The Federal Communications Commission periodically issues licenses to construct, launch, and operate individual satellites and satellite systems. As spectrum and orbital resources have become increasingly scarce, these licenses have become increasingly valuable. The Commission has adopted a variety of strategies to discourage speculative applications and encourage its licensees to move expeditiously into operation. One such strategy is the recent adoption of explicit "anti-trafficking" rules to codify the policy prohibiting the sale of a "bare" satellite license – i.e., one with no associated operational satellites -- for profit.

The goals underlying this policy – the deterrence of spectrum speculation and the prevention of unjust enrichment of those who do not implement their proposed satellite systems – are generally laudable. However, as applied in the satellite context, the anti-trafficking rules are dangerously vague and present a potential trap for unwary entrepreneurial satellite ventures looking for strategic investors. This article outlines the development of the anti-trafficking policy and suggests compliance strategies for licensees in this capital-intensive industry.

Origins Of The Rule

For almost forty years, the Commission has defined trafficking as speculation, barter, or trade in licenses to the detriment of the public interest.2 The paradigmatic trafficking case is one in which an applicant receives a license and a short time later sells its entire interest to another party without ever taking any steps toward providing the licensed service. The Commission's anti-trafficking concept first manifested itself in a rule that imposed a three-year holding period on broadcast licenses. This rule was not specifically designed to prevent attempts to profit from the sale of an unbuilt station license – since there was a separate no-profit rule that prohibited a buyer from paying a seller more than reimbursement for his out-of-pocket expenses.3 Rather, it was intended to reduce annual turnover of broadcast licenses and control station prices. Nonetheless, over time the "no turnover" and "no profit" concepts have been merged into a single policy against "trafficking."

In 1982, the Commission held that any sale of a bare license or permit for profit is prohibited by Sections 301 and 304 of the Communications Act of 1934, which provide that a license does not convey any property interest, since profiting on such a transfer would be "contrary to the letter and spirit" of these sections. Not surprisingly, the "no profit" principle was thereafter extended to services in addition to broadcasting.

In 1988, however, the Commission reconsidered its earlier holding and concluded that the Communications Act did not absolutely bar the for-profit sale of construction authorizations for unbuilt facilities 4Instead, the Commission found that it had discretion to allow for-profit sales, and that the particular sale of a cellular license in that case would serve the public interest. Ten years later the Commission finally rescinded its ban on the for-profit sale of unbuilt broadcast authorizations.5

Application To Satellite Licenses

Until fairly recently, the Commission had applied its trafficking policy to some satellite transactions but it had not adopted any anti-trafficking rules for the satellite services. In fact, it declined to apply trafficking principles to the Direct Broadcast Satellite service in 1994, concluding that due diligence and semi-annual reporting requirements should be sufficient to deter spectrum speculators. In the last five years, however, the Commission has begun to codify its anti-trafficking policy, adopting rules banning trafficking in bare licenses for Big LEO and Ka-band satellite licensees and proposing to adopt a similar rule for non-geostationary satellites operating in the Ku-band. In each case, the Commission has explicitly stated that its policy is "not intended to prevent the infusion of capital by either debt or equity financing." But it may well do just that. Moreover, because the Commission adopted its rules without explaining exactly what was meant by "trafficking," licensees have only limited guidance as to how the Commission will apply its policy in the satellite context.

The few transactions in the satellite services that implicated the anti-trafficking rules provide little illumination on the Commission's thinking, but perhaps reflect a bias in the application of trafficking rules. There was no discussion of trafficking in the order approving Loral's acquisition of Orion's assets (including its Ka-band licenses). Similarly, the order granting Lockheed Martin authority to relinquish control over the licenses issued to Astrolink in order to bring on two strategic partners, each of which would hold a one-third interest in the venture, is totally silent on the question of trafficking. No one raised trafficking as an issue in either proceeding. The Commission is currently considering two cases in which trafficking has been alleged as a central challenge to transactions proposed by entrepreneurial Ka-band licensees. The apparent assumption seems to be that trafficking is a concern with new entrants but not with the larger, established satellite operators. If so, the Commission's anti-trafficking rules would restrict access to capital for precisely those licensees most in need of it. Thus, although the goals underlying the policy are sound, its implementation may as a practical matter unintentionally but seriously diminish opportunities for entrepreneurial satellite ventures.

Given the prevailing state of Commission precedent, it is possible to argue that virtually any transaction involving a significant equity investment in a company holding an authorization for a non-operational satellite system constitutes trafficking. The issue arises most frequently in the context of a proposed assignment of or transfer of control over a license, although there is precedent suggesting that even the sale of a non-controlling interest can run afoul of the trafficking policy.6 Thus, unless a licensee has the wherewithal to finance its satellite system on its own, it must decide how best to raise necessary capital without running afoul of the anti-trafficking policy.

There is a limited amount of satellite precedent from those occasions on which the Commission applied its anti-trafficking policy to satellite applications. These cases and other Commission precedent suggest strategies through which a licensee can obtain financing in a manner that at least limits its exposure to a trafficking allegation.

Compliance Strategies

There are only two ways to absolutely ensure that the sale of an equity interest in a satellite licensee does not constitute trafficking. The first is to sell the interest for no more than its proportionate share of the amount that has been invested in the satellite license and system, including fees incurred in preparing, filing, and advocating the grant of the license and funds paid for satellite construction.7 Although safe, this approach is of almost no utility since it allows a licensee to recoup money but not to raise additional capital for the venture. The second option is to seek a declaratory ruling from the Commission prior to consummation that a particular transaction would not constitute trafficking. This approach would also be of limited practical utility, since it would be time-consuming and cumbersome to have to seek approval in advance for every potential investment.

Unfortunately, no other financing scenario can ensure that trafficking will not be an issue. But there are some approaches that are less susceptible to a trafficking charge than others. For example, because the trafficking rules apply to selling an interest in a bare license for profit, debt transactions should fall outside their parameters. Thus, rather than seeking equity investors a satellite licensee could access the high-yield debt market for funding prior to launch of its satellite system. This same logic would suggest that a licensee could secure financing using options, warrants, convertible debt instruments – which, like debt, the Commission does not view as equity investments and therefore should not be viewed as a sale of an interest in the license. This would seem to be a more attractive option, since the instruments could be converted into stock once the licensee's commencement of satellite operations renders the anti-trafficking rules no longer applicable. Nevertheless, Commission policy in this area might have the perverse effects of severely limiting the sources of financing available and forcing satellite licensees to become burdened with expensive debt financing rather than seeking strategic investors who could actually strengthen the enterprise.

There is a caveat to using either debt or future interests. Although the Commission stated that its satellite anti-trafficking rules were not intended to prevent the infusion of capital by either debt or equity, it cryptically added that "any such transaction" will be monitored to ensure compliance. It would therefore appear that the question of whether a debt transaction could run afoul of the anti-trafficking rules remains at least somewhat open. It may be that the Commission meant to indicate that the rules could be applied if these instruments are not bona fide debt or future interests – i.e., if they were equity in disguise. The Commission has employed a bona fide debt analysis in the context of foreign ownership issues, and it could be signaling that it is prepared to look behind the parties' characterizations of transactions to assess for itself the real economic consequences. While that would be a logical and reasonable reading of the language in the promulgating orders, it is by no means the only possible one.

A licensee that decides to seek equity investment can take steps to decrease the likelihood that the Commission will find a trafficking violation. First, if all of the money invested goes directly to the company holding the license and not to any of the individual investors, there is a good case to be made that no one is "profiting" from the sale. The Commission has explicitly held that "a sale to the highest bidder of the right to seek the assignment of a broadcast license does not constitute trafficking where, as here, there is no evidence that the assignor acquired the station for the purpose of reselling it at a profit, rather than for the purpose of rendering a public service."8 If all funds from new investors go to the licensee rather than to the prior investors, there is no reason to believe that the license is being sold for personal gain. Although the Commission has stated its desire not to prevent such capitalization transactions, it has also in the past examined the increase in value of a "carried interest" in light of trafficking principles.

Second, the Commission has looked favorably upon licensees that have demonstrated their commitment to the licensed satellite system. Such commitment can be demonstrated by beginning construction and executing launch and other agreements.9 This, of course, requires funds that may not be available without an outside investor, presenting a chicken-and-egg problem. Investments where the core management and operational personnel remain essentially unchanged are also less problematic as they indicate a continuing commitment by the original licensee to its system.10

While none of these indicia is dispositive, they have proven important to the Commission's trafficking analysis in the past.

All of the satellite services in which anti-trafficking rules have been adopted or proposed include due diligence and reporting requirements. The Commission has stated on a number of occasions that trafficking is less of a concern where these requirements are imposed, and it even declined to apply trafficking principles to the DBS service precisely for this reason. The satellite industry in general and new entrants in particular might have been better served if the Commission had extended the DBS precedent and eschewed anti-trafficking rules for all satellite services. Under the current regime, however, satellite licensees in need of capital must bear trafficking principles in mind when structuring financial transactions.

William M. Wiltshire is one of the founding partners of Harris, Wiltshire & Grannis LLP, a Washington, D.C. law firm that focuses on telecommunications with a particular emphasis on satellite, wireless, Internet, and other high-technology companies in the digital economy. He can be contacted at 202-730-1350, or through the firm's web site at www.harriswiltshire.com

Footnotes

1. The author has represented numerous satellite and other telecommunications companies. The views expressed here are entirely his own.

2. See, e.g., Applications for Voluntary Assignments or Transfers of Control, 32 F.C.C. 689 (1962); Amendment of Section 73.4597 of the Commission's Rules, 4 FCC Rcd. 1710 at ¶2 (1989).

3. 47 C.F.R. § 73.5397(c)(2).

4. See Bill Welch, 3 FCC Rcd. 6502, 6504 (1988).

5. 1998 Biennial Regulatory Review – Streamlining of Mass Media Applications, Rules, and Processes, 13 FCC Rcd. 23056, 23070-72 (1998)

6. Petition of Contemporary Digital Services, Inc., 59 R.R.2d (P&F) 617 (1985) ("trafficking and transfer of control are separate issues").

7. Pan American Satellite Corp., 2 FCC Rcd. 441, 442 (1987).

8. Cleveland Board of Education, 87 F.C.C.2d 9, 14 (1981).

9. See, e.g., Satellite CD Radio, Inc., 12 FCC Rcd. 8359, 8364 (Int'l Bur. 1997).

10. Constellation Communications, Inc., 11 FCC Rcd. 18502, 18515 (1996).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.