The biggest cloud hanging over the proposed merger of Comcast Corp. (NASDAQ:CMCSA) and Time Warner Cable (NYSE:TWC) is that the combination would result in a larger monopoly than now exists in the cable industry.
Right now, the cable industry is "a patchwork of local monopolies." So, the problem seems to revolve around what the definition of "is" is... As the combination of Comcast and Time Warner Cable is a monopoly.
To me, the wisest statement I have heard concerning this potential merger comes from Susan Crawford, a former special assistant to the President for science, technology and innovation policy. Ms. Crawford is now a visiting professor at Harvard Law School. Ms. Crawford writes in the Financial Times
"That the country that was the birthplace of the Internet should have fallen so far behind testifies to a monumental failure of regulation."
I could not have said this better, myself.
"Too often the Federal Communications Commission has proved supine. This will not change without action from political leaders in Washington ... Yet all of this was true even before last Thursday when Comcast announced its proposed merger with Time Warner Cable."
The problem that is facing this industry does not just have to do with Cable television. It has to do with cable, and the Internet, and entertainment, and the news, and high-speed fiber optics networks, quite a few other spaces.
This, to me, is a part of the modern problem… how to deal with the new age of information technology. Regulators and regulations, in my mind, are just not up to it. Regulators and regulations are already way behind time, and are going to fall further and further behind… especially if they have to wait for the "political leaders in Washington" to catch up.
But, this is a topic I have written about over and over again in the past four years. The Dodd-Frank legislation aimed at preventing the last recession from happening again is an example of the situation. Whereas the biggest banks, because of electronics, have moved way beyond this legislation, it has left the burden of the bill to fall on smaller organizations less capable of bearing the burden of the new rules and regulations. I have written about this many, many times.
We have peer-to-peer funding of venture efforts. We have merchant funding efforts. We have new asset classes that are creatures of the Internet environment. We have Gillian Tett writing in the Financial Times about "alternative asset managers" which "now matter as much as the bankers ..." and they are leading in the newest use of electronic technology. And, financial market trading is now moving more and more into the electronic trading… in both foreign exchange trading and in bond trading, as well as in the trading of stocks.
And, this is happening in other industries as well. The point is that electronics are changing the whole playing field. Regulators and regulations cannot keep up.
Let's take a look at another part of the information technology space… this time look at the situation with respect to Microsoft (NASDAQ:MSFT), another "monopoly" institution. Microsoft originally established its position in the computer software business. What it produced fundamentally became the paradigm for what we now call an "information good."
An "information good" is a good that has a high initial cost to create the first unit of the good, but the cost of producing every other unit is extraordinarily low. Information goods are tremendously scalable and, combined with the network effects that accompany many information goods, can result in virtual, if not real, monopolies.
Microsoft achieved this "monopoly" position by the late 1990s and created a lot of wealth on the way. Information goods have created a whole different world for regulators. The game changed and the regulators had to move to keep up.
The problem is that every industry that is thriving on the modern information technology is dealing with a regulatory environment that is playing catch-up. The old rules just don't apply anymore and must change. But, in any transition of this magnitude, the change will come hard and be fought against "tooth-and-nail."
The whole cable "mess," however, is a little different than what occurred at Microsoft. Microsoft, up until the year 2000, created a lot of new wealth. It has done very little since. As a consequence, the performance of Microsoft stock has "flat-lined" the twenty-first century… so far. The company has continuously earned an annual return on shareholders' equity in excess of 15 percent, sometimes with the ROE north of 40 percent. Yet, it has not used its retained earnings well, and so investors have not given management any credit for what it has done over the past thirteen years.
When one looks at the Comcast situation, one gets an entirely different picture. Over the last ten years, the management of Comcast Corp. has not produced one return on shareholders' equity of 15 percent or more. In fact, only twice has it earned at least 12 percent. In most cases, the company has earned a return of only 9.0 percent or less on equity. That is not even covering its cost of capital.
This is a monopoly?
The biggest competitor for Time Warner was John Malone's Charter Communications, Inc. (NASDAQ:CHTR). Its highest ROE it has posted in the past four years, the extent of its existence, is 2 percent. And, it is a monopoly as well?
Time Warner, on the other hand, has over the past three years, earned an ROE in excess of 20 percent. In the previous six years, the returns were mostly under 10 percent.
What this tells me is that the cable industry has not yet found a business model that works for it. I think a lot of Brian Roberts, the chairman and CEO of Comcast, both as a person and a leader.
Would I invest in the Comcast Corporation today? No, it doesn't meet my initial criteria for investment. And, it is supposedly a monopoly… which needs some new definition, because it is hard to see what industry/market Comcast really belongs to… and has yet to earn a return that is consistent with having a monopoly position. And, the other companies that are listed as members of the same industry/market, also, do not seem to have found the right business model.
And, the regulators and regulations that Comcast has to deal with… work in another world.
Information technology is spreading into all corners of the modern world and is causing new structures and new ways of thinking. There is a lot of money to be made in this space, but, in terms of creating a lot more economic value… I don't yet see the "new world" in this industry.