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Excess Pass-Through of Fees on Non-Subscriber Revenues - The Pasadena Petition
A recent issue relates to the amount of franchise fees that cable operators can pass through to consumers. Federal law allows a cable operator to itemize on subscribers’ bills the amount of the bill that is attributable to the cable operator’s franchise fee costs, and to increase its basic service and equipment rates to recover these costs in addition to the maximum permitted rate calculated by FCC rules. Until recently, it was taken for granted that the franchise fee amount thus applied to any subscriber’s bill was the franchise fee on the revenues the cable operator realized from that bill – in the most common case, five percent of the total bill.
In the last two years, however, cable operators have adopted a novel tactic. Most franchises are structured so that a cable provider must include in its gross revenues more than just the revenues it generates from subscribers. For example, in many instances a provider must also pay franchise fees on revenue it has generated from advertising on cable channels and from home shopping commissions. The operators’ new tactic involved attributing all their franchise fees to basic subscribers – including the fees on non-subscriber revenues such as advertising revenues. Under this theory, some cable operators have started passing through, and itemizing, franchise fees that exceed five percent of a subscriber’s cable bill.
In 1999 the City of Pasadena realized that Charter, its cable operator, was engaging in this novel practice. The City also discovered that Charter was charging the excess fees based not on known advertising revenue, but on projected revenue streams. In October 1999, Pasadena filed a petition at the FCC, asking it to rule that cable providers are not authorized by federal law to pass through to subscribers franchise fees based on revenues that are not subscriber-related. Comments were filed by both cable operators and franchising authorities. As of April 1, 2001, however, the FCC had not ruled on the Pasadena petition. Meanwhile, other cable operators, such as Comcast, have adopted this excessive pass-through policy.
The cable operators’ attempt to pass through franchise fees on non-subscriber revenues is contrary to the underlying accounting principle that every stream of revenue bears its own costs – a principle applied in many places in the FCC’s rate rules. Cable providers are attempting to recover costs from their basic cable subscribers that they haven't incurred in providing basic cable service. Moreover, the cable industry position assumes that the operator can force subscribers to pay higher fees because the operator is obtaining additional income from advertisers. This means that subscribers are being forced to subsidize advertisers.
Nor is a pass-through on subscriber bills necessary in order to allow cable operators to recover their franchise fees from non-subscriber income streams. There is nothing that keeps cable operators from recovering franchise fees from advertisers, for example: advertising rates are not regulated. In fact, there is nothing stopping cable providers from recovering these costs both from advertisers and from cable subscribers.
It appears that the cable industry is determined to treat the franchise fee as a tax on subscribers, rather than a cost of doing business for the cable company. But that theory is inconsistent with the court’s holding in the Dallas case, which made clear that a franchise fee is rent, not a tax.
The peculiarity of the cable industry’s position becomes fully evident when one considers that there is no plausible way (much less any rate methodology approved by the FCC) in which a cable operator could accurately compute the amount of this excess pass-through if it were allowed. From a total subscriber bill amount, it is easy to calculate the franchise fee on that bill. But not so for non-subscriber revenues. On the industry’s theory, the cable operator must seek to divide its franchise fees on non-subscriber revenues among its subscribers, and add a fraction of the additional amount to each bill. But the number of subscribers changes month to month, as does the amount of non-subscriber revenues. Thus, it is impossible for a cable operator to predict the “right” amount (even on the industry’s own theory) that should be added to any given bill. Operators are thus resorting to pass-through increases based on estimates – and without any organized way under FCC rules of reconciling or “truing up” those estimates later.
Unless and until the FCC issues a ruling on the Pasadena petition, it appears that local governments will need to respond to cable operators’ excessive pass-through methodology based on existing law and their best interpretations of FCC regulations.
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