A new FCC rule frees customers from having to rent set-top boxes from cable operators as of July 1

Forget July 4.

July 1 is the real Independence Day for 65 million cable TV subscribers in the U.S. As of that date, says the Federal Communications Commission, they are free of the tyranny of being forced to rent miserable set-top boxes from their cable companies. Eventually, this declaration of independence could bring dramatic change to the way we get and watch television programming. It could also affect the financial prospects for cable players from Comcast (CMCSA) and Cablevision (CVC) to Time Warner (TWX). The big question is just how long this will take.

It has already been 11 years since Congress ordered the cable industry to make it possible for consumers to buy their cable boxes in stores instead of renting. The theory, then and now, was that creating a retail market for boxes would make better and cheaper models available. A new FCC rule finally puts that congressional mandate into effect. As of July 1, cable operators are prohibited from distributing the familiar boxes that combine the functions of tuning cable channels and telling the cable system just what content you have paid for and are entitled to receive. Instead, the security piece, called "conditional access," must be moved into a separate piece of hardware called a CableCARD. And the CableCARD can be used either in a box supplied by the cable company or in one bought independently by consumers.

This opens the door to a potentially vast variety of devices that can serve as set-top boxes, including DVD players, video recorders, computers, or televisions themselves, with these functions combined in any way you like. It also opens up the market from essentially two suppliers, Motorola (MOT) and Cisco's (CSCO) Scientific Atlanta, to almost anyone, from TiVo (TIVO) and Apple (AAPL) to Sony (SNE) and Hewlett-Packard (HPQ).

Changing the Game

The rub is that with the exception of the TiVo Series3 recorder ($800, though you can find it at a substantial discount), a couple of high-end Windows Media Center PCs with cable tuners from ATI, and a relative handful of CableCARD-ready big-screen TVs, the promised third-party products have yet to materialize. The reasons aren't hard to uncover. When CableCARDs first became available a couple of years ago, manufacturers rushed in with products, especially TVs. But consumers had trouble getting CableCARDs from cable operators and when they did, they often didn't work very well. The products didn't sell well, and the manufacturers lost interest.

The new rules change the game because the cable operators now have to use CableCARDs in all equipment, whether it's a set-top box leased from the company or a third-party retail product. "The Consumer Electronics Assn. (CEA) views the July 1 [deadline] as providing the necessary certainty to manufacturers that cable companies will finally support CableCARDs, because they will have to use them for their own customers," says Jason Oxman, CEA vice-president. "As such, we can expect more deployment of retail alternatives to rental cable boxes."

But cable operators are still doing what they can to discourage a third-party market. The biggest issue is that only products supplied by the operators will be able to get the full range of services, including on-demand and pay-per-view programming. In most places, that limits your choice to a standard set-top box, with or without a video recorder, although Time Warner Cable customers in New York and Milwaukee may be able to get a CableCARD-ready Samsung TV.

A Boon for Consumers

The FCC is pushing CableLabs, the industry's research and development arm, to certify the "two-way" systems needed for on-demand and other services. Microsoft (MSFT) and CableLabs, for example, are working together to provide two-way services for Media Center PCs. CableLabs says this will be available "somewhere in the future," while a Microsoft executive refuses to speculate on the timing.

There are enormous potential benefits for consumers from a competitive retail market in set-top boxes. I currently have a Motorola set-top box from Comcast with digital video recording capabilities, a separate DVD player, and an Apple TV. The Motorola box is dreadful, a condition Motorola blames on poor choices of software by Comcast. Changing channels with the remote is an adventure. Sometimes the box will just sit there for a minute or so, then execute a flurry of frustrated button presses all at once. It seems to be incapable of playing back a recorded high-definition program without part of the image sporadically breaking up into blocks of pixels.

An alternative system, on loan from Microsoft, uses a Dell (DELL) XPS desktop PC and an ATI digital cable tuner with CableCARD, It does everything the Motorola box and DVD player do, adds most of what Apple TV provides, and gives access to a variety of Internet TV programming. The downside is that it would cost more than $2,500 and it still can't get on-demand or pay-per-view programming. The development of mass-market retail products will enable the development of products with all this functionality at much lower prices, and certification of two-way CableCARD systems will take care of the rest.

This will happen, but I can't say when. The CEA's Oxman says manufacturers have been "burned" by "lack of support from cable companies" and need some certainty that a market will be there before they are prepared to jump in. Samsung says it expects to have a significant presence in the CableCARD market by late 2008 or 2009. So independence is here, but we may have to wait a while to enjoy its fruits.