Fighting for the Remote Control

Within five years, the average channel surfer won’t have to flip aimlessly from channel to channel or wait for a simple scrolling TV guide to cycle through a hundred listings.

Instead, couch potatoes will have at their fingertips an interactive guide that lists program information according to their tastes: crime dramas at the top of the screen or kickoff times for favorite football games. With a few clicks of a remote-control device, they can also order pizza or merchandise advertised on the guide.

The company poised to control this technology is Pasadena-based Gemstar International Group, which has nearly 100 critical patents for these interactive electronic program guides, or EPGs. Although many companies offer interactive EPGs, Gemstar owns the patents that make the devices work--and that allow them to accommodate services such as movies on demand and one-click shopping.

And if the company completes its pending $9.4-billion purchase of longtime rival TV Guide Inc., Gemstar Chief Executive Henry Yuen would control potentially one of the most valuable media assets ever created. The merger would combine the preeminent EPG patent holder with the company that has branched beyond its popular weekly magazine listing to become the cable industry’s biggest supplier of electronic guides.

Competitors say the combined companies will have unrivaled powers over a technology that will be as critical to television viewing in the future as search engines are to the Internet today. As a result, federal regulators are bombarding industry players with questions about the antitrust implications of the deal. They are expected to rule on the Gemstar-TV Guide deal in a matter of weeks and could attach conditions on the merger.

Cable and satellite TV providers, along with a host of television software makers, claim that both companies already use their market dominance unfairly to monopolize not just TV listings but futuristic services such as movies on demand and one-click shopping. Their greatest fear is that together, Gemstar and TV Guide would prevent anyone else from developing or deploying lucrative interactive TV services key to their growth.

“If you put these two companies together . . . anyone else who wants to compete in the electronic program guide market is going to have a very rough time doing it without Gemstar’s permission,” said Josh Bernoff, an interactive television analyst with Forrester Research in Cambridge, Mass.

Based on the questions antitrust investigators have been asking industry executives, some cable operators are convinced that regulators will impose stringent conditions or even block the deal altogether.

Other Gemstar watchers expect the merger to win approval. TV Guide President Peter Boylan said the deal could close before Friday, the target date.

Boylan said predictions that the deal will be blocked are merely wishful thinking among Gemstar competitors who have found themselves on the receiving end of Yuen’s notorious lawsuits.

“Anyone who has been sued by Gemstar for patent infringement--General Instrument, Scientific Atlanta, TiVo--has their own agenda,” Boylan said. “It would not be surprising if some of them were trying to create problems.”

In the meantime, TV Guide’s gate-keeping practices are slowing the deployment of services that consumers are clamoring for, according to cable operators.

The cable industry is desperately searching for an alternative to both cable Gemstar and TV Guide. Leading operators Comcast Corp., Charter Communications and Cox Communications are heading a top-secret initiative called Guide Co. to develop a rival EPG that sidesteps Gemstar’s patents. Sources say Time Warner Inc. has undertaken a similar effort.

By merging with TV Guide, Gemstar would pick up additional patents and a well-known brand name, which the new company would retain. But more important, it would inherit TV Guide’s cable stronghold. TV Guide has long provided cable operators with simple scrolling program guides and is in the process of upgrading them to interactive EPGs.

So far, it has placed interactive guides in 3.5 million cable TV set-top boxes. Gemstar’s interactive EPGs are built into 2.5 million television sets, according to analysts. Those numbers would grow substantially after the merger because of its backers. Liberty Media Corp., a subsidiary of AT&T; Corp., the country’s largest cable operator, and News Corp. control TV Guide. They would each own 22% of the combined company.

Last year, TV Guide had more than $1.1 billion in annual revenue and a profit of $4.65 million. By comparison, Gemstar posted $241 million in revenue in 1999 and an $81.3 million in profit.

In addition to income from licensing EPG patents, Gemstar made money through licensing deals for its flagship product, VCR Plus, which lets viewers record TV shows through a one-step process.

The potential power of the merger has propelled Gemstar’s stock price from $38.10 after the TV Guide deal was announced in October to $46.06 on Friday, down $3.94 for the day in Nasdaq trading. Gemstar’s market value is now $9.4 billion--more than Starbucks, Aetna and Occidental Petroleum--even though it makes no product and only licenses its technology. A who’s who of high-tech heavyweights license Gemstar’s patents, including Microsoft Corp., America Online Inc. and Sony Corp.--and a host of others are the target of patent infringement lawsuits leveled by the company.

Electronic Guides Can Track Viewer Habits

Electronic program guides are on-screen directories of TV shows that can be organized according to topic, channel or air time. Users can also search for specific shows by name. Programs can be selected by pressing a few buttons on a TV remote control.

The data in the on-screen directories are usually delivered to TV sets and digital cable boxes within the TV signal. Chips in the TVs and cable boxes then read the program information and display it on the TV screen.

The guides can keep track of which shows viewers watch and use that information to recommend other shows the viewer might want to see. For instance, someone with a history of watching crime dramas might be alerted to an upcoming episode of “NYPD Blue.” Viewing habits can also determine which targeted advertisements are served up on a viewer’s TV screen. Because the guides rely on two-way communication, couch potatoes could use their remote controls to order food or other merchandise while they watch TV.

Revenue from such on-screen advertising and commerce could total billions of dollars a year, analysts estimate. That number could climb even higher if TV sets become a major conduit to the Internet and interactive program guides take on the functions of Web portals such as Yahoo.

Gemstar’s patents give it a controlling position when it comes to electronic program guides. Since 1998, it has licensed its EPG technology to makers of TV sets and VCRs, cable and telecommunications firms, wireless video broadcasters and satellite TV services.

But some companies have resisted Gemstar’s aggressive patent licensing strategy. Scientific Atlanta, a Norcross, Ga., maker of cable set-top boxes, filed a federal lawsuit in Atlanta last year accusing Gemstar of using its “monopoly” power to coerce would-be licensees. Scientific Atlanta’s suit claims Gemstar insisted the company would have to license “an entire bundle of [EPG] patents” to obtain the handful that it needed.

Gemstar also demanded a $20-million “royalty payment” to cover cable boxes that Scientific Atlanta had already shipped and required that at least 70% of any ad revenue Scientific Atlanta collected from its EPG be handed over to Gemstar, according to the suit. Without a licensing agreement from Gemstar, Scientific Atlanta can’t sell its cable boxes to customers because they could be sued by Gemstar.

In court filings, Gemstar says the patents it is trying to enforce are valid and denied that its behavior is anti-competitive. Neither company would comment on the lawsuit.

“Henry Yuen makes Bill Gates look like a saint,” said one of the many cable executives who compare Gemstar’s strategy to the deal-making that got Microsoft in trouble with the Justice Department.

Rivals Worry Over Effects of Merger

Gemstar’s hardball tactics could severely cut into a rich revenue stream the cable industry has banked on to lift it out of its growth rut. The cable industry has spent more than $30 billion over three years to upgrade its networks to deliver interactive services, telephone dial tones and high-speed access to the Internet.

Among other things, cable operators say they deserve a healthy portion of any advertising revenues generated by the programming guide because they are supplying the customers.

Gemstar competitors, and even some U.S. senators, are concerned that with its own distribution Gemstar will have little motivation to license its patents at reasonable terms to rival distributors such as set-top box manufacturers and cable operators.

Allowing the companies to merge “will diminish Gemstar’s incentive to license its technology to other competitors and may decrease competition in this newly developing market,” Sens. Mike DeWine (R-Ohio) and Herbert Kohl (D-Wis.), who lead the Senate’s antitrust subcommittee, wrote to the Justice Department and the Federal Communications Commission.

It is, in fact, the contentiousness over electronic program guides that has helped drive the merger of TV Guide and Gemstar. After years of battling patent infringement claims in court and after a failed hostile takeover attempt of Gemstar, TV Guide relented and agreed in October to swap each share of its stock for 1.3146 shares of Gemstar.

Many observers point to the bitter litigation as a sign that TV Guide is Gemstar’s strongest and most aggressive competitor. In their letter to regulators, DeWine and Kohl said that alone was reason to scrutinize the deal for antitrust ramifications.

Indeed, sources say the Justice Department is trying to determine whether the merger would stymie the development of new interactive services.

But industry analysts say that by resolving long-standing patent litigation, the Gemstar-TV Guide merger would actually speed the roll-out of advanced services to consumers.

Until the patent disputes are resolved, potential customers are stuck with unappealing electronic program guide options, said TV Guide’s Boylan. “If they went with Gemstar, they wouldn’t get the TV Guide brand,” he said. “If they went with us, [they] would be getting sued by Gemstar.”

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Plugging In

Gemstar International’s $9.4-billion planned merger with TV Guide would combine a variety of TV assets and technologies. The most critical area involves interactive electronic program guides.

Gemstar Assets

* Nearly 100 patents relating to electronic program guides

* Relationships with consumer electronics manufacturers such as Sony, Philips and Toshiba

* Relationships with technology leaders such as Microsoft and America Online

TV Guide Assets

* Existing contracts with most cable operators

* Leadership role in creating scrolling electronic program guides

* TV Guide brand name

* AT&T; and News Corp. are major stakeholders

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The merger: Gemstar rivals complain the deal is anti-competitive because it concentrates too much electronic program guide know-how into one firm that could become reluctant to license its technology to others. Gemstar says it will continue to make its patents available to all who want them. Federal regulators are reviewing the proposed merger.

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Los Angeles Times