700 MHz Aftermath: What Does The EchoStar Win Mean?

EchoStar getting a near-national footprint ranks as one of the major successes for the 700 MHz auction. Chased out of the AWS auction, deserted by its former partner DIRECTV, no one gave EchoStar much hope of winning anything significant (with the exception of yr hmbl obdn’t blogger).

But what does it mean? Can EchoStar become the broadband “third pipe” hoped for by Martin and others? Or is the conventional wisdom right that this is just about improving EchoStar’s subscription television service? Or is there something else at work here? According to the Wall St. Journal (subscription required), the same analysts that could not understand why Ergen would play, and did not believe he could win, now wonder what the heck he will do. Nor is the journal alone in asking this question.

My short version is: EchoStar cannot become a serious broadband provider with just E Block spectrum — particularly given the current service rules for E Block. But, as we all know, FCC service rules are fluid — particularly when licensees promise to deliver broadband services (the recent changes to the AWS service rules providing a perfect example). But even with favorable rule changes, EchoStar faces serious capacity issues if it tries to compete head-to-head with DSL or cable modem service.

Still, there are ways EchoStar can pull it out, especially if it focuses on rural markets with relatively poor broadband connectivity. While the E Block licenses don’t have enough terrestrial capacity to go head-to-head with FIOS or even the high-end cable or DSL services, it can provide a better option than dial-up or ridiculously expensive broadband currently available in flyover country and even in the exurbs. And then there are the perpetually swirling rumors of an AT&T/Echostar merger. Could the E Block merely be AT&T bait? More importantly perhaps, does even Charlie Ergen know what the heck his plan is? Or did he simply see an opportunity and grab it?

In advance of tomorrow’s lifting of the anti-collusion rules, when winning bidders will finally start talking about their plans, I offer my own speculations.

More below….

First, one of the characteristics of successful entrepreneurs (and Ergen surely qualifies) is an ability to recognize opportunity and move decisively while retaining flexibility. Entrepreneurs take big risks confident that they can figure out some way to make it pay. Of course, a lot of times this doesn’t work out, and the number of risk takers that fail far, far exceeds the number who succeed. Nevertheless, it’s important to remember that Ergen himself may not yet have a clear plan beyond the idea that this was a one-time chance to acquire the spectrum and that he could figure out a way to make it profitable. If nothing else, as Aloha demonstrated by selling their 700 MHz spectrum to AT&T, Ergen can likely recoup his auction investment by selling the licenses acquired today to someone else later on.

In addition, the analysts trying to figure out Ergen’s plan (assuming it exists) are focused on the short term, and fail to see the long term problems for Echostar. Or, more accurately, they see them but would like Echostar to solve them by selling out to AT&T. Echostar has reached a limit on its ability to compete effectively with cable, and its competitive position is further undercut by the very serious entry of telcos into video. Actual growth in satellite has slowed for a number of years, and satellite has never risen above 10% penetration in dense population centers. Cable operators have closed the gap on channel offerings, have an advantage on regional sports networks (and other programming they do not have to share for reasons I won’t get into now), and have all kinds of fun market power tricks up their sleeves to drive up the price of programming and make it much harder for DBS to offer video on demand. DBS providers also do not have their own broadband product that can compete with DSL or cable in the cities — FCC happy happy broadband report notwithstanding — that in any real way competes with cable modem service or DSL. Even where DBS providers have DSL resale agreements, they cannot offer VOIP and thus cannot get the “triple play” attraction and lock in that has helped drive cable customer retention and lock in. Then there’s the physical problem of needing a clear view of the southern sky, which screws a lot of people living in densely populated urban areas.

On top of all this, Echostar finds itself one down against its DBS rival DIRECTV. With Murdoch selling DIRECTV to John Malone, DIRECTV will have far greater access to both News Corp. and Liberty Media programming. Small wonder the analysts want to see Ergen sell (and one reason why Ergen recently split off the residential satellite service as DISH and keeps other assets in Echostar Holding Co.).

But another characteristic of extremely successful entrepreneurs is that they do not give up easily and are usually not eager to give up control — especially when they have built a multibillion dollar business from the ground up. Ergen’s E Block purchases provide him with a number of reinvention options to keep Echostar/DISH viable as a profitable business with reasonable expansion prospects. Or, in the alternative, to enhance his value significantly if he must sell. If nothing else, the spectrum will be a huge help in dealing with the very serious increase in high-def traffic and carrying the multiple streams of programming digital broadcasters may offer.

The Third Pipe Option

For Echostar to become a real wireless broadband provider, it would need two things. First, it needs to get some rule changes for the E Block. Next, it needs to figure out how to use the E Block spectrum in combination with other spectrum it has. These are not impossible, and the engineering problems are probably more difficult to overcome than the regulatory problems. Second, it needs to combine the E Block assets effectively with its other spectrum assets. Echostar, like other satellite providers, has “ancillary terrestrial component” flexibility. That means that they can use their spectrum that right now works from satellite to earth station (and vice versa) for terrestrial uses. There are limts, of course, and a lot of details about ATC remain in flux. And even if Echostar overcame the regulatory and engineering hurdles, it would be tough to match the speeds cable and DSL providers offer — in cities.

Going Rural

Which brings us to option #2, going rural. Echostar has a fair amount of its customer base in rural areas. As we know (if we ignore the official happy story), the U.S. is having a lot of trouble bringing affordable broadband to rural areas. Echostar’s spectrum won’t compete with a 10 mbps cable modem line or a 20/20 FIOS connection. But it will compete just fine against the providers that provide speeds lower than 1 mbps — especially if the price is right. (Check out Free Press’ 2006 Report for the slow speeds and expensive connection in rural areas. A service that gave 1-1.5 MBPS in rural areas for only $39.95 a month would be a God send in some places.) This may also explain why Echostar ceded the largest urban markets to Qualcom. If Echostar intends to focus on the rural/small market sector, it did not need to spend huge bucks getting into a bidding war for the top markets.

This scenario has advantages and disadvantages for Ergen. On the one hand, it certainly provides Echostar with a path to survival and a means of increasing revenue over time. When we speak about “rural” here, that still covers an awful lot of territory and a good chunk of customers. On the other hand, these are not the most desirable customers favored by investors and advertisers, and the (lack of) population density means lower profits per subscriber. Few entrepreneurs like the thought of surviving as an “also ran,” but it may beat cashing in the chips and going home.

Going Mobile (TV)

Then there’s the idea of adopting a mobile TV service. Last fall, Echostar bought Sling Media. Sling makes boxes that stream your TV through your broadband connection to your computer or a mobile device. Combine Sling with a mobile television service like Mediaflo and you have a “DISH ANYWHERE” service that actually offers something potentially revolutionary and something cable operators can’t do yet. (Which may be one of the reasons Comcast and Time Warner are interested in buying a chunk of Sprint to team with their own AWS spectrum, and may be why Cox also decided to grab a chunk of licenses in the 700 MHz auction on its own. Certainly AT&T’s announcement that it will offer Sony movies via its mobile TV service gives mobile TV a boost, and makes it look a lot more real than the endless trials and beta tests we have seen so far. But if Echostar can get a serious jump on its rivals and fully integrate mobile TV into its service offerings, it may provide the competitive edge it needs to slug it out with its wire-based rivals. True, DISH doesn’t have the largest markets covered. But if DISH is serious about going mobile, it can team with Qualcom or someone else with wireless assets that can provide coverage — as well as leveraging its other spectrum assets.

The real problem for DISH here is getting rights to move its current satellite video package to a mobile TV platform. I anticipate negotiation rights for this to be UGLY. Most of its content comes either from cable operators or broadcasters. Each presents their own headaches for negotiating new carriage agreements, although Echostar could take the position that it is merely offering a “place shifting” option if it limits itself to doing a Sling Box-type service that simply streams its available programming in real time and try to duck those problems. Even then, Echostar is sure to get lawsuits over whether its existing licenses cover mobile TV, and may face complaints that it is violating the rules on importing distant (broadcast) signals in violation of the federal laws governing satellite transmission of broadcast programming.

Assuming Echostar tries to negotiate deals for a mobile TV service, it will run into all the problems it has encountere with its efforts to offer video on demand. Cable companies will assert that the service is not covered under the program access rules (the rules that require cable operators to make some affiliated programming available to rival video providers), will jack up the cost of their own affiliated programming, and will try to lock up other programming in exclusive deals. Local broadcasters will put up a huge struggle and may demand that Echostar (or any other mobile TV provider that wants to offer broadcast programming) to negotiate market-by-market. All of this will be made even more difficult by the temptation for local broadcasters themselves to try to offer additional video services via their additional programming streams, and therefore having no good way to evaluate the value of mobile television rights or what they should be asking for. And then there are the programming rights held by the national networks, which brings in both fights about whose rights for broadcast programming are superior and the problem of bundling mobile rights with other carriage issues during retransmission consent.

I expect the FCC and Congress to get involved eventually to sort this stuff out, if mobile TV ever starts to take off in a big way. In the meantime, Ergen may decide the headaches aren’t worth it — or he may decide to go ahead with an aggressive position that mere “space shifting” does not require a new license and once again count on either winning the lawsuits or having so many subscribers that Congress will have to bail him out. But either way, getting into mobile television in a serious way has a whole set of challenges unrelated to the spectrum or the technology.

Selling Out

Finally, if all else fails, Ergen can either sell off the E Block spectrum or sell out totally. Given that AT&T is now offering its own mobile service via Qualcom’s MediaFlo, and given AT&T’s huge investment in the spectrum generally, Ergen’s E Block licenses may actually prove a serious value enhancer for a deal. While I agree with those analysts who say that Ergen’s investment in E Block spectrum shows he wants to avoid selling out and have capacity to offer rival services himself. But unlike most of those analysts, I don’t think Ergen was ever hot for a deal with AT&T in the first place. Sure they explored it and it makes some kind of sense, but Ergen still controls the company and he is unlikely to want to sell out unless he has no other choice. OTOH, it has no doubt crossed Ergen’s mind that if he must sell out, he’d rather dictate his own terms. Having valuable spectrum, or building a potential rival service, will certainly help him demand a higher price if the day comes when he opts to sell out.

Conclusion

None of these strategies is mutually exclusive. It is possible for Ergen to explore the potential for all of these, including testing how much or how little any of these efforts enhances the value to perspective buyers.

From my standpoint, I think any result that strengthens Echostar/DISH’s ability to compete in the video market against cable and a vertically integrated DIRECTV is a good thing. So in the evaluation of the successes of the auction, I rank Echostar winning a near-national footprint in E Block as a potentially significant success. We will have to see what Ergen can actually achieve with it, given the non-auction challenges ahead.

Stay tuned . . . .