Archive for December, 2016

Motley Fool Reporter Gets Fooled by CFA Study

Motley Fool’s Daniel B. Kline reported yesterday that, according to a new study by the Consumer Federation of America (CFA), “Four huge companies that control 70% of the digital communications sector have been using their market power to overcharge the typical household about $45 a month.” Alarming if true.

In yet another display of #TechReporting, Motley Fool issued what amounts to a press release for a public interest group clamoring for price regulation. All of CFA’s claims are taken at face value, and the reporter couldn’t be bothered to interview an economist for independent assessment of CFA’s methodology.

Here’s what Kline would have learned had he reached out to this economist: CFA’s finding that Internet service providers (ISPs) and wireless operators overcharge customers lacks economic rigor and is without merit.

Kline reports that for broadband and video bundles, evil ISPs overcharge customers to the tune of $25 per household per month. AT&T and Verizon reportedly overcharge wireless customer $10 per telephone line. At two lines per household, customers are overpaying by $45 per month (equal to the alleged $25 overcharge on broadband and video plus 2 x the alleged $10 overcharge on wireless telephony).

What is the basis for CFA’s $25 broadband overcharge? Kline doesn’t tell us in his press release. But a cursory look at the CFA study, which runs over 200 pages to create the veneer of serious scholarship, shows that the number derives from an arbitrary reduction in broadband prices needed to drop the EBITDA margin for Comcast’s broadband service to 40 percent, the same margin earned by Comcast’s cable video service. That’s it. Even if this method made sense for Comcast (and it does not), why Comcast’s margin differential reflects the overcharge for every ISP in America is never explained.

The CFA study offers a second justification for the $25 overcharge, in case the first one didn’t grab you:

In other words, removing the excess [broadband revenue] would split the surplus between producers and consumers. To put this in perspective, as shown in Figure V-6, cash flow per subscriber has increased by over $50 per month since the early days of high-speed data offerings by cable operators. A reduction of $25 per month would have split the increasing surplus between producers and consumers. (CFA Study at 170) (emphasis added).

This is not how overcharges are estimated.

Typically, an economist will find some competitive benchmark price that is not contaminated by the conduct being challenged (in the case, the exercise of alleged monopoly power). Or regressions are used to isolate the impact of the conduct on prices. But in arriving at its “EBITDA-based estimate of overcharges,” the CFA study simply waives its hands, solves for the broadband price that would yield the competitive EBITDA margin (with Comcast’s cable video as the benchmark), and appeals to an invented equity of splitting the surplus.

The basis for the $10 overcharge on by evil wireless operators is just as arbitrary. Here the CFA study computes the differential in EBITA per subscriber per month between AT&T and T-Mobile. Just as cable video served as the “competitive benchmark” in the broadband overcharge model, T-Mobile plays the “competitive benchmark” for wireless telephony. But there is no reason why all wireless carriers should earn the lowest EBITDA in the industry. T-Mobile might be operating at razor thin margins just to steal share and to overcome AT&T’s and Verizon’s inherent network advantages. CFA would have the reader believe that 100 percent of the margin differential is attributable to ill-gotten market power.

This is not to say that the broadband industry is perfectly competitively supplied in every neighborhood in America. Cable operators have been shown to drop prices significantly in the presence of overbuilder competition or fiber-based Gigabit entry, implying a certain degree of pricing power in select areas. But CFA’s claim that every broadband operator in America overcharges to the tune of $25 per month is completely unsubstantiated. Ditto for the claim on wireless overcharges.

CFA can do better than this. And so can tech reporters.

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