Legal experts evaluate the stakes for the biggest case of its kind since Microsoft in the 1990s as the March 19 courtroom showdown could impact the future of Hollywood and everything from Amazon’s aggressive acquisition strategy to Disney’s planned purchase of most of 21st Century Fox.
It's 2019, and winter has come. Tens of millions of Game of Thrones fans tune in to HBO to find out whether the Starks, Lannisters or Targaryens will take the Iron Throne. But in a shocker, 85 percent of those expecting to watch the conclusion of TV's biggest series suddenly can't. The final episodes are available only on DirecTV or HBO's streaming service — with an AT&T broadband subscription.
That might sound far-fetched, but it's the scenario more or less imagined by the U.S. Department of Justice in suing to block AT&T's proposed $85 billion deal to acquire Time Warner. In its suit, the government specifically points out that Game of Thrones would be under AT&T's thumb, not to mention Warner Bros. movies, CNN town halls and Turner sporting events like NCAA March Madness. If the deal goes through, the DOJ contends that AT&T would gain the "ability and incentive to substantially lessen competition by withholding" content or raising the price.
As the trial is set to begin March 19, legal experts and insiders are evaluating the stakes for perhaps the biggest antitrust showdown since the Microsoft case in the 1990s and certainly the most significant in Hollywood since the Paramount Decrees upended the industry in the '40s. The combination envisioned by AT&T CEO Randall Stephenson and Time Warner chief Jeff Bewkes wouldn't just create a $225 billion colossus, it likely would open the floodgates for a new wave of media consolidation. By contrast, a scrapped deal would call into question everything from Amazon's aggressive acquisition strategy to Disney's planned purchase of most of 21st Century Fox. "I look at [AT&T-Time Warner] and think, 'If you are going to stop this merger, do you also break up Comcast-NBC?'" asks BTIG media analyst Rich Greenfield. "Should Disney be allowed to own Hulu? It opens up a Pandora's box."
When the suit was first announced in November, many speculated that President Trump was so incensed by CNN's coverage of his administration that he interfered with the DOJ's merger review. Though politics no doubt are important, today's obsessions may be clouding tomorrow's outcome. In Trump's words, "too much concentration of power in the hands of too few" could be a legitimate reason to stop the merger. And consultation with scores of legal experts reveals the case is not as clear as one might imagine.
First, the reason why the merger should be allowed: Namely, the government has struggled to articulate a cogent theory on the need to block this so-called "vertical integration" — that is, a tie-up between a distributor and supplier. AT&T is the world's largest telecommunications company, but it doesn't make much content. Conversely, Time Warner produces Wonder Woman and The Big Bang Theory, but, other than its nascent digital platforms, it doesn't directly distribute television to consumers as AT&T does through DirecTV. The merger won't create a monopoly. It is only anti-competitive if AT&T gains enough leverage in the market to unfairly harm consumers or rivals. So, would AT&T really yank Game of Thrones at the peak of public interest? Greenfield is among those who are highly skeptical that AT&T would risk HBO licensing fees for the possibility of attracting customers from T-Mobile, Verizon, Comcast and Dish. "It's conceptually possible," he says before adding that the "math on extracting incrementally more money is complicated. It's hard to imagine content would be held hostage in hopes of driving people to DirecTV."
But even if AT&T were to do so, is that necessarily wrong? Nobody is forcing Netflix to license Stranger Things to other distribution platforms. In court papers, AT&T says it needs Time Warner's assets to "keep pace in an environment where cable is the incumbent market leader and viewer preferences are rapidly tilting toward the direct-to-consumer platforms of Netflix, Google, Amazon Prime, Facebook, Apple, Hulu and others." After all, CBS has walled off its new Star Trek series and the Good Wife spinoff on its CBS All Access subscription streaming service. Should the government meddle and force greater or cheaper access?
In a 2004 paper for The Columbia Journal of Law & the Arts, DOJ lawyer Makan Delrahim asked whether overzealous antitrust enforcement could hurt technological growth and was supportive of those who refused to license what they owned to competitors: "We should support the rights of intellectual property owners to decide independently whether to license their intellectual property to others."
Delrahim was a member of the DOJ's IP task force. Today, he leads the Antitrust Division and is the very individual in the Trump administration who signed off on the lawsuit to block the AT&T-Time Warner deal. That's ironic, but there's certainly a reasonable case against the merger in 2018. Netflix is negotiating mainly with creative talent and production companies and selling directly to consumers. By contrast, AT&T is attempting to buy its way into more market power and will be conducting contract negotiations with rival MVPDs (satellite and cable companies) and other studios (Disney, Viacom, Sony, etc.). John Bergmayer, senior counsel at the Washington think tank Public Knowledge, says he's worried that even if AT&T agrees to sell programming to rivals, the company could raise costs or enforce restrictions on what another distributor can do with its content. "Antitrust looks at your behaviors and judges whether they are anticompetitive," he says. "You don't get to say, 'I am doing X, but I didn't need to do X, therefore I can do X anticompetitively.'"
That might be true, though the theory on what's anticompetitive has evolved as economic theories and political winds have shifted. There have hardly been bright lines.
When lawmakers in the late 19th and early 20th centuries went about crafting the major antitrust laws — the Sherman Act and the Clayton Act — they were targeting monopolies over railroads, oil and banks. They could hardly imagine that fire-breathing dragons or a college basketball tournament would be featured in a major antitrust showdown. But the laws have vague language, so regulators and courts must spell out the rules of competition.
A key issue in a merger analysis is whether the combination is considered "horizontal" or "vertical." Here's how it works:
Consider a universe where there are just two automobile manufacturers. Antitrust law would frown on a so-called horizontal merger between the two companies, as the combined entity would wield too much power. Nor could those carmakers collude with each other to fix prices. If there are more than two firms in this universe, then a merger among a subset would have regulators looking at size and measuring market concentration. That can be a difficult exercise, since defining the relevant market is often complex: All motor vehicles? Passenger cars only? Do SUVs count?
Now imagine a universe where there are five automobile manufacturers and just one tire supplier. If one of the carmakers attempted to buy the sole tire supplier, this would be a case of vertical integration, and the key antitrust question would be the prospect of "market foreclosure," whereby the other auto manufacturers might be denied access to an essential component in what they produce. But what if there are five car manufacturers and three tire suppliers? Well, then integration could be beneficial because the carmakers could eliminate markups in prices along their supply chain and pass the savings on to consumers, so the possibility of foreclosure may not be great enough to intervene. Alternatively, a manufacturer who acquired a tire company could choose to share just a portion of the savings and keep the rest as additional profit for itself.
The scenarios go on and on, and it should be apparent why economists can disagree about the benefits and harms of consolidation, especially since no one can predict the future in an era of rapid technological change. AT&T and Time Warner executives have touted efficiencies and played up digital competition, hitting one theme pretty hard: The U.S. government historically hasn't blocked vertical mergers.
That's true, but there have been court decisions — a unanimous 1962 Supreme Court case called Brown Shoe Co. v. United States that undid a vertical merger — as well as quickly settled lawsuits, such as the one from the government over the Comcast-NBCUniversal merger in 2011. But even more notable is the fact that the current players, AT&T and Time Warner, were involved in two of the most famous vertical integration proceedings in American history. "The case does harken back to the breakup of the original monopoly, AT&T, which allowed competition in long distance and other services to develop," says Stanford Law School professor Mark Lemley. And Time Warner famously was swallowed by AOL in 2000, one of the most disastrous mergers in corporate history.
In fact, Hollywood has a sordid history with antitrust cases. Thanks to the landmark 1948 Supreme Court decision in United States v. Paramount Pictures and the consent decrees that followed, the major entertainment studios were forced to divest themselves of ownership of movie theaters. In its decision, the high court examined how these giant producer-distributors had created a bottleneck over motion pictures by fixing admission prices, maintaining a system of clearances that controlled what films played, forcing independent producers into restrictive and expensive renting arrangements and licensing movies in bulk to exhibitors who didn't always get to see what they were buying.
The decision rewrote the rules of the entertainment business. It eroded the vice grip that studios held over talent, contributed to new distribution practices and drove the studios to reduce output and eventually focus on big-budget pictures like Jaws, Star Wars and today's Black Panther. Even the high price of movie theater popcorn can be traced to the DOJ's prohibition on studios owning their own theaters.
Some antitrust observers have taken a second look at the Paramount Decrees and have come to surprising reinterpretations. For instance, Stanford Law School professor Doug Melamed, who ran the DOJ's Antitrust Division during President Clinton's second term, is hardly squeamish about enforcement — he helped develop the government's theories in the 1990s case that accused Microsoft of monopolizing personal computer operating systems. Yet now he says, "My impression is that the Paramount Decrees were inefficient," adding that settlements to resolve problems in one era can amount to a hindrance on progress in another when the competitive dynamic changes. "The decrees are still in effect. When I was in the Justice Department, one of the things we attempted to do was to make it easier for firms that had been subjected to long-lasting decrees to get them modified."
In retrospect, the Supreme Court's 1948 decision also has become curious in the lack of any mention of television as a then-looming alternative distribution platform. Indeed, it was Paramount's ownership interest in TV stations that helped convince the studio after the ruling came out to finally give up the fight and agree to theater divestiture.
Most important, around the time that the old Hollywood giants were beginning to realize that antitrust laws wouldn't save them from new competitors who wished to both produce and exhibit content, laws and regulations on vertical integration began to shift thanks to the work of conservative economists at the University of Chicago and Chicago Theory legal scholars such as Robert Bork and Richard Posner. "Prior to the 1970s, the theory was that if you had big market share, you could raise prices and transfer that power to ancillary markets," says Curt Hessler, a former media executive who teaches antitrust and information law at UCLA. "What economists showed was even if you had that ability, you wouldn't use it because it would hurt your overall profits. The logic swayed many and at least created enough skepticism to cause government officials to think hard about enforcement actions."
That wave of deregulation began in the transportation industry during the Nixon administration, but by 1993 it reached the media business and resulted in the elimination of FCC rules known as "fin-syn" that had blocked broadcast networks from owning primetime programming. That cleared the way for mergers between CBS, NBC and ABC with Paramount, Universal and Disney, respectively.
So AT&T is correct that the U.S. government — at least since the early 1980s — hasn't done much about vertical mergers. And when the DOJ has done something, regulators have often focused less on structural remedies like asset selloffs and more on extracting behavioral remedies. For instance, in the Comcast-NBCU case, the DOJ reached a settlement in which Comcast agreed to conditions ranging from relinquishing management rights in Hulu to assuring that NBCU's channels would not be exclusive to Comcast.
But the Trump administration has teased a new approach. In a speech before the American Bar Association in November, just days before the AT&T lawsuit was filed, Delrahim signaled his opposition to behavioral remedies. "If a merger is illegal, we should only accept a clean and complete solution, but if the merger is legal we should not impose behavioral conditions just because we can do so," he said. If this philosophy holds, it will mean a lot less regulation by negotiation. At the same time, the FCC is now removing M&A barriers by lifting certain media ownership caps and opening the door to telecoms engaging in online content discrimination via the rollback of net neutrality rules.
Some legal observers are taking heed of the dynamic and saying it makes sense then for the DOJ to block any vertical merger with so-called "prospective" harm. "This case is interesting because the government is pushing a more aggressive theory of the problems with vertical integration," says Lemley. "The two key differences between this case and most others is that first, there isn't robust competition in pipelines, and second, consumers want a full range of offered content. The combination of those two facts means that vertical integration may give a locally dominant ISP control over content that no one can replicate, and therefore prevent competition from a new ISP."
Of course, not everyone agrees that addressing prospective harm is the answer in a fast-changing industry. "If you gather 100 knowledgeable people in the media industry and ask them to tell us what is going to happen in the industry, you would get 100 different answers," says Hessler. "I remember all the fuss about the AOL-Time Warner merger. I mention it to my students today, and they say, 'What's AOL?"
When the AT&T – Time Warner Trial begins, there's the possibility of testimony from Delrahim, a 48-year-old George Washington University-trained lawyer who was born in Iran, spent time in private practice for clients including Comcast and now is arguably the most influential person for the future of entertainment who is not actually in the entertainment industry.
In what would be an unusual move, AT&T lead attorney Daniel Petrocelli (whose clients have ranged from Ronald Goldman's family to Trump) is reportedly seeking to call Delrahim to the witness stand, though perhaps not for the reason that most have assumed. With intense focus on Trump and his unusual relationship with a Justice Department investigating Russian influence in the 2016 presidential election, many have suggested that AT&T's lawyers wish to interrogate Delrahim about White House interference in the merger review. Not only has the judge indicated he's skeptical of that theory, there's also a better and more straightforward reason why AT&T would like to make its star witness the guy who is spearheading the prosecution.
Delrahim, after all, comes across in his past writings as a soft Chicago School thinker — and it's no accident that AT&T's main economics expert, Dennis Carlton, now works at the University of Chicago. Delrahim tends to favor flexible, contextual analysis instead of rigid rules and is wary of the government's ability to mess around through intervention.
For example, in response to a New York Times editorial in 2010 that criticized how President Obama's Justice Department approved the merger between Ticketmaster and Live Nation, Delrahim wrote to the editors, "It is simplistic to argue that 'antitrust regulation still suffers from an unwillingness to challenge vertical integration.' The antitrust laws, like any other law, require enforcers to use prosecutorial discretion, which means not taking bad cases that will lead to bad precedents and actually hurting enforcement efforts. Although I am not much of a fan of government intrusion in the conduct of business, the Justice Department went as far as anyone could have expected in spurring competition in the ticketing market."
Although many believe that Trump nudged the DOJ to block the merger, the popular view among antitrust insiders is that staffers conducted the analysis and presented the case to Delrahim, who had only two choices — block or do nothing — given past criticism that behavioral remedies amount to a power grab.
Nevertheless, it's probably AT&T's view that Delrahim can make a case for the merger. And if not, they'll attempt to impeach him by questioning why he once told a Canadian newscaster how the AT&T merger with Time Warner wasn't as problematic as other media combinations.
If Delrahim does reach the witness stand, there will be plenty of powerful people in media closely watching, and not just with AT&T and Time Warner in mind. The DOJ is still set to review Disney's proposed acquisition of the Fox assets — a $52.4 billion horizontal merger that will help Disney diversify into online streaming, a vertical play. What's more, the DOJ could become the administration's leading bulwark against competitive harm given the fervent deregulatory push throughout the rest of government at the moment.
Although opinions vary on what the outcome of the trial will or should be, practically everyone agrees that Delrahim's position on why this case was justified where others were a no-go is a mystery. Maybe he's just a huge Game of Thrones fan, but Rutgers law professor Michael Carrier can't wait to tune in to the real-life battle for domination. "We as a society will benefit from a careful look at these issues," says Carrier. "Delrahim will have his chance to explain the theory of the case."
This story first appeared in the March 7 issue of The Hollywood Reporter magazine. To receive the magazine, click here to subscribe.