Mega-Merger: Vertical Integration in a Deregulated Environment

Written by Stan Adams

It’s been a big week for the future of the internet. Monday marked the end of the FCC’s Open Internet Order (OIO) and its rules protecting net neutrality. Tuesday brought a decision from D.C. District Court Judge Richard Leon to allow telecom giant AT&T to purchase media giant Time Warner. Thursday, Comcast made a bid to buy all of Fox, and AT&T finalized its acquisition of Time Warner. The combination of massive vertical integration and deregulation could set off a tectonic shift in the landscape of the internet.

For years now, internet service providers (ISPs) like AT&T have wanted to get some of the action enjoyed by providers of content and services at the “edge” of their networks. Many of the concerns addressed by net neutrality regulations stem from ISPs’ incentives to extract payment from edge providers. Essentially, ISPs wanted to extract revenue from the popular services (especially video streaming services) that their subscribers access via their networks, thereby monetizing both “sides” of the gateway position they hold. For instance, Comcast deliberately degraded the interconnection points between its network and Netflix to gain leverage in its negotiations with the streaming provider regarding their interconnection arrangements. Other ways ISPs can use their position to cash in on the edge market include practices like paid prioritization and zero-rating.

Deregulation + Integration = Greater Threat to Open Internet

Before Monday, the OIO’s strong net neutrality protections prevented ISPs from engaging in practices that resulted in unreasonable discrimination or disadvantage to edge providers. Now, ISPs need only disclose any such practices to comply with the FCC’s only remaining regulation, the transparency rule. This leaves ISPs essentially unrestricted in their ability to leverage their position between users and edge providers, whether to extract rent from edge providers or to favor their affiliates. This deregulation favors all of the largest ISPs, but especially those who also own significant portions of the content served by edge providers.

Through paid prioritization, ISPs can charge edge providers in exchange for favorable treatment of the network traffic their services generate. The concern here is that well-funded companies will be able to buy better service than their competitors, and that users will turn away from providers with comparatively poorer performance. Edge providers’ ability to buy “fast lanes” for their data traffic makes it harder for smaller companies to compete and increases costs for those who can afford prioritized treatment. In the end, consumers will be stuck with the (double) bill if ISPs can charge for preferential treatment.

In the event of a merger and the absence of a rule against prioritization for commercial benefit, Time Warner’s offerings could potentially benefit from preferential treatment on AT&T’s networks without payment. Even under FTC oversight, any action to address this kind of discriminatory treatment would require not only detection of the problem but also protracted legal proceedings, all of which necessarily occur after the preferential treatment (and possibly the damage to competition among edge providers) takes place. In this way, vertical integration further enhances the advantages of prioritized treatment by producing them at no cost to the affiliated edge providers. It is unclear whether a competing service could even purchase a similar level of preferential treatment or whether paid “fast lanes” would always be second-best to AT&T’s treatment of Time Warner’s data.

For access providers like AT&T, whose subscription plans include data caps, zero-rated offerings can incentivize the use of certain edge services and applications. Depending on the structure of the plan, users might be more inclined to use the apps and services that do not count against their monthly data allowance than ones that do, giving the zero-rated services an advantage, both in terms of usage stats (and the related advertising revenue) and overall user base, as customers move away from non-zero-rated services. (AT&T announced Friday afternoon that it plans to offer its mobile subscribers with unlimited packages free access to television content from the Turner networks.)

Zero-rating in a vertically-integrated context gives both the ISP and its affiliated edge providers similar benefits at no cost. As with preferential treatment of network traffic, no-cost zero-rating further enhances the advantages for the ISP and its affiliates over those of other edge providers that would have to negotiate with the ISP for zero-rated carriage of their network traffic. While ISPs like AT&T may market access packages bundled with zero-rated content as a savings for consumers, it is only a savings from the costs arising from the artificial scarcity created by data caps.

Finally, AT&T’s ability to merge the data it collects about its subscribers and their internet usage with the data collected by each of the outlets under the Time Warner umbrella gives it a few advantages over non-vertically-integrated providers. First, the merger gives AT&T a major boost in terms of the amount and the kinds of data it can use for its own marketing purposes or sell to others. Second, the ability to merge these data sets gives AT&T a greater ability to track individuals (especially AT&T customers) across platforms by comparing user profiles from an affiliate’s web-based content service with AT&T’s own data set. Third, it gives AT&T and its newly acquired affiliates ready markets in which to deploy that data for advertising.

In the wake of Congress’s repeal of the FCC’s broadband privacy rules, there are few bounds on what kinds of data can be collected and how it can be used. Since the FCC’s repeal of its own net neutrality regulations, there is also little at the federal level to stop ISPs from leveraging their positions as access providers to discriminate for or against edge providers. (Net neutrality protections came into effect in Washington State with the repeal of the FCC’s rules.)

As vertical integration merges ISPs with edge providers, these protections are even more important. (In addition to the AT&T acquisition of Time Warner, Comcast is seeking to buy Fox.) Vertically-integrated ISPs will have an even greater incentive to favor their own content and edge providers, and will be better positioned to leverage their control of popular content to effect negotiations with competing services. In a world where a few ISPs control both access and content, protecting the rest of the internet against discriminatory treatment will be crucial to preserve the internet as an open and flat communications network.

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