December 19, 2014 12:22 PM

The Netflix/Comcast Dispute Pt. 2: Was Netflix Surprised?

As we mentioned yesterday, Section 5 of the FTC Act prohibits companies from engaging in "unfair or deceptive acts or practices."  A lot of the FTC's inquiry focuses how a reasonable consumer would expect to be treated.  Today we'll look at Netflix's contention that, as an OVD, Comcast has an incentive to discriminate against it.  We'll also look at whether Netflix, when it changed its manner of distribution to customers of large ISPs (i.e., most U.S. customers) in 2013, observed ordinary distribution practices for providers of video streaming service.  

If Netflix seems to be the victim of a discriminatory refusal by Comcast to continue to provide uncompensated inbound capacity to Netflix's transit providers (notwithstanding the parties agreed-upon limits of settlement-free capacity), then it couldn't have expected congestion would affect its service. Similarly, if Netflix used normal industry practices for distributing streaming video service, then it could not have foreseen that its service would fail to meet reasonable consumer expectations--and could not have been expected to disclose to these consumers that their grade of service would be below "normal."  

Does Comcast Have an Incentive to Discriminate Against Netflix?

Demonstrating the "incentive/ability to discriminate/exclude" is an essential allegation for any complainant to establish as part of a credible theory of unilateral harm to competition by a dominant firm.  In its Petition to Deny the Comcast-TWC Merger, Netflix attempts to satisfy this element by reciting general statements by the DoJ and FCC to justify settlement conditions in prior mergers.  Netflix recites theoretical statements that an integrated MVPD/ISP (i.e., Comcast) "may" have the incentive discriminate against an OVD.  Netflix seems to be hoping the Commission will assume that it is that hypothetical OVD/discrimination target; and, given that Comcast ("Satan's ISP®") is involved, it's doubtful the FCC will question Netflix's implied victimization.
 
Netflix Service Is a Complement to MVPD Service.  Netflix never directly says that it has been the target of discrimination by Comcast.  Even if we assume that Comcast would--irrationally, according to this GigaOm analysis--favor its lower margin service over its higher margin service (to which Netflix is critical), there is no evidence that Netflix's streaming video service is a substitute for Comcast's subscription video service. 

Instead, all available evidence suggests the contrary--that Netflix offers a complementary service.  Netflix's CEO has said as much, as have the cable companies and satellite companies that want to make Netflix accessible on their set-top boxes, and the large ISPs that offer "free" Netflix service as a marketing tool to attract new customers to their higher tiered services. 

Thus, it is unlikely that Comcast would intentionally degrade such an important complementary service as Netflix, because any devaluation of a complementary service damages the value of the other complementary component (Comcast).  Moreover, if Netflix believed that it was the target of anticompetitive tactics by Comcast, it would not have waited for a merger before complaining to--or filing a complaint with--the FCC or the DoJ. 

Did Netflix Use Reasonable Methods to Deliver Streaming Videos?

Since various parts of the FTC's unfair or deceptive analysis focus on practices that a "reasonable" person might consider unfair or misleading, let's try to get an idea of how other online streaming content is delivered--as the quality of other similar services informs consumers' reasonable expectations regarding online streaming video quality.  Since Netflix's customers noticed that Netflix's congestion-affected service was below their expectations, let's look at how other providers of online streaming video distribute the quality consumers expect of "streaming video service" generally.     

WWE Network.  The same week that Netflix announced its direct interconnection agreement with Comcast, the WWE (World Wrestling Entertainment) launched the WWE Network--a 24/7 online channel broadcast in 720 HD.  Moreover, because the WWE was, for many years, the largest consistent source of MVPD pay-per-view revenues, it would seem that the cable companies would not want to see this content successfully migrate from the MPVD platform to the Internet.

The WWE Network has received generally good reviews with respect to its streaming performance; and no complaints of ISP discrimination have surfaced.  The WWE Network is delivered through a partnership with MLB Advanced Media.  MLBAM, in turn, uses the Akamai and Level 3 CDNs. 

Free Porn.  As the Tony award winning musical, Avenue Q, reminds us (and the FCC is well aware), "[t]he Internet is for porn."   When you stop smirking, consider that many estimate that the volume of adult site traffic is comparable to Netflix's share of Internet traffic. See here, and here.  Moreover, like the WWE Network, the migration of adult videos to the Internet has hurt cable companies' PPV revenues.     
 
Mind Geek is the largest of all streaming adult video providers; its CTO says the company is one of the top 5 consumers of Internet bandwidth in the world.  Mind Geek uses "two of the largest CDNs in the world" to carry its traffic--not that much different from the way Netflix distributed videos (when it cared about congestion).

The "Next Netflix." Every smaller streaming site that I looked at, and which discussed their Internet transit partners, used more transit networks than Netflix.  Many providers that focus on hosting video streaming also offer multiple "CDN-style" server sites at multiple points within major ISP service territories.  See, e.g., Rackspace (9 transit networks & 219 edge locations) and AdultHost.com, which "ensure[s] congestion free" content delivery by: 1) sending packets over the "least congested" route (vs. shortest, like BGP), 2) uses at least 7 different Internet transit networks.    

So, it seems unlikely that Comcast tried to degrade Netflix's traffic by deliberately allowing its transit providers' interconnection points to congest.  Similarly, it doesn't seem like Netflix even used the same standards of distribution that a free porn monopoly provides viewers.  Thus, it was plausible that Netflix knew its customers in Comcast's territory were in for a prolonged period of substandard service.  In the next post, we'll look at the possible implications under the FTC Act. 


***Relevant Facts***

Here is a brief recitation of the relevant facts for purposes of our discussion.  Unless otherwise cited, the facts are taken from the Declaration of Ken Florance http://apps.fcc.gov/ecfs/document/view?id=7521825167 , Netflix's Vice President of Content Delivery, submitted in support of Netflix's Petition to Deny the Comcast-TWC Merger (FCC Docket No. 14-57).

For most of the history of Netflix's streaming video delivery service, Netflix believes that Comcast has required Netflix's third party vendors to pay an additional fee to cover some (or all) of the cost of Netflix-specific capacity augmentation at interconnection points.  Netflix describes 3 instances between 2009 and 2010 where it believes CDNs needed to purchase additional capacity to alleviate congestion issues. Florance Declaration ¶¶ 29-41.

Netflix acknowledges that the volume of its traffic does increase demand for ISP-bound capacity at its vendors' points of interconnection with Comcast.  Moreover, these costs are incremental and specific to the particular point of exchange between Netflix's Internet transit vendor and the ISP.  Florance Declaration at ¶ 46. 

When its traffic was carried on third party CDN networks, Netflix was aware of the costs being incurred on its behalf, but "in the short term Netflix was insulated from a sudden price increase." Florance Declaration at ¶ 39.  While Netflix was using CDNs, its performance over cable systems seemed uniformly better than even on the most advanced telco systems.  http://techblog.netflix.com/2011/01/netflix-performance-on-top-isp-networks.html

While its service was good using 3rd party CDNs, Netflix explains that, "[a]fter the Akamai, Limelight, and Level 3 CDN congestion episodes [2009-2010], Netflix began transitioning its traffic from CDNs (all of whom, we believed, were paying Comcast's new terminating access fee) to transit providers in our continued effort to avoid terminating access fees."  Florance Declaration at ¶ 40.  (dates in brackets added).  Thus, in February, 2012, Netflix signed an agreement with Cogent for Internet transit service.  Cogent began transitioning traffic to Netflix in August 2012.  Florance Declaration ¶ 41.

Based on customer complaints about service quality, Netflix's service deteriorated immediately upon switching to Cogent transit and progressively deteriorated over the next year. Florance, at ¶ 51.  However, beginning in October 2013, Netflix reports a very high level of customer dissatisfaction and cancellations, due to "Netflix's inability to do anything to change the situation."  Florance ¶ 52 (emphasis added).


 
Continue reading The Netflix/Comcast Dispute Pt. 2: Was Netflix Surprised?
December 18, 2014 4:31 PM

The Netflix/Comcast Dispute: Interconnection "Principles" vs. Consumer Rights?

[Note: This is the first post, in a series, in which we'll look at the Netflix/Cogent/Comcast congestion episode from earlier this year.  The focus will be on understanding this event from a different perspective than most of us may have thought about it before.  This series looks further into the question I raised in my last post which is: are existing laws--adequately enforced--sufficient to protect consumers?  For purposes of readability, the full citation of relevant facts has been placed at the end of this post.]

In my last post, I started to look at whether the protracted congestion--and associated consumer service disruptions--caused by the recent Netflix/Cogent/Comcast interconnection dispute indicated that the traditional voluntary agreement structure of the Internet was broken, or whether existing laws might not be enough to prevent protracted consumer disruption.  In a recent article, Prof. Susan Crawford, an advocate for all things Net Neutrality, also highlights the frustrations of customers caught in the middle of the Netflix/Cogent/Comcast dispute,

No federal, state, or local government exercises any oversight over this handful of interconnection points. No Better Business Bureau watches over how your requests for data are being treated.
Prof. Crawford is right to question why consumers got stuck with the short end of this wholesale dispute.  But, I disagree with Prof. Crawford's assumption that new laws--specific to the issue Netflix and Cogent blame for the protracted congestion--are needed. 

As noted in the last post, more specific contracts, and quicker enforcement by wholesale partners are one way to prevent extended periods of consumer frustration.  Similarly, there are also existing laws designed to protect consumers from intentional, or knowing, actions of third parties that prevent consumers from receiving services they believe they are purchasing.

The FTC has expressed concern that it will lose jurisdiction over Net Neutrality-related matters if the FCC decides to reclassify broadband as a Title II service (the FTC Act specifically exempts "common carriers").  Even though I was aware the FTC had asserted jurisdiction to handle Net Neutrality complaints, I didn't really think about the how important the FTC could be. . . until I started looking really closely at the Netflix/Cogent/Comcast congestion episode from earlier this year.   

"It's About the Principle"

When Netflix filed its Petition to Deny the Comcast-TWC merger  in August, I was interested in learning the circumstances that led to Netflix's direct interconnection agreement with Comcast.  I expected to see a pretty basic recitation of how Comcast kept unreasonably increasing interconnection prices, thereby forcing Netflix into lower quality interconnection arrangements.  

Instead, though, the brief spends a lot of time establishing that Netflix's principle--of not paying the ISP any portion of the costs of delivering its content to its customers--was the exclusive factor it relied upon in choosing vendors to deliver its customers' traffic.  The absence of any comparison of various input prices/vendor alternatives available to Netflix seemed odd.  The notion that Netflix was defending a not-purely-economic principle seemed odder still. 

The antitrust analytical framework (which was the ostensible basis for Netflix's opposition to the Comcast-TWC merger) recognizes economic efficiency, and not any unique firm-specific view of how an industry should work.  Yet, Netflix has never indicated that its decisions were based on immediate cost/price effects.  It has even clarified that the costs being imposed by the ISPs are not significant, nor has it raised prices for customers served by the offending ISPs.  See, e.g., this blog post.  Level 3 made the same argument in 2010--that it's not the cost, it's the principle. See this Ars Technica article.   

Prof. Susan Crawford, in the article mentioned above, also observes:

The FCC will find that the money amounts involved in these deals are low at the moment. It's the naked threat posed to the future that is the problem. . . .
The "naked threat posed to the future" may or may not be cause for concern, but--if this threat does not limit the immediate ability of a firm to deliver service--can a firm's reaction to such a threat excuse its performance under its customer contracts?  

It's possible that, for many months at least, Comcast customers (and those of certain other ISPs) were paying for service that Netflix knew to be substandard.  If Netflix failed to take any action to provide the grade of service for which its customers were paying, or to let prospective customers know they would be receiving degraded service for an indeterminate period, then it's possible that enforcement of existing laws might prevent future consumer abuses.    

The Federal Trade Commission Act

Section 5 of the FTC Act prohibits "unfair or deceptive acts or practices" that affect commerce.  An act or practice may be found to be unfair where it "causes or is likely to cause substantial injury to consumers which is not reasonably avoidable by consumers themselves and not outweighed by countervailing benefits to consumers or to competition."  See, FTC "Unfairness Statement."  The FTC is likely to find an act or practice to be deceptive if "there is a representation, omission or practice that is likely to mislead the consumer acting reasonably in the circumstances, to the consumer's detriment." FTC Deception Statement

The standards for unfairness and deception are independent of each other. While a specific act or practice may be both unfair and deceptive, the FTC may find a violation of Section 5 if the act or practice is either unfair or deceptive.

In the next post, we'll look at what happened and whether Netflix's 2013 change in the way it delivered content to the country's largest ISPs seemed reasonably calculated to efficiently deliver content to customers, or, if not, whether it seemed designed to promote another goal.  


***Relevant Facts***

Here is a brief recitation of the relevant facts for purposes of our discussion.  Unless otherwise cited, the facts are taken from the Declaration of Ken Florance  , Netflix's Vice President of Content Delivery, submitted in support of Netflix's Petition to Deny the Comcast-TWC Merger (FCC Docket No. 14-57).

For most of the history of Netflix's streaming video delivery service, Netflix believes that Comcast has required Netflix's third party vendors to pay an additional fee to cover some (or all) of the cost of Netflix-specific capacity augmentation at interconnection points.  Netflix describes 3 instances between 2009 and 2010 where it believes CDNs needed to purchase additional capacity to alleviate congestion issues. Florance Declaration ¶¶ 29-41.

Netflix acknowledges that the volume of its traffic does increase demand for ISP-bound capacity at its vendors' points of interconnection with Comcast.  Moreover, these costs are incremental and specific to the particular point of exchange between Netflix's Internet transit vendor and the ISP.  Florance Declaration at ¶ 46.  

When its traffic was carried on third party CDN networks, Netflix was aware of the costs being incurred on its behalf, but "in the short term Netflix was insulated from a sudden price increase." Florance Declaration at ¶ 39.  While Netflix was using CDNs, its performance over cable systems seemed uniformly better than even on the most advanced telco systems. 

While its service was good using 3rd party CDNs, Netflix explains that, "[a]fter the Akamai, Limelight, and Level 3 CDN congestion episodes [2009-2010], Netflix began transitioning its traffic from CDNs (all of whom, we believed, were paying Comcast's new terminating access fee) to transit providers in our continued effort to avoid terminating access fees."  Florance Declaration at ¶ 40.  (dates in brackets added).  Thus, in February, 2012, Netflix signed an agreement with Cogent for Internet transit service.  Cogent began transitioning traffic to Netflix in August 2012.  Florance Declaration ¶ 41.

Based on customer complaints about service quality, Netflix's service deteriorated immediately upon switching to Cogent transit and progressively deteriorated over the next year. Florance, at ¶ 51.  However, beginning in October 2013, Netflix reports a very high level of customer dissatisfaction and cancellations, due to "Netflix's inability to do anything to change the situation."  Florance ¶ 52 (emphasis added).    



Continue reading The Netflix/Comcast Dispute: Interconnection "Principles" vs. Consumer Rights?
December 4, 2014 3:05 PM

Internet Interconnection: Bad Faith Is No Basis for Good Policy

A few weeks ago, President Obama, acting on some seriously bad advice, formally urged   the FCC to, among other things, consider regulating Internet interconnection agreements.  The "facts" that brought an ordinarily well-functioning market, based on two decades of voluntary agreements, into the President's regulatory cross-hairs were, of course, the highly-publicized disputes surfacing earlier this year involving Netflix, Cogent (one of Netflix's primary Internet transit vendors), and Comcast (at first, and then a series of other large ISPs).  

The only thing that is clear at this point is that there is a lot more information for the FCC to gather, especially from Netflix and Cogent.  The information that is available strongly indicates that the Comcast episode (and each subsequent ISP-specific iteration) was an anomaly, and not likely to repeat itself.  This, alone, should tell us to be wary of rushing to supplant a competitive market with regulation.

Moreover, because of the unique nature of this congestion event--and the fact that such an event had not happened before--the FCC must try to understand everything it can about this event before the Commission even thinks about adopting new rules.  Comprehensive rules are only the answer if the problem is that market participants have no ability/incentive to reach mutually-beneficial voluntary agreements.

Yet, in the present case, the parties were able to reach voluntary agreements; Netflix with Cogent, and Cogent with Comcast.  Therefore, before the Commission concludes that carrier-to-carrier agreements cannot work, it must ask: why didn't the voluntary interconnection agreements produce a timely, efficient outcome in the present instance?    

The Relevant Cogent-Comcast Congestion Facts

For our purposes, we only need to focus on a limited set of facts.  We'll take our facts exactly as presented by Netflix and Cogent (in their bid to obtain regulatory concessions in the FCC's review of the Comcast/TWC merger).  Specifically, we will refer to the Declaration of Ken Florance, Netflix's Vice President of Content Delivery, and the Declaration of Henry Kilmer, Cogent's Vice President of IP Engineering.

--In February, 2012, Netflix signed an agreement with Cogent for Internet transit service, which it would use to deliver traffic coming off CDN agreements later that year.  Cogent began transitioning traffic to Netflix in August 2012.  Florance Declaration ¶ 41.

--Cogent does not provide specific information about its settlement-free agreement with Comcast, but we can discern: 1) the agreement applies to traffic falling within a certain inbound/outbound ratio, 2) the agreement has been in place since sometime in 2008; and 3) for the first 5 years of the agreement, the parties were able to abide by the mutually-agreed-upon terms without issue.  Kilmer Declaration ¶¶ 17, 55, 61-64 and the attached Letter from Arthur Block, General Counsel, Comcast Corp. to Robert Beury, Chief Legal Officer, Cogent, dated June 20, 2013 ("Block Letter").

--Cogent also points out that: 1) it does not believe Comcast is its "peer" and that Cogent only agreed to exchange traffic with Comcast on a settlement-free basis because of Comcast's "market power," and 2) Cogent does not believe there is any reasonable basis for "in/out ratio," which defines the range of traffic volumes subject to exchange on settlement-free terms. Kilmer ¶¶ 42-45, and ¶¶ 55-60.

--According to the Block Letter, Comcast states that, in a capacity planning meeting in the fall of 2012, Cogent told Comcast it did not anticipate needing additional capacity in 2013.  Kilmer at pp. 17-18 of 18.

--In a recent ex parte letter, Cogent only disputes that it affirmatively represented that it would not need additional capacity in 2013. Here at 3.  Cogent does not dispute that it failed to provide any advance notice to Comcast that it anticipated needing additional capacity.   

Good Faith and Bad Faith in the Performance of Contracts

In contract law, there is a general presumption that parties to an agreement will perform their duties fairly and honestly, so as not to deprive the other party of the benefits of their bargain.  This presumption is a part of every contract, and is called the implied covenant of good faith and fair dealing. 

The converse of the implied covenant of good faith is, of course, bad faith.  Bad faith, however, goes beyond simply failing to perform a substantive provision in a contract.  Rather, it is defined as an "intentional dishonest act . . . misleading another, entering into an agreement without the intention or means to fulfill it, or violating basic standards of honesty in dealing with others."   

Defining bad faith in novel circumstances can be difficult, but Professor Stephen Burton, in a Harvard Law Review article in 1980, observes that parties frequently relinquish "future opportunities" to enter into contracts, and these same parties also have some discretion as to how they perform the contract.  Therefore, Professor Burton explains, "[b]ad faith performance occurs precisely when discretion is used to recapture opportunities foregone upon contracting." This test has become a widely-employed benchmark for determining bad faith by state courts. (The Burton article is not available online, but here is a great article by Prof. Robert Summers discussing the Burton test and Good Faith generally).

Did Cogent Exercise Bad Faith By Intentionally Disregarding the Terms of Its Settlement-Free Interconnection Agreement with Comcast?

As an experienced provider of Internet transit services, Cogent would have known how much Netflix traffic it could carry and still be within the terms of its settlement-free interconnection agreement with Comcast.  Instead of limiting the amount of traffic it would accept from Netflix, Cogent went ahead and agreed to accept as much as Netflix wanted to send.  Considering, as well, Cogent's expressly-stated contempt for the traffic ratio (which limited Cogent's future opportunities), it is impossible not to construe Cogent's willful disregard of the traffic ratio as an attempt to "recapture opportunities forgone upon contracting."  

While Cogent tries to insist that Comcast was being unreasonable by asking Cogent to observe the terms of the parties' agreement, the Delaware Supreme Court, not long ago, affirmed that "[a] party does not act in bad faith by relying on contract provisions for which that party bargained, where doing so simply limits advantages to another party." Here, n. 26.  The opinion of the Delaware Supreme Court is relevant because many firms, including Netflix, designate Delaware in contracts designating a choice of law.

Fool Comcast Once . . .

It seems obvious, in retrospect, that Comcast could not anticipate--and was not willing, or prepared, to deal with--Cogent's level of bad faith performance.  It is clear from Comcast's response to Cogent's escalation letter, in June 2013, that Comcast has no intention of treating Cogent's persistent disregard of a crucial term as a "total breach."  Comcast asks only that Cogent purchase transit for that amount of traffic which exceeds the parties agreed-upon ratio.

But, when Cogent refused Comcast's option for preserving the original agreement, while accommodating Cogent's demand for greater capacity, Comcast would have been within its rights to give Cogent notice of its intent to terminate direct interconnection with Cogent.  Because, if Comcast's customers were hitting The Pirate Bay a little too hard (demanding more Cogent-bound capacity), that's what Cogent would have done.  

In 2008, Cogent apparently decided that its settlement-free interconnection agreement with European ISP TeliaSonera had become unappealingly one-sided.  Cogent (probably?) provided whatever notice its agreement with Telia required, and then--fairly suddenly (according to reports)--Cogent simply stopped carrying Telia's traffic. 

In hindsight, Comcast would have best served its customers by simply terminating the agreement.  Though, this course of action would have led to a temporary disruption in service--as Cogent's customers sought other alternatives--it would not have led to the protracted degradation in service that consumers instead had to suffer.  

Nonetheless, the existence of this event will make the system of voluntary network interconnection that comprises the Internet less vulnerable to a future bad faith breach in a critical portion of the supply chain.  Parties to future voluntary interconnection agreements are now much more likely to craft agreements so as to insure against protracted periods of deteriorated service.  A few isolated instances of bad faith should not cause the FCC to abandon its faith in the fundamental structure of the Internet as we know it.  

September 16, 2014 9:00 AM

Chairman Wheeler's Broadband Competition Observations: Title II Implications

On September 4th, in a speech to the startup-focused group, 1776, Chairman Wheeler gave a speech where he discussed consumer broadband deployment and competition.  The Chairman seemed to be of two minds about the state of broadband competition.    

On the one hand, the Chairman praised the valuable benefits that competition has yielded, in terms of spurring ISPs to deploy new, and upgrade old, networks in order to increase the speed and availability of broadband Internet to more Americans.  The White House has previously recognized broadband competition as producing better networks and faster speeds.  

However, after recognizing the value of these new last mile networks, Chairman Wheeler also concludes that the present state of competition is simply not adequate to ensure that consumers can realize all the benefits of these networks,  

Looking across the broadband landscape, we can only conclude that, while competition has driven broadband deployment, it has not yet done so in a way that necessarily provides competitive choices for most Americans.

Speech at 5 (emphasis added). 

The Consumer Broadband Continuum
 
Chairman Wheeler began by introducing the graphic below.  The chart shows, by percentage of households, the number of providers offering service at not only the FCC's currently-defined "broadband" speed (4Mbps down/1Mbps up), but also 3 additional, speed-defined, categories--10Mbps, 25Mbps, and 50Mbps.
Broadband table from Wheeler speech_4.png 

The Chairman explained that 10Mbps was the minimum speed that a household would need to stream one HD movie, and allow for simultaneous Internet use from other devices.  Wheeler also proposes changing the definition of "broadband" to 10Mbps downstream for purposes of participation in the Connect America fund.

The Chairman further argued for changing the definition of broadband, because "only wussies use less than 10Mbps/month, and the United States will not subsidize wussy Internet usage." [citation needed]  The 25Mbps and 50Mbps levels of service, Wheeler predicts, will quickly become the standards, as households continue their inexorable march toward dedicated, fully redundant, OCn SONET service. 

Competition

Wheeler observes that, at the 4Mbps and 10Mbps tiers, most Americans have a choice of no more than 2 service providers.  Moreover, the situation only deteriorates at higher speeds, "[a]t 25 Mbps, there is simply no competitive choice for most Americans."  Speech at 4 (emphasis added).

The poor picture of broadband competition that the Chairman paints has created situations where "public policy" (read: FCC regulation) must intervene to protect consumers and "innovators" from firms with "unrestrained last mile market power."  In these situations, he says, "rules of the road can provide guidance to all players and, by restraining future actions that would harm the public interest, incent more investment and more innovation." Speech at 5.

Title II Just Got Trickier

As most are aware, the FCC is currently evaluating public comments on its "rules-of-the road-for-broadband-ISPs" NPRM, in which the Commission is also considering whether to reclassify broadband Internet service as a "telecommunications service" under Title II.  Supporters of reclassification often contend that it would not compel the FCC to impose any obligations on ISPs, beyond the general statutory duties of fair dealing imposed under Sections 201 and 202 of the Act.

Title II Is Different for Dominant Carriers.  The obligations of any specific common carrier under Title II, however, depend on that carrier's classification within Title II for the relevant telecommunications service.  Consistent with what Title II proponents argue, "non-dominant" carriers have few, if any, company-specific obligations.

On the other hand, carriers classified as "dominant" have to abide by additional obligations that stem from both the statute, as well as a more specific application of the general terms of the statute, because the FCC cannot assume compliance with its general statutory obligations for the dominant carrier service. 

Thus, dominant carriers' rates can be regulated by the Commission, and they must file tariffs, subject to FCC review, describing their terms of service.  Moreover, dominant carriers have longer review times and more stringent standards for initiating new, and retiring old, service offerings. 

Finally, once imposed, dominant carrier regulations are all but impossible to get out from under.  At the end of 2012, U.S. Telecom filed a Petition with the FCC, seeking to have its members (holding less than a 50% market share in a declining segment) declared "non-dominant" for voice service. The FCC has still not acted on U.S. Telecom's Petition.

Implications for Cable ISP's Higher Speed Services

The one thing that Chairman Wheeler could not have expressed more clearly is his belief that cable is the only alternative for broadband service at or above 25Mbps.  Thus, if the Commission were to reclassify broadband Internet service as a telecommunications service, it would be difficult for the Chairman to explain why the incumbent cable providers are not dominant in the provision of higher speeds of consumer broadband service.

The specific Title II provisions, and Commission rules (such as the Computer Inquiry rules), that would apply to the cable companies' dominant telecommunications services would depend in large part on how the Commission chose to reverse the Cable Modem Order.   Although, with respect to the Computer Inquiry rules, in particular, it seems highly unlikely that the Commission would revisit its earlier unwillingness to "in essence create an open access regime for cable Internet service applicable only to some operators." Order at � 46 (emphasis added).

Whither the Dominant Carrier ISP?
 
If we pause for even a second to consider the Commission's reasoning in refusing to apply Computer II to broadband over cable, it becomes very clear why Title II regulation is not the answer.  The easiest way to avoid the incremental hassles that come with being "the firstest with the mostest" is don't be that guy.

What's that, dear broadband network?  You could offer the fastest broadband on the market, but because some additional regulation intended to "simulate" competition means you'll earn less than you would on the "slower" speeds?  Well, the easy answer would be: don't offer the higher speeds! 

This almost seems like that classic case where rent control regulations have the paradoxical effect of creating artificial shortages for the regulated service, limiting access for the very people the laws were supposed to help.  But, I'm sure that could never happen here...

 



September 8, 2014 1:59 PM

Free Press's Misleading Theories on Title II and CapEx (Pt. 2)

In its Net Neutrality Comments, Free Press combines a limited number of less-than-ideal data points with a faulty methodology and a misleading narrative to claim that has "proven" its' reckless accusation that ISPs are lying when they express concerns that Title II reclassification/regulation may distort their incentives to invest in network improvements.  

In the previous post, we discussed some of the problems with the methodology, reasoning, and data Free Press uses to reach its conclusion.  Today, we'll correct Free Press's misleading narrative "interpreting" the data with some relevant facts that you wouldn't know if you only read their comments.  

Ironically, Free Press concludes its misleading presentation of capex "facts" (Comments III.B and III.C) by stating, "[w]e hope that the Commission and other policymakers learn and understand this history, for this debate cannot be a legitimate one if basic historical facts are replaced by incorrect beliefs."  Comments at 111 (emphasis added).  This statement would be OK (but still too preachy), if it didn't just present the FCC with a version of history so tailored for advocacy that it exists only in Free Press's comments.  But, it's easy to forget . . .   

Excessive Investment=Excess Capacity=Loss of Investment + Jobs

Free Press speaks of the period before the Cable Modem Order (in 2002) with a level of nostalgia that would seem more appropriate to a former WorldCom executive than a group claiming "historical facts."  Free Press confidently asserts,

[common carriage], in conjunction with policies that opened up communications markets to greater competition, also was responsible for the largest period of telecommunications industry investment in U.S. history.
Comments at 90.   The only hint from Free Press that this period may not have been an unqualified success is when Free Press allows that, "[m]uch of this investment . . . was a bubble ...." Comments at 111. 

ebbers_nacchio_quote.jpg

Perceived Bandwidth Demand Drove CapEx.  Internet traffic grew at incredibly high rates in the second half of the 1990s, but the Internet was new to most people, and the subject of a lot of hype.  Thus, perceived Internet traffic growth not only outpaced actual Internet traffic growth, but it was also disproportionately affecting perceptions of total bandwidth demand.  But, where would people get these ideas?

Well, in a March 2000 report to Congress, then-FCC Chairman William Kennard stated,

Internet traffic is doubling every 100 days. The FCC's 'hands-off' policy towards the Internet has helped fuel this tremendous growth. 
(emphasis added).  Kennard's predecessor, Reed Hundt, would have none of this foolishness, and wanted people to know that "[i]n 1999 data traffic was doubling every 90 days." (emphasis added) ( Quote is from Hundt's self-congratulatory book, "You Say You Want a Revolution"at 224.)

Kennard_Hundt.jpg
The Reality.  Not everyone at the FCC was buying (or selling?) the hype.  A senior economist at the Commission, Douglas Galbi, published a paper the same year (2000), warning that total bandwidth demand was not as high as everyone seemed to think.

Growth of bandwidth in use for Internet traffic has been dramatic since 1995, but Internet bandwidth is only a small part of total bandwidth in use. . . .
(emphasis added).  Meanwhile, massive fiber deployments and innovations in optical transmission equipment meant that capacity was about to explode.  

The Reckoning. Only a year after Kennard's report to Congress, CNET reported that the U.S. was in the midst of a bandwidth glut, and that prices would likely decline much further.  
By summer 2001, the equipment companies issued clear warnings that the unraveling was well underway.  A few months later, the Enron scandal would break.  

Over the next year, what followed was the largest dislocation, in terms of job loss (500,000) and wealth destruction ($2 trillion) the telecom industry has ever seen.  See, e.g., this BusinessWeek article.  Law professor Dale Oesterle writes that the telecommunications industry in 2002 may have been the largest, most scandal-ridden, industrial meltdown in U.S. history.  Here at 1.

The Aftermath. After the telecom bubble burst, depressed Internet transport prices would continue well into the middle of the decade.  If you're wondering how low  

In 2006, Level 3 needed additional transatlantic capacity, so it purchased 600Gbps of lit capacity on another carrier's transatlantic fiber.  At the time of this purchase, though, Level 3 was carrying 480Gbps of traffic on its own transatlantic subsea cable system; a system that was scalable to 1.28Tbps.  In other words, Level 3 already owned unlit transatlantic capacity, but using its own fiber didn't make sense because wholesale prices had dropped below operational and replacement costs!

The Biggest Lie About Capital Investment

The central deception of Free Press's entire misleading capex narrative is, of course, the notion that the 2002 Cable Modem Order was the defining event for broadband Internet capital investment.  As explained above, the telecom bubble had little to do with Title II, and neither did the bust.  Moreover, broadband Internet services, in particular, benefited more from the bust (post Title I classification), than they did from the boom.

The cheap [below-cost] Internet bandwidth of the early/mid-2000s led to a lot of web application experimentation and new Internet companies.  Consumers responded quickly, and favorably, to the new, high bandwidth Internet applications, like Myspace. Xbox, and Youtube.    

This led to strong consumer broadband Internet adoption, which could not have been possible if the broadband ISPs had under-invested in their networks.  The FCC data show broadband Internet services increased by a factor of about 4.5 between 2002 and 2008; from 17 million customers in 2002 (see Table 3) vs. around 75 million telco and cable broadband customers in 2008 (see Table 1). 

Indeed, this 400-500% increase in demand for broadband Internet service compares favorably with total bandwidth demand growth of around 300% during last half of the 1990s. See Galbi at Table 2.  In fact, the success of the broadband Internet economy (Internet companies, backbones, metro fiber providers, and broadband ISPs) from 2002-2008 would finally end the bandwidth glut, and bring back demand for new "Title II" Internet transport capacity, including transatlantic capacity.

Free Press tries to prove that broadband ISPs are lying about their concerns with potential new, and undefined, rules under a Title II reclassification.  But, if the FCC is tempted to change its regime based on erroneous cause-effect propositions that ignore historical facts, then it would seem the broadband ISPs have every reason to fear the unintended effects that will accompany a new regulatory classification.