't have existed?

Fifteen years ago, Cisco was among the leaders in putting its order processing, contract manufacturing, and customer fulfillment operations on the web. Today, you can sit on once of its conference calls and hear CEO John Chambers wax on about the number of telepresence meetings he participated in with customers around the globe during the past week.

I could go on citing examples indefinitely but the point is the Chairman's statements are nonsense. More importantly, changing broadband to a Title II service does nothing to achieve the stated objectives and does everything to obtain the hidden agenda: power and control.

There are very real concerns investors should have relative to service providers and equipment companies should this change occur. It will stifle investment, not stimulate it.

The FCC is attempting to couch its move in language that's carefully chosen to create an innocuous image. Phrases like, "narrow and tailored" and "light-touch role" are the talking points employed by the FCC and its proxies on this issue. However, the critical issue for service providers and that which they fear the most is how the forbearance clause of the 1996 Telecommunications Act will be applied.

Title II (telecommunications) service providers have 48 separate provisions (sets of rules) that are applied to them by the FCC to ensure that they're being good corporate citizens. The forbearance clause allows the FCC to refrain from enforcement of any provisions that may hinder the development of a technology and/or service.

The weight of Genachowski's argument to the service providers is based upon "trust me and future FCC chairmen." He suggests that, in nearly two decades, there's never been an instance in which the heavy hand of the FCC was allowed to come down upon an industry. While that may be factually correct, it's no assurance that the policy won't change at some future point.

What makes Genachowski's logic more suspect is his argument that his motives are to protect access (i.e. net neutrality) for the next Google (GOOG), the next eBay (EBAY), and the next Amazon. "It's about speakers who are speaking lawfully and want to have a chance to reach their audience."

No one who's been speaking lawfully has been silenced, but the Chairman is suggesting that it could happen in the future. If that's the case, then the application of forbearance could change as well.

You can't have it both ways, Mr. Genachowski!
No positions in stocks mentioned.
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