The FCC’s Spectrum Auction: Can The System Be Gamed? by [email protected]

Ulrich Doraszelski and Michael Sinkinson on Gaming the FCC’s Spectrum Auction

As the use of mobile devices escalates, the FCC wants to reclaim spectrum – or airwaves – currently used by TV stations and reallocate them for mobile broadband. That’s the spectrum you use when you log into Facebook on your phone. Specifically, the FCC wants to reclaim so-called low band spectrum in the 600 MHz range — this is valuable spectrum that can travel over long distances and penetrate buildings better.

On March 29, the FCC will start an incentive auction in which it will buy spectrum licenses from TV stations and resell them to mobile phone carriers such as Verizon and AT&T, as well as other buyers. It’s a first-of-its-kind auction in which TV stations put up spectrum licenses for sale in a reverse auction and buyers concurrently bid for them in a forward auction.

There are about 8,500 operating TV stations that own spectrum licenses, and there are 2,166 broadcast licenses eligible for the auction. Each license is for a 6 MHz block of spectrum covering a particular geographic area for over-the-air TV signals. TV stations that choose to sell their licenses can do three things: go off the air, relocate or share spectrum with another station.

However, Wharton research shows that there is a way for some TV stations to take advantage of the system — and increase their sales gains by potentially billions of dollars. While the FCC rolled out a very well-designed auction, there is a feature that could substantially benefit owners of multiple TV stations, such as private equity firms, according to the research paper, “Ownership Concentration and Strategic Supply Reduction.”

[email protected] recently sat down with two of the papers’ authors, Wharton professors Ulrich Doraszelski and Michael Sinkinson, to talk about their findings. They also offer a partial remedy.

What follows is an edited version of that conversation.

[email protected]: We’re here today with Wharton professors Ulrich Doraszelski and Michael Sinkinson, who have some very interesting and timely research to share with us about the upcoming broadcast incentive auction.

First, to set the context, tell us what your paper is all about — what you studied exactly, and what you found out.

Michael Sinkinson: I should start by mentioning that this is a joint work with a couple of other co-authors, Katja Seim and Peichun Wang of the Wharton School, who aren’t with us today.

The FCC is doing something very ambitious. This has never been done before — trying to buy back spectrum in the TV market, repack the remaining TV stations, and then sell a nice continuous nationwide band of spectrum to the wireless carriers.

Expectations are very high, in terms of the proceeds that can be generated. They think that there could be upwards of $45 billion paid in by the wireless carriers for this newly freed-up spectrum. So this is a big deal.

“It’s a very straightforward mechanism of exerting market power. You’re going to withdraw one license to drive up the closing price for your other license.”  –Michael Sinkinson

Where we got interested in this was when we noticed that after this was announced, a number of private equity firms started buying up licenses to TV stations. And they seemed to be particular TV stations, not just any TV stations. They weren’t buying major network affiliates. They were not buying NBC-Philadelphia. They were buying mostly independent stations, smaller stations. What we set out to discover is, what were they up to? Were they just going to flip these, or was there something else they could potentially do? In this paper, we assess the extent to which they can change the outcome of the auction by owning multiple TV licenses.

The auction is very cleverly designed. It has a lot of very attractive properties. For example, TV license holders are shown a personalized price, basically based on the desirability of their license to this overall process. … And if you just own a single TV broadcast license, this mechanism is great. … You’re shown a price. And you should stay in this auction as long as the price shown to you is above your true value of this broadcast asset.

The complication arises when you have owners of multiple broadcast licenses. All of a sudden, you might have a weird incentive. You might say, “Actually, I’m going to pull one of my licenses out of the auction, because that might raise the closing price and increase my total proceeds from this whole process.” And so the point of this paper was to assess the extent to which firms might be able to do that as they acquire multiple licenses going into the auction.

[email protected]: Tell us specifically how TV stations that own several spectrum licenses in the market can take advantage of the auction process for their benefit. And how much money can they stand to gain from that?

Sinkinson: The process is kind of straightforward. If I can control multiple licenses in this process and withdraw one, it means the FCC is going to have to buy a different one instead.

[Let’s say] I withdraw one that’s low-value — [a TV station that] should probably go out of business and surrender its spectrum. If I take that one [out of the auction] and I say, “No, I’m going to keep operating it. I’m going to keep broadcasting” — well, then [the buyer is] going to buy a different one instead. And that different one might be a more successful business that might be worth more money. And so the owner of that other [spectrum license] might ask for more money to surrender their license.

But that means everyone in the market is going to get more for their licenses. And that would drive up the closing price that’s needed in order to clear the nationwide spectrum required for the [wireless] market.

It’s a very straightforward mechanism of exerting market power. You’re going to withdraw one license to drive up the closing price for your other license that you hold. Now of course, the strategy only makes a lot of sense if that increase in closing price is big. In economics terms, that means the supply is inelastic.

In this paper, we tried to figure out, “What does supply of these licenses look like?” What we do is, we undertake a very large-scale valuation exercise. We try and figure out, “What is a broadcast license worth?” And we do that for every single broadcast license in the U.S. That allows us to figure out, “What would happen if you were to withdraw one of your licenses from the auction? How much would the closing price change by?”

Our main findings are that the effect would be quite large. First of all, [let me point out that] there are many markets where the effect is zero. Right now, there are actually markets with excess spectrum that has never been allocated. In those areas, the price of spectrum for the FCC is basically zero. But in others, like, say, the mid-Atlantic or the Northeast, there are a lot of TV licensees. And it turns out that if you start withdrawing some of these licensees from the auction, the

1, 23  - View Full Page