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What happens if broadcasters lose the Aereo case?

April 21, 2014: 8:41 AM ET

Ahead of Tuesday's Supreme Court hearing on the legality of Aereo, experts weigh in on the so-called nuclear option.

By Peter Suciu

Aereo is the brainchild of engineer and inventor Chet Kanojia.

Aereo is the brainchild of engineer and inventor Chet Kanojia.

FORTUNE -- On Tuesday, the United States Supreme Court will hear arguments in a case that could very well reshape the entire broadcast TV business. The major broadcasters -- led by ABC (DIS), CBS (CBS), Fox (FOX), and NBC (CMCSA) -- are challenging the legality of Aereo, a startup streaming service backed by IAC (IACI), chief Barry Diller.

Aereo has been signing up subscribers in markets around the country since it first launched in New York City in February 2012. Aereo utilizes antenna farms to "grab" local free over-the-air (OTA) broadcasts, which are recoded and sent out to subscribers who pay $8 a month to view and even record the content on a PC or smartphone.

Should Aereo win the right to retransmit the OTA signals, other operators could use similar technologies to also avoid paying the retransmission fees, and that, say some legal experts, could undermine the entire broadcast business model. The rumors of the death of broadcast TV could be greatly exaggerated however.

"When cases are in litigation, litigants often exaggerate the impacts a ruling will have on the affected industry. These claims seem like bluster to me," said Pamela Samuelson, professor of law at UC Berkeley School of Law. "If Aereo wins, the more likely scenario is that ABC et al go to Congress for a fix."

She added: "My prediction is that the court will split on the case, but Aereo will win on statutory interpretation and the court will say, If you don't like this result, tell it to Congress. Aereo has on its side that Microsoft and other tech companies think that many cloud services companies would be at risk if ABC's interpretation of the statute prevails."

MORE: Parloff: Why the Supreme Court might pull the plug on Aereo

However, the broadcasters may instead opt for what some have called the "nuclear option." Last summer, executives at Fox threatened to pull its prime-time content and move it to a cable offering, while last week CBS hinted it might also consider such a strategy. The question becomes whether broadcasters could really make the jump to cable.

"The broadcasters of course are saying that they would become cable providers, but they may also start a subscription-based service that would compete with Aereo," said Orly Lobel, professor of law at the University of San Diego.

While that would certainly hurt Aereo, it could in fact hurt the broadcasters more, as revenue from subscriptions would pale to that of what the broadcasters make from ads.

"The large majority of revenue comes from advertisement, not from subscription fees/retrans," Lobel added. "It's questionable whether they won't be able to continue with the same business model, along with the existence of such services like Aereo. The NFL and other sports content are claiming it could change the nature of live viewing and take away from the value of ads, but this is an argument that was made for the VCR, DVR and it hasn't proven to be true in reality."

For this reason the broadcasters might be better off accepting Aereo, as it could mean more eyeballs on those ads.

"One option for the broadcasters would be to work with Aereo so those viewers are counted by Nielsen, and in that way Aereo could become an additive for the broadcasters," said Colin Dixon, principal analyst with nScreenMedia, who added that the broadcasters do remain short-sighted of all new technology that has the potential to be a disrupter. "That is absolutely true. This is just another example of the broadcasters seeing their traditional models changing as they are under threat from different places. However, the broadcasters would be foolish to actually do anything."

MORE: Comcast-Time Warner Cable: The real winners and losers

The bigger worry, Dixon said, is other operators could try to do something along the lines to how Aereo currently operates as a way to get around paying for the local broadcast content. Though Aereo is a niche service, it could impact the negotiating position of cable and satellite operators in their regular showdowns with broadcasters over retransmission fees and other details.

"In the case of Aereo, even they'll tell you they have a very small segment of the market," Dixon told Fortune. "For that small percentage of people that don't pay for cable and can't get a broadcast signal it makes sense, but the broadcasters are worried where it goes from here."

In other words, an Aereo victory could open up a can of worms that the broadcasters don't want to deal with -- and it could be local stations that are hit first. An Aereo victory could leave local stations in the dark, or at least without the broadcast networks' content. Given the state of the local TV market Aereo could thus serve as a convenient "out" for the broadcasters.

"Local is shrinking, and revenue has been down year over year," said Joel Espelien, senior analyst for TV technologies at The Diffusion Group. "Right now the retransmission rights are all that is sustaining local, so it is clearly on the decline without any help from Aereo. Even O&O [owned and operated] stations might not be enough to keep CBS from jumping out of local."

Should the Supreme Court rule in favor of Aereo this week, viewers might not see any changes, at least not immediately. But in time, the classic "broadcast" channels may come to resemble their cable counterparts -- not that difficult to imagine given that all the networks already have numerous cable offerings and/or partners.

MORE: Aereo CEO: We'll be in 25% of homes in a few years

"In the long run, broadcasting will go away, and Aereo will go away with it," said James Grimmelmann, professor of law at the University of Maryland, Francis King Carey School of Law. "The FCC's incentive auctions are the writing on the wall: Broadcasting is a terrible use of spectrum compared with the other things we're now capable of doing with it.

"In the future, video will be delivered primarily point-to-point and on-demand -- with clever engineering work to prevent overload for programs with high simultaneous viewership, like the Super Bowl," Grimmelmann said. "The networks will evolve to look more like cable channels -- they're already all parts of diversified media companies. Local affiliates will do the corporate equivalent of retiring. The question is not whether, but when and how. The networks' threat, then, is that they might do something a little earlier than they otherwise would. It's hardly the end of the media world."

But it is a landmark moment that could place broadcast contracts -- such as those with professional sports leagues -- in review.

"As for the NFL and MLB, additional issues arise because the leagues are structured around the television contracts and revenue," added Lobel. "Owners give players and coaches multimillion dollar contracts based upon the TV deals currently in place. Publicly the NFL and MLB support the broadcasters going cable-only -- they said so in their brief -- but it would seem they would lose from such a shift."

MORE: Video: How Aereo beat the TV networks

If they lose, CBS and the other broadcasters likely already have three- or five-year plans in place. But what of Aereo? Is a victory even a good thing?

"They're trying get something for nothing. This could be a tragedy of the commons, as their business involves strip-mining the public commons while charging money for it, but it could ruin the commons for everyone and it goes away," Espelien said. "By winning, Aereo could absolutely kill its golden goose. The only reason its business exists is through the gray market, but by forcing the issue in the court it could kill free-to-air and kill its business in the process."

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