ISSUES OUTLINE FOR JUNE 29 HEARING ON AB 2987

State- or Locally-issued Franchise/Tax or Fee?

The first question posed by this bill is whether a state franchising process should replace the existing local franchising process. The author argues that the local franchising process is protracted and expensive, giving local governments an ability to leverage the potential franchisee with costly new obligations. Technological advance has created a new, more competitive world where franchising should be simplified and streamlined. Local governments argue that the local franchising process works fine. They note that some cities have offered the telephone companies an expedited franchise if they are willing to adopt the identical franchise as the incumbent cable operator. And if the local franchising process is protracted or expensive, the state could simply constrain the local government by requiring timely processing and restricting their ability to extract concessions, eliminating the need for establishing a state bureaucracy.

There is disagreement among local government as to the proper way to draft the bill. The authors will offer language, supported by the League of Cities, that has the state imposing the franchise fee. This ensures that the franchise fee is not a tax subject to local approval pursuant to Proposition 218. (Staff of the Senate Local Government Committee agrees with this approach.) But counties have concerns that these amendments could be perceived to transform the franchise fee into an unconstitutional state tax used for local purposes because the franchise fee is paid for the use of the local right of way. Local governments will try to harmonize their viewpoint over the summer, so further amendments may be necessary. Local governments note that this issue is mooted if the local governments were issuing the franchise, rather than the state.

Gross Revenues/Right of Way

Though they have many concerns, two additional issues are at the core of local government’s opposition: the definition of gross revenues and local control over the right of way.

The gross revenue definition has importance because it is the base upon which the franchise fee is levied. Fully two and one-half pages of the bill are devoted to defining what is and what is not included in that definition. The authors have tried to be as inclusive as possible but because the definition varies among local franchising authorities it has been difficult to settle on a definition which does result in less revenue for any city. The authors will offer language that satisfies the cities that they will not lose revenue. But the video providers are concerned that the resulting definition is overbroad. They wish to have time to review this language and continue the discussion, perhaps offering amendments.

Video service will often be bundled with telephone and internet service. Because different taxes and fees apply to each service, the apportioning of the bundled revenue among those services has great importance. Page 15, line 7 begins the discussion about allocating bundled revenue. But that methodology described in the bill could be simpler. The authors and committee may wish to consider instead allocating the revenues for bundled service between each type of service in proportion to the price of each service if provided separately.

Local governments are concerned that the bill limits their ability to control access to the public right of way, a critical issue because the new video-capable telecommunication networks require installation of large refrigerator-sized boxes every couple hundred homes. There is an argument that the bill could be construed to allow for a telecommunications company to not pay the franchise fee. This is not the intent of the author, and the authors will offer language that satisfies both local government and the video providers. The effect of such language is to allow local governments the same control over the installation of video equipment as they have over the installation of telephone equipment.

Opt in/Abrogation

Cable companies argue that it is unfair for telecommunication companies providing cable-like service to operate under a different regulatory scheme. A level playing field requires that when telecommunication companies are permitted to operate under a state franchise, so too should the cable companies, they contend. Opponents argue that a deal is a deal. Cable companies agreed to a local franchise; it would be unfair to let them out of those voluntary agreements.

While local franchises are voluntary agreements, it seems unfair to impose different rules on similarly situated companies. Local franchise agreements were negotiated before the telecommunications companies became a significant competitive threat. The formidable threat of Verizon or AT&T surely changes the landscape upon which the original franchise was based. The authors will offer language allowing cable operators to seek a state franchise, and upon receipt abrogate their existing local franchise, once any competitor with a statewide franchise is within 10 days of actually providing service. This amendment will also bar an incumbent cable operator from abandoning service until the date that the local franchise would have expired on its own terms.

Small telephone companies also desire abrogation of their existing franchise agreements. Under this bill they would be permitted to abrogate under the same terms as the incumbent cable operators. But they also wish to abrogate if there are multiple cable providers, without regard as to whether either of the operators has a state franchise. The concern with this proposal is that the existing cable providers agreed to compete pursuant to terms voluntarily negotiated with the local franchising authority. This changes those terms unilaterally, to the detriment of the franchisor. While the existing franchise conditions may be a hardship, that hardship was assumed knowingly and voluntarily.

Non-discrimination/Build-out Commitments/Technology

Under a typical local franchise, the cable company must build out virtually the entire local community using its best technology. Many argue that if the level playing field principle is to apply, telecommunications companies should have that same obligation.

Requiring a complete build out of an entire city, much less the telecommunications company’s entire telephone foot print, is probably an unfair burden due both to the engineering/cost constraints and to the differing circumstances. Telecommunications companies wish to build their cable networks in a sort of overlay to their existing telephone network. The telephone networks consist of linked computer sites. From each site telephone lines branch out into neighborhoods like tree branches. These branches are designed for engineering efficiency and therefore do not coincide with political boundaries. This contrasts with cable networks which, because they are locally franchised, were designed and built to coincide with the local franchisor’s political boundaries.

And it is fair to account for the differing circumstances between the incumbent cable operator and the telecommunications company. When the incumbent sought the franchise there was no competition. Today the telecommunications company competes against the incumbent cable operator and satellite providers. This competition means that financial success is less assured for the telecommunications companies, though they do have the considerable advantage of starting with an existing telephone network and nearly 100% market share for telephone service.

This does not mean that there should not be any build out requirement. California has an interest in promoting the widest possible availability of these services so that the greatest possible number of customers may benefit. The authors have negotiated build out commitments from each of the two largest telecommunications companies. Those commitments, 25% of customers offered video service within 2 years, and 40% within 5 years for Verizon, and 35% within 3 years and 50% within 5 years for AT&T, reflect the different technology and installation hurdles faced by each company. While well short of 100%, these requirements are far more than either company has agreed to in any other state.

The same can be said for the anti-discrimination language. While discrimination in the offering of video service is barred, the law is difficult to enforce without numerical targets. This bill again goes beyond other state and federal franchising bills by establishing a specific test for ensuring that discrimination is not occurring. That test, which is that within three years at least 25% of the households being offered video service are low income, and 30% within five years, is measurable and enforceable.

While the authors expect the companies to live up to these requirements, they are not absolute. After two years the telecommunications company can seek a waiver of any of these anti-discrimination and build out requirements. The waiver can be granted if the franchising authority finds that the company has made substantial and continuous effort to meet the requirements. While some flexibility is reasonable, allowing a waiver after just two years sends the signal that the requirements aren’t serious. Surely Fortune 500 companies can make commitments of longer than 2 years. The authors will propose allowing for the seeking of the waiver only after the companies have met their 2- and 3-year build out requirements.

The second escape hatch is that the five year build out requirement, 40% for Verizon and 50% for AT&T, does not apply until two years after at least 30% of households with access to their video service subscribe for at least six months. This is an automatic escape hatch not subject to franchising authority review. While some flexibility for a lack of financial success may be reasonable, this metric is hard to measure and appears to be so high that it may well be unattainable. The authors and committee may wish to consider applying this success-based market test only to Verizon because of its very high cost of installing infrastructure.

Cable companies are required to provide their most capable technology to all of their customers. Under this bill, AT&T would be permitted to meet its build out and anti-discrimination obligations using its satellite-based product. This mixes apples and oranges because their satellite-based product can be offered without a franchise and is not subject to franchise fees; it is not the subject of this bill. That product is also not a new video competitor because it relies on a satellite service which is currently available. And the product does not result in the degree of new jobs and investment as their fiber-based product. AT&T has said that the satellite-based product is an interim product that will be replaced with their fiber-based product. While the satellite-based product is a fine product, it is clearly not as good. The authors and committee may wish to consider amending the bill to preclude satellite based service from being used to meet the build-out and anti-redlining requirement but to allow the use of other equivalent technologies.

Cross-subsidy prohibition

Competition is unfair if one competitor can use the profits of a relatively uncompetitive business to subsidize its entry into a relatively competitive business. This anti-competitive behavior hurts customers because it creates an unlevel playing field, making it more likely that competition will be neither robust nor durable. Most telecommunications markets are competitive, though less so after the mergers of AT&T/SBC and MCI/Verizon. Competition keeps a lid on rate increases and so provides a check against anti-competitive cross subsidy. But the market for basic residential telephone service is not very competitive. While there is some substitution of cellular service for basic residential service, and there are a few competitors, such as Cox Cable, by and large there is little competition. Indeed for residential service, AT&T and Verizon, the two largest telephone companies in the country, don’t compete with each other. And the effect of cross-subsidization could be huge. With just a $1 increase in basic telephone service rates, AT&T would raise roughly $100 million annually, fully 30% of what AT&T is going to invest in California to provide video service over the next three years, creating a considerable competitive advantage.

Ensuring there is no cross-subsidization could be accomplished with a rigorous and continuous examination of the revenues and expenses of the telephone companies. But the CPUC no longer has the capacity or inclination to do such work. A simpler, though less precise, mechanism is to simply cap basic telephone rates. This is the mechanism used by the CPUC since the late 1980’s to assure that rates for non-competitive services were reasonable and that cross-subsidies did not grow. The authors will offer an amendment capping basic residential telephone rates at current levels until January 1, 2009, allowing for inflation increases if approved by the CPUC. Consumer groups find this proposal insufficient. They are concerned about ongoing cross-subsidy and recommend that the CPUC be required to perform audits to ensure that is not occurring.

Franchising Authority

No state agency has volunteered to be responsible for administering the state franchising process. This bill has at various times assigned those duties to the Department of Corporations, Department of Consumer Affairs, and the Secretary of State. There is no perfect fit in state government, but the closest fit is the California Public Utilities Commission (CPUC). The CPUC already has regulatory authority over telecommunications companies as well as the telephone operations of cable companies. It is the only state agency with an understanding of telecommunications markets and has for several years analyzed broadband markets, issuing reports on broadband deployment. And it regularly conducts public hearings, takes testimony, and examines evidence. Concerns have been raised about the CPUC’s faithfulness to the law, given their remoteness from Sacramento. This concern can be at least partially addressed through regular Legislative oversight. The authors will propose making the CPUC the state franchising entity and to constrain their ability to delay issuance of the franchise.

Customer service standards

California established minimum state-wide cable customer service standards more than ten years ago. This bill makes those state standards, as well as existing federal standards, a part of the state franchise. The penalties for a material breech of those standards are low, having been capped in the original statute and never updated. For example, the maximum penalty for a material breech is $200/day, hardly enough to be a deterrent. The authors will propose the following:

Raise the maximum penalties;
Allow such penalties to accrue for violations within each service area;
Clarify that the video standards established by federal law and regulation are also enforceable;
Clarify that the enforcement of customer service rules is the responsibility of local government without oversight by the CPUC;
Clarify that the CPUC may issue regulations to interpret the federal regulations and state standards if there is inconsistent enforcement;

Privacy

The major telecommunications companies have admitted to sharing customer information with federal authorities without a warrant, raising privacy concerns. Heightening those concerns are very recent press reports that AT&T will keep track of their video customers’ viewing habits and that those customer records are business records owned by AT&T.

Both federal and state law establish privacy protections for personally-identifiable information of cable subscribers. Section 631 of the federal Cable Act bars cable operators from using the cable system to collect personally identifiable information concerning any subscriber without the prior written or electronic consent of the subscriber, except as such information is necessary to provide cable service or detect cable theft. California Penal Code Section 637.5 bars cable companies from providing any person with any individually identifiable information regarding its subscribers, including television viewing habits, without the subscriber’s express written consent. Cable companies may only retain subscriber information to the extent reasonably necessary for billing purposes and other business practices. A cable company may compile and distribute a list containing the names and addresses of its subscribers if the list contains no other individually identifiable information and if subscribers are afforded the right to opt out. Cable companies may not make individual subscriber information available to government agencies in the absence of legal compulsion. The authors will propose making telephone corporations offering video service also subject to the same state and federal restrictions.

California Environmental Quality Act

There has been some concern about whether this bill impacts CEQA. There are two articulated concerns. The first is that the bill does not make clear who the lead agency is for CEQA review. For telecommunications projects the CPUC is the lead agency. For cable television projects the local government is the lead agency. The authors will propose that local governments be the lead agency for CEQA review, which is agreeable to all parties.

The second CEQA concern is that the bill requires applicants to agree to comply with all federal and state statutes and then provides a list. That list does not include state resource protection statutes such as the Coastal Act and the Fish and Game Code. The authors and committee may wish to make this technical amendment.

Emergency Alert Systems

An emergency alert system exists today for most cable operators. Under this system a governmental entity can interrupt broadcast or cable programming to display emergency announcements, such as Amber Alerts or storm warnings. These announcements can either interrupt the full screen or be displayed as a crawl at the bottom. While the bill contains provisions for Emergency Alert Systems (p.20, line 34), local governments are concerned that these provisions do not include authority for county interruptions that they have negotiated through their cable franchises. They view this as creating a coverage gap in their emergency notices. They suggest that language be added to require holders of state franchises to provide county offices of emergency services with a direct capability to override audio and video signals and broadcast emergency messages on all channels on the system simultaneously to customers within the originators’ counties.

Video providers agree that some older franchises provide local government with the ability to override the cable signal but that newer franchises do not. They are concerned that allowing too many public safety agencies to make emergency interruptions could cause confusion among the public. Telecommunications companies suggest that their systems are unable to provide city- or county-specific overrides.

The staff does not yet have an adequate understanding of the EAS system to make an informed recommendation.

Public, Educational and Governmental Access/Institutional Networks

Federal law authorizes cable franchisors to require channel capacity to be set aside for PEG use. While federal law does not define PEG use, the legislative history suggests that PEG channels were intended to be “the video equivalent of the speaker’s soapbox or the electronic parallel to the printed leaflet. They provide groups and individuals who generally have not had access to the electronic media with the opportunity to become sources of information in the electronic marketplace of ideas. PEG channels also contribute to an informed citizenry by bringing local schools into the home and by showing the public local government at work.”[1]

Federal law also authorizes additional fees to pay for the capital cost of supporting PEG activities. Some local franchisors have negotiated for institutional communications networks (I-net) as part of the franchise negotiations. This bill establishes a minimum number of PEG channels for the state franchisees equivalent to the number of PEG channels carried by the incumbent cable operator. If the cable operator has no PEG channels then the local government can request up to three. This bill also permits local entities to establish an additional fee of up to 1% to fund PEG capital costs.

Local governments raise concerns that the bill will reduce PEG funding and I-net support. In some cases this is true. While many cities impose no additional PEG funding, some cities do at a level greater than 1%. Other take-aways occur if cable operators are allowed to abrogate their local franchises. Local governments have been creative in negotiating for PEG/I-net services. But once the local franchises lapse, either through abrogation or the lapse of the term, this bill does not provide local government with any room to negotiate to keep their deals.

This bill also does not provide for minimum funding of PEG capital costs. The bill does require the state franchisee to set aside a channel for state public affairs programming.

This bill createS a level playing field with regard to the PEG obligation because the same obligation applies to every franchisee. The unresolved questions are whether the state should establish a minimum level of PEG funding, whether existing PEG/I-net obligations of cable operators should remain through the end of the local franchise irrespective of abrogation, and whether local governments and video/cable operators should be permitted to negotiate their PEG/I-net agreements.

[1] H.R. Rep. No.98-934, at 30 (1984), reprinted in Telecommunications: The Governmental Role in Managing the Connected Community by Paul Valle-Riestra (2002), p.183.)