The Satellite Television Extension and Localism Act of 2010 directs the Copyright Office to adopt rules to govern the verification or “audit” of cable and satellite compulsory license statements of account. On May 9, 2013, the Copyright Office issued a Notice of Proposed Rulemaking soliciting comment on a compromise set of audit rules proposed last fall by the “Joint Stakeholders” (NCTA, DIRECTV and the principal groups of copyright owners that participate in the distribution of compulsory license royalties). The proposed rules, as they would apply to cable systems, are summarized below. 

The Satellite Television Extension and Localism Act of 2010 directs the Copyright Office to adopt rules to govern the verification or “audit” of cable and satellite compulsory license statements of account. On May 9, 2013, the Copyright Office issued a Notice of Proposed Rulemaking soliciting comment on a compromise set of audit rules proposed last fall by the “Joint Stakeholders” (NCTA, DIRECTV and the principal groups of copyright owners that participate in the distribution of compulsory license royalties). The proposed rules, as they would apply to cable systems, are summarized below.  

Commencing an audit: The process of commencing an audit begins when a copyright owner submits a “notice of intent to audit” to the Copyright Office and to the cable system. This notice must identify the specific Statement(s) of Account that the audit will cover. (See below for a discussion of the limits on the number of SOAs that can be audited in a single year). The Copyright Office will have 30 days to publish a notice in the Federal Register announcing the receipt of the notice of intent to audit. The publication of this notice will trigger a separate 30 day window during which any other copyright owner may give notice that it wishes to participate in (and share the costs of) the audit.  

Selecting the auditor: The auditor is selected by the cable system from a list of three CPAs chosen by the participating copyright owners. The proposed auditors must be members in good standing of the AICPA and meet the definition of an independent auditor under various rules promulgated by the AICPA. The proposed auditors also may not be, for purposes other than conducting the audit, an officer, employee, or agent of any participating copyright owner. To facilitate the cable system’s assessment of the proposed auditors, the participating copyright owners must provide the cable system with the following information for each proposed auditor:  

  1. the auditor’s curriculum vitae and a list of cable and DBS compulsory license audits that the auditor has performed in the past;  
  2. information (subject to confidentiality or other legal restrictions) identifying and briefly description of other work that the proposed auditor has performed for any of the participating copyright owners during the previous two years;  
  3. a list of the participating copyright owners for whom the proposed auditor’s firm has been engaged during the previous two years; and  
  4. a copy of the engagement letter under which the auditor would be compensated on a non-contingent fee basis.  

There is no specific deadline in the rules for the copyright owners to provide the cable system with the list of proposed auditors and related documentation; however, once the cable system receives this information, the system has five days to select the auditor.  

Limits on the number and frequency of audits. The rules allow an independently owned cable system or MSO to be audited only once per year. In addition, the rules limit the number of systems that can be included in the audit of an MSO and the number of SOAs per system that can be reviewed. However, in certain cases, the auditor’s findings can trigger an expansion of the number of SOAs and/or systems that can be reviewed.  

Limit on number of SOAs that can be audited per system. For each cable system that is subject to audit, the copyright owners may select no more than two of the system’s previous six SOAs to be reviewed. However, if the auditor finds that, on a net aggregate basis, the audited SOAs understated the royalties due by five percent or more, the copyright owners may instruct the auditor, as part of that year’s audit, to review some or all of the system’s previously unaudited SOAs from the previous six accounting periods.  

Limit on number of systems that can be audited per MSO. In the case of an MSO, the annual audit may cover up to 10 percent of the MSO’s Form 3 systems and up to 10 percent of the MSO’s Form 2 systems. However, if the auditor finds that, on a net aggregate basis, the MSO understated the royalties due by 5 percent or more, the cap on the number of systems that can be reviewed during the following year will increase to 30 percent. Moreover, for one year, the copyright owners will have the option of having the same auditor perform the expanded audit as performed the previous year’s audit.  

How the audit is conducted. The objective of the audit is to verify the correctness of the information reported on a cable system’s SOA and the resultant copyright royalty payments. The rules offer broad guidance on how the audit is to be conducted and what sorts of information falls within the scope of the audit.  

Limits on ex parte communications. Between the date the auditor is selected and the date the final auditor’s report is distributed, the auditor generally may not communicate with the copyright owners or their representatives without the consent of the cable operator.  

Auditor access to information/ timetable for audit. There is no specific deadline for completion of the audit. Rather, the cable system is required respond promptly to requests by the auditor for “reasonable access” to the system’s books and records and other information that the auditor needs to conduct the audit, consistent with Generally Accepted Accounting Standards. The audit itself is to be conducted during regular business hours at a location chosen by the cable system and the auditor and the cable system may agree to conduct the audit, in whole or in part, by electronic communications. In order to ensure that the audit does not interfere with the system’s ability to meet its semi-annual SOA filing obligations, the rules allow a cable system to request that the audit process be suspended for up to 30 days (not the 60 days proposed by the Joint Stakeholders) prior to an SOA filing deadline (subject to the owner’s consent in certain circumstances).  

Confidentiality. Any non-public financial or business information provided to the auditor in the course of an audit is deemed confidential and will be subject to protection from disclosure to the participating copyright owners or other third parties under a confidentiality agreement between the parties. Certain outside counsel and consultants for both the auditor and the copyright owners may obtain access to confidential information if they have signed the confidentiality agreement.  

Review of broadcast signal carriage. Within 30 days after the selection of the auditor, the cable system must provide the auditor and the participating copyright owners with a community-by-community list of all broadcast signals that the system retransmitted. This list must include each signal’s call sign and whether the signal is local/ distant, network/independent, and permitted/non-permitted. However, the auditor only may use this list in verifying whether particular signals were or were not carried in a particular community during the accounting period covered by the SOA being audited and may not review the system’s classification of signals as local/distant, etc. (The copyright owners presumably can conduct their own independent review of such classifications outside the audit process).  

Preparation of the auditor’s report. The rules provide for a period of consultation between the auditor and cable system once the auditor has prepared a draft report and set a deadline for the delivery of the final report following the end of the consultation period.  

Review of draft report. After conducting its audit, the auditor is required to prepare a written report which (in the absence of concerns about fraud), the auditor will share exclusively with the cable system. The cable system and the auditor will have 30 days to discuss the auditor’s draft report. If the auditor and cable system agree that the draft report contains erroneous findings and/or conclusions, the auditor will correct the report. If the auditor and the cable system disagree over the accuracy of the auditor’s findings and conclusions, the cable system will have an additional 14 days to provide the auditor with a written explanation of the system’s good faith objections to the auditor’s findings.  

Delivery of final report. Within 5 days of the deadline for the cable system to submit its written objections to the auditor’s report, the auditor will distribute its final report (including the cable system’s written statement of objections) to the copyright owners and to the cable system.  

Post-report SOA amendments, supplemental payments and refund requests. A cable system will have 60 days (90 days for an MSO) to file SOA amendments and make supplemental payments to “cure” any defects and/or underpayments identified by the auditor. In addition, to the extent the auditor determines that the cable system overpaid the amount due on any SOA, the cable system (or MSO), the Office proposes to allow the system to requrest a refund within 30 days (half the amount of time that the Joint Stakeholders had proposed).

Audit costs. The Copyright Office has established audit rules for various other compulsory licenses that it administers. These rules all provide for shifting the cost of the audit from the copyright owner to the statutory licensee where the auditor finds that royalties have been underpaid by a certain amount (typically five percent or ten percent). Consistent with these provisions, the proposed rules provide that the auditor’s costs are shifted to the cable system where the auditor finds a net aggregate underpayment of more than 10 percent. The amount of the cost reimbursement cannot exceed the amount of underpayment. Moreover, if the cable system disagrees with some or all of the auditor’s findings and, as a result, the undisputed amount of the underpayment is less than 10 percent, the cable system only is required to reimburse the copyright owners for one-half of the audit’s cost. If the amount in dispute is litigated, there will be a true-up of the cost-shifting based on the outcome of that litigation. In addition to providing the cable system with a final itemized bill, the auditor will provide the cable system with itemized monthly invoices.  

Retention of records. Cable systems are required to retain copies of the records needed to verify the accuracy of their royalty calculations for three and one-half years after the filing of a SOA. In addition, if a particular SOA is audited, the system must retain the records pertaining to that SOA’s royalty calculations for one year after the final auditor’s report is delivered.