BEFORE THE
FEDERAL COMMUNICATIONS COMMISSION
WASHINGTON, D.C. 20554
In the Matter of )
)
Federal-State Joint Board on ) CC Docket No. 96-45
Universal Service
COMMENTS OF
SOUTHWESTERN BELL TELEPHONE COMPANY
ROBERT M. LYNCH
DURWARD D. DUPRE
MICHAEL J. ZPEVAK
DARRYL W. HOWARD
Attorneys for
SOUTHWESTERN BELL TELEPHONE COMPANY
One Bell Center, Suite 3524
St. Louis, Missouri 63 1 ol
(314) 235-2513
April 12, 1996
TABLE OF CONTENTS
1. The Need for Rational Pricing
II. Necessary Changes to the CCL and Subscriber Line Charge
III. What Is "Universal Service"?
IV. Schools, Libraries, and Health Care Providers
V. Affordable Service
VI. What Is A "Universal Service Area"?
VII. Universal Service Costs
A. Use of Benchmark Costing
B. Use of Competitive Bidding
VIII. Explicit Support Mechanisms
IX. Use of Explicit Support
X. How and on What Should Contributions Be Assessed
XI. Who Should Fund
XII. The Unaddressed Issues
A. Carrier of Last Resort Obligations
B. Resold Universal Services
C. The Enhanced Service Provider Exemption
D. The Need for Capital Recovery by Incumbent LECs
SUMMARY
With this pleading, SWBT supports USTA's interstate proposal for preserving and
advancing universal service, and provides its comments suggestions.
This universal service proceeding should be viewed as one of many interrelated dockets
addressing the need to eliminate the implicit universal service support flows that now exists in
LEC rates. As the Act makes clear, Congress now anticipates universal service support will be
made explicit. To achieve that goal, incumbent LECs must be permitted to rebalance rates. In
the interstate jurisdiction, it is imperative that CCL be eliminated by restructuring the charge in a
four-year process that removes loop cost support for recovery through a deaveraged SLC, which
would be capped at an Interstate Affordability Benchmark. LTS would also be removed from the
CCL rates of non-pooling LECs. During the transition period, CCL and LTS would be bulk-
billed until eliminated. Pay telephone support would be recovered though a per-call charge. Past
experience has demonstrated that subscribership will not be harmed by increasing the SLC, and
that consumers benefit from the resultant decrease in toll charges. To guard against any negative
effect on low-income household subscribership, an expanded Lifeline with a nationwide eligibility
standard would be implemented.
SWBT supports the definition of universal service proposed by the Commission, with
some clarifications and the addition of single-party business service, a standard white page listing,
and access to basic directory assistance. As that definition is changed in future proceedings,
customer demand and marketplace acceptance should be the considerations. As to schools,
libraries, and health care providers, care must be taken to avoid duplicating State efforts or double
funding those efforts.
The abbreviations used in this Summary are as defined in the main text.
SWBT also believes that the current practice of keeping prices for universal service
artificially low should be ended, with an affordability benchmark adopted and used to determine
when explicit funding should be made available and in what amounts. Lifeline and Link Up
should be used to support those who cannot pay for the "affordable" service. However, the
support for those two programs as well as TRS need to be made explicit.
SWBT believes that the Joint Board and the Commission should endorse and encourage
use of the same definition of "universal service area" in the Federal and State. SWBT
recommends that "universal service area" be defined to mean any geographic territory no smaller
than the incumbent LEC's wire center and no larger than the incumbent LEC's geographic territory included
in a basic local calling plan.
To calculate the amount of universal service support, SWBT believes that the actual costs
of the eligible carrier must be used if the support is to be "specific" and "sufficient" as required by
the Act. Accordingly, incumbent LECs should continue to use the Commission's existing fully
distributed cost rules and other eligible providers should adopt the consistent cost calculation
methods. The Benchmark Cost Model should not be adopted. SWBT has demonstrated that the
BCM does a poor job of predicting the cost of providing service. SWBT also opposes the use of
competitive bidding to set the level of universal service support. Using actual costs also ensures
that the eligible carrier is using the support for its intended purpose, and that services not subject
to competition are not subsidizing those that are.
Of all of the possible alternatives, SWBT believes that interstate retail telecommunications
revenues should be adopted as the funding base for universal service. Unlike the others, using
those revenues would not cause economic or pricing distortions. The necessary support should
be generated by having all interstate carriers placing an explicit charge on its customer bills for
interstate retail telecommunications services and paying the proceeds to a neutral third party
administrator.
As broad as the scope of this proceeding is, the NPRM faded to address issues relating to
the carrier of last resort obligations of incumbent LECs and eligible carriers generally, the
enhanced service provider exemption which provides growing implicit support to thriving
businesses, and capital recovery for under-depreciated past investment by incumbent LECs. Each
are these arise from past regulatory and industry structures, are a part of the universal service
debate, and must be resolved by the Joint Board and the Commission.
Before the
FEDERAL COMMUNICATIONS COMMISSION
Washington, D.C. 20554
In the Matter of )
)
Federal-State Joint Board on ) CC Docket No. 96-45
Universal Service
COMMENTS OF
SOUTHWESTERN BELL TELEPHONE COMPANY
Southwestern Bell Telephone Company (SWBT) files these Comments in response to the
Notice of Proposed Rulemaking and Order Establishing Joint Board (NPRM), released March 8,
1996, in this proceeding required by the Telecommunications Act of 1996 (Act). With this pleading,
SWBT supports the interstate proposal being submitted in this proceeding by the United States
Telephone Association (USTA) and provides additional comments and suggestions. USTA has
constructed a proposal that meets the objectives established by the Act[1] to preserve and advance
universal service at the interstate level, meets the needs of eligible schools, libraries, and rural health
care providers, avoids interfering with competition, and permits the Commission to meet the Act's
deadlines.
I. The Need for Rational Pricing
In various proceedings before the Commission, SWBT and its parent, SBC Communications
Inc., have proposed and supported various actions that must be taken to ensure economically rational
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1 The USTA proposal is focused on the recovery of interstate universal service support
amounts in response to the Act.
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behavior among carriers and customers. From interstate access reform to LEC-CMRS
interconnection,[2] Southwestern Bell has consistently sought the elimination of regulatory mandates
that prevent market forces from providing the full benefits of competition to consumers. SWBT
views this proceeding as one of many interrelated dockets that must be decided with an overall vision
of permitting the 'industry to reach the objective of a "minute is a minute" pricing for carrier-to-carrier
interconnection, and urges the Joint Board and the Commission to recognize that explicitly funding
universal service is a piece (albeit major) of the larger issue of permitting rational pricing.
A major impediment to the "minute is a minute" interconnection objective has been the use
of implicit support in local exchange carrier (LEC) rates to fund universal service. SWBT recently
identified and quantified the implicit support embedded in its intraLATA toll and access rates
(interstate and intrastate) at $1.5 billion a year.[3] The Act disavows that current practice, stating that
"support should be explicit and sufficient." Section 254(e) (emphasis added). If these implicit
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2 See USTA's Petition for Rulemaking, filed September 17, 1993; Comments of SBC
Communications Inc. filed March 4, 1996, in Interconnection between Local Exchange Carriers
and Commercial Mobile Radio Service Providers, Equal Access and Interconnection Obligations
Pertaining to Commercial Radio Service Providers, CC Docket No. 95-185.
3 See Amendment of Part 36 of the Commission's Rules and Establishment of a Joint Board,
CC Docket No. 80-286, Comments of SWBT filed October 10, 1995 (SWBT 80-286
Comments), Appendix 8, "Analysis of Support Flows Implicit in Southwestern Bell's Rate
Structure." These support flows include a total of SI. 5 billion of annual interservice support
primarily from intraLATA toll and access services. Interstate access services generate, primarily
through carrier common fine charges, approximately $355 million of this support. Attachment I
summarizes the interstate and intrastate interservice support flows. $202 million of this interstate
support is generated in high-volume, primarily urban areas, to help keep basic local exchange
rates reasonable in low-volume, primarily rural areas.
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support flows[4] are not eliminated, a principal goal of the Act will be frustrated, and the benefits of
competition substantially diminished as LECs are kept at a significant pricing disadvantage.
Removing implicit support flows requires rebalancing rates. Such rebalancing would correct
the interservice (e.g., from access and toll to local service) and intraservice (e.g., from low-cost to
high-cost areas) implicit support transfers. Intraservice transfers can only be corrected by setting
prices for smaller geographic areas that more closely match the market area for a service.[5] The prices
for some services or for some geographic areas will increase while prices in low-cost areas or for low-
cost services will decrease. Price rebalancing should be permitted on a revenue neutral basis. Where
the rebalanced prices needed to recover the costs of providing universal service would be considered
unaffordable, support will continue to be required. Costs which exceed an affordable level should
be recovered through an explicit fund.
To the extent that rate restructuring is limited and does not allow for the recovery of existing
implicit support, the amount of support required to be explicitly recovered will be larger. The greater
the degree of rebalancing, the smaller the amount of explicit funding required. Movement toward
efficient pricing further serves the public interest by eliminating uneconomic price umbrellas created
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4 There are other implicit support flows, such as those in access transport prices, that should
be addressed through rate restructuring. Additionally, there are intertemporal support flows
resulting from under-depreciated investment (caused by not using economic depreciation rates)
that must be addressed.
5 Wholesale rates for resold local exchange service or its components should not be
deaveraged unless and until the affected LECs are first allowed to deaverage retail local exchange
service rates. No competitor should be allowed to purchase deaveraged resold or unbundled
services or facilities to inefficiently undercut another carrier's mandated averaged retail rates.
Such a policy could cause extensive financial losses to the incumbent LEC and uneconomic profits
of the purchasing carrier, all without public benefit.
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by current implicit universal service support rate structures. The Joint Board should recommend that
LEC rates be restructured in both Federal and State jurisdictions to remove implicit support, and that
pricing flexibility be permitted to allow more efficient market-driven solutions.
II. Necessary Changes to the CCL and Subscriber Line Charge
The Commission has concluded that "[t]he current CCL charge appears to be inconsistent
with the directives of the 1996 Act...” NPRM para. 113. SWBT agrees that recovering the
interstate portion of universal service loop costs through interstate switched access charges is a form
of implicit support and is inconsistent with the Act.[6] The interstate CCL should be eliminated[7] by
replacing it with rebalancing of the subscriber line charges (SLCs), funding high-cost support on an
explicit basis, and recovering interstate pay telephone costs through a per-call charge.[8]
SWBT concurs with USTA's proposal to modify the existing SLC caps to a level based on
an Interstate Affordability Benchmark (as defined in USTA's proposal). The SLC and any support
requirements could be calculated at a geographic level smaller than the current study area, consistent
with economic principles and competition. If an area's interstate loop costs are less than the
Interstate Affordability Benchmark, no support would be required and the SLC for customers in that
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6 In that regard, = N.A.R.U.C v. F.C.C., 737 F.2d 1095, 1134-36 (D.C. Cir. 1984), where
the Court of Appeals affirmed the Commission's use of CCL as a transitional funding mechanism
for universal service.
7 A number of States require intrastate CCL rates to mirror interstate CCL levels. As
interstate CCL rates are restructured, intrastate CCL rates and the portion of intraLATA toll rates
that reflect loop recovery should also be restructured on a revenue-neutral basis in those States.
Options include local rate changes and/or recovering the support from intrastate CCL and
intraLATA toll on a flat-rate, bulk-billed basis from an intrastate support fund.
8 As noted in the NPRM, pay telephone support is being addressed in a separate proceeding.
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area could be reduced to that average cost level. Areas with interstate loop costs that exceed the
Benchmark would receive funding for the difference from a new explicit interstate universal service
funding mechanism. For those areas where the interstate loop costs are above the transitional SLC
cap, CCL charges would continue through the four-year transition to recover the lesser of the
difference between (1) the transitional SLC cap and the Interstate Affordability Benchmark-, or
the transitional SLC cap and the area's interstate loop costs. The benchmark would always limit any
end-user's SLC to an affordable level even if the actual loop cost is substantially higher. The four-
year transition for SLC increases will minimize any potential adverse impacts.
Indeed, concerns over adverse effects on consumers have been refuted. Eliminating the
interstate CCL and shifting recovery to end-users will lead to substantial economic gains for
consumers as access price reductions generate toll reductions.[9] Economists have measured efficiency
losses attributable to the toll-to-local subsidy in the billions of dollars.[10] The public record strongly
supports this type of rate rebalancing.[11] The economic benefit that consumers would realize from
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9 A. Larson, T. Makarewicz and C. Monson, "The Effect Of Subscriber Line Charges on
Residential Telephone Bills," 13 Telecommunications Policy 337 (December 1989); also F.
Wolak, "Can Universal Service Survive in a Competitive Telecommunications Environment?,"
(forthcoming in Information Economics and Policy), February 1996 Draft, pp. 5, 3 6. (Available
from SWBT).
10 Jerry Hausman et al. "The Effects of the Breakup of AT&T on Telephone Penetration in
the U.S.," 83 American Economic Review 178 (1993) p. 183; also J. Griffin, "The Welfare
Implications of Externalities and Price Elasticities for Telecommunications Pricing," 64 Review of
Economics and Statistics 59-66 (Feb. 1982).
11 See AT&T Comments in re: End User Common Line Charges, CC Docket 95-72, dated
June 29, 1995, p. 12; In re: Rochester Telephone Corp. Petition for Waivers to Implement its
Open Market Plan, Order in CC Docket 95-96, released March 7, 1995, p. 5; also Chairman
Hundt's prepared address at the Competitive Telecommunications Association's (CompTel) Fall
Business Conference, Oct. 10, 1995, New Orleans, LA, p. 3; and Hundt's prepared address at the
National Consumers Week Symposium, Oct. 26, 1995, Washington, DC, p. 3.
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interstate access rebalancing that includes full recovery of interstate loop costs through the SLC will
be over $7 billion annually.[12]
Increasing the SLC in the manner proposed will not harm subscribership. Past increases in
the SLC did not harm subscribership; telephone subscribership increased from 91.6 percent when the
SLC was implemented in 1984, to 93.1 percent when the SLCs were capped in 1989.[13] Econometric
estimates indicate such rate rebalancing if accompanied by toll decreases will not cause subscribers
to disconnect. Studies show that toll usage costs are responsible for customers dropping off the
network, not monthly charges.[14] Rate rebalancing could well improve subscribership.[15] Moreover,
phasing in SLC increases over four years, as USTA proposes, will allow subscribers to adjust to those
gradual rate changes.
Expanding Lifeline with its focus on low-income subscribers would also help avoid any
potential decrease in subscribership. Lifeline (as well as Link Up) will be vital to those households
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12 T. Makarewicz, "Efficient Telecom Pricing: Who Stands to Benefit?," Public Utilities
Fortnightly, March 15, 1996, pp. 26-32 (included as Attachment 2). Makarewicz estimates that
a uniform SLC of $5.85, plus a $0.25 switching port charge, would result in an estimated net gain
in consumer surplus nationwide ranges from $7 to $7.5 billion annually.
13 A. Belinfante, "Telephone Subscribership in the United States," released December 1995,
Table 2.
14 Affordability of Telephone Service: A Survey of Customers and Non-Customers," Field
Research Corporation, funded by GTE and Pacific Bell, at p. 5, filed in CC Docket No. 80-286,
ex parte dated April 26, 1995, by Pacific Bell.
15 Hausman, et al, supra note 2 at 182, also Wolak, supra note 4 at 4-5.
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that cannot pay the affordable price for universal service, as well as to ease the transition to market-
based pricing. SWBT thus supports an expanded Lifeline program, and recommends that some of
the benefits gained from reducing CCL (and the resulting interstate toll rates) be devoted to that goal.
SWBT proposes expanding the program by (1) waiving the entire SLC for qualified Lifeline
participants, and (2) establishing a uniform national standard for Lifeline SLC waiver eligibility so that
participants whose annual incomes fall below the Federal poverty level (e.g., $12,600 for a family of
four) would qualify. SWBT estimates that expanding Lifeline in this way could add from $400-500
million annually to the nationwide Lifeline cost.
However, in keeping with the intent of the Act, both Lifeline and Link Up as well as
Telecommunications Relay Service (TRS) should be explicitly funded.[16] The existing funding
structure for the intrastate portion of Lifeline and TRS are clearly implicit and thus conflicts with the
preference for explicit funding in the Act.[17] SWBT recommends the contributions to these beneficial
programs be explicitly identified and funded through a competitively neutral mechanism.
In sum, combining rate rebalancing with a Lifeline expansion would create a more efficient
pricing structure that would eliminate major sources of indiscriminate implicit support, enhance
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16 NPRM para. 61. Whether Link Up is removed from the separations process is of little
importance so long as explicit funding is assured.
17 Not only does this structure result in implicit support for Lifeline, but more importantly it
constitutes a disincentive to promoting and advancing Lifeline service. Under such implicit
funding, the more successful a LEC's Lifeline programs, the more cost must be recovered by that
LEC's intrastate rates.
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consumer welfare, and protect, if not augment, subscribership levels.[18]
III. What Is "Universal Service"?
SWBT supports the definition of universal service proposed by the Commission as eligible
for support and augments it as follows: (1) voice grade access to the public switched network, with
the ability to place and receive calls; (2) touch-tone; (3) single-party residential and business local
service;[19] (4) access to emergency services (911/E911) where provided by local authorities, and (5)
access to basic operator services. In addition, the following should also be included within that
definition: (6) a standard white page directory listing, and (7) access to basic local directory
assistance. Each of the services set forth meet the criteria of Section 254(c), and each can be
provided in a technologically and competitively neutral manner. However, a transition period may
be required to permit any upgrades necessary to satisfy the Federal universal service definition
multiparty to single-party service).
The Act also establishes that universal service will evolve, and that the Commission will need
to review the initial definition "taking into account advances in telecommunications and information
technologies and services." Section 254(c)(1). The cost of deploying advanced services should not
be underestimated, however. Prior to expanding the definition beyond those set forth above,
consideration must be given to which services "have, through the operation of market choices by
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18 P. Cain & J. MacDonald, "Telephone Pricing Structures: The Effects on Universal
Service," 3 Journal of Regulatory Economics 293, 303 (1991).
19 The results of a SWBT study demonstrates support is necessary for some SWBT business
customers, located primarily in rural service areas. A comparison of local exchange costs for
basic exchange services to business customers in rural low-volume areas shows that
approximately 53% of these costs are currently recovered from implicit support mechanisms.
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customers, been subscribed to by a substantial majority of residential customers." Section
254(c)(1)(B). Customer demand, marketplace acceptance and deployment costs should be the key
considerations to determining whether and when to expand the definition of universal service.
IV. Schools, Libraries, and Health Care Providers
The Commission and the Joint Board should recognize that a significant number of important
regulatory initiatives that benefit schools, libraries, and health care providers have already been
implemented or are already underway in the States. Attachment 3 describes the initiatives in the
States of Arkansas, Kansas, Missouri, Oklahoma, and Texas. Any Federal support to those selected
end-users must complement and not overlap or duplicate State initiatives. That support should be
explicit and separately identified from high-cost or low-income support.
V. Affordable Service
In addition to the longstanding duty to ensure "just and reasonable" rates, the Act expressly
directs the Commission and the States to ensure that the services constituting universal service also
be "affordable." Prices for basic local service provided by incumbent LECs usually have been set by
pricing such service residually and without regard to cost, thus ensuring "affordability" through
implicit means. Artificially low prices for basic local service have been extended to all consumers
regardless of whether the service area was high cost or low cost and regardless of consumer ability
to pay the cost incurred in providing the local service.
Holding universal service prices artificially low across broad geographic areas violates the
pro-competitive and deregulatory goals of the Act, as wed as increases the amount of the needed
explicit funding. The Act requires reliance upon competition to help ensure prices, including those
for universal service, remain affordable. For consumers to benefit from competition, market-based
pricing and pricing flexibility for all services by all providers must be allowed. Explicit funding should
be made available only for those areas where the cost of providing universal service is so high that
competition cannot ensure prices for universal service are "affordable."
A measure of affordability must therefore be determined and used. "Affordability" refers to
the customer's ability to pay the cost of universal service. From a customer's perspective, the price
of universal service must consider the total charge for universal service. Due to the multi-
jurisdictional nature of universal service, the total charge is comprised of both Federal and State
prices.
The customer's ability to pay the cost of universal service should be determined by treating
the total charge (both interstate and intrastate) as a household expenditure that is expressed as a
percentage of median household income. By viewing the total universal service charge in such a
manner, policy makers will have a basis for comparison with other types of household expenditures.
The Joint Board should thus identify a percentage of median household income that constitutes an
affordable amount to pay for universal service. This means of identifying affordability will ensure
consistency and comparability in that it is reasonable to expect customers on average to spend an
equivalent amount of their total household expenditures on universal service.
In identifying that percentage, the Joint Board should compare the percentages of household
income made on other expenditures. Consumers currently spend slightly more than 4% of their
income on residential energy consumption.[20] Over 3% of median income is spent on gasoline and
motor oil, while approximately 1.5% is spent on housekeeping supplies.[21] The purchase of alcoholic
beverages consume 1% of median income. In contrast, the current expenditure level for basic local
exchange service is approximately 0.7% of median household income, with overall expenditures for
telecommunications is 2-2.5% of median household income.[22]
In light of those percentages, SWBT supports an average spending level for universal service
of 1% of median household income as a reasonable benchmark. Attachment 4 provides a summary
of illustrative benchmarks for the five States in which SWBT operates. Although this would reflect
an increase in the amount paid for universal service (from 0. 7% to I%), overall customer spending
on telecommunications should not increase from the current level if prices for other
telecommunications services decrease as a result of replacing implicit support with price rebalancing
and explicit funding. Raising the affordability level and the accompanying rate rebalancing to reflect
a higher affordability benchmark would also lower the amount of explicit high-cost support required
to fund universal service.
The affordability benchmark would provide a point of reference, above which the relevant
costs to provide universal service would be considered high cost and eligible for recovery through
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20 U.S Energy Information Administration, "Household Energy Consumption and
Expenditures, 1990."
21 U.S. Bureau of Labor Statistics, Consumer Expenditures in 1991 - BLS Report 835,
December 1992.
22 Federal Communications Commission, "Trends in Telecommunications, Table 8, May 1994
at p. 13.
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explicit support funding. Correspondingly, eligible carriers would need the flexibility to price the
services comprising the universal service definition subject to the constraint that they do not exceed
an affordability benchmark; otherwise, the explicit support would not be "sufficient" under Section
254(b)(5). The benchmark would also serve as a reference point for rate rebalancing efforts, such
that the rates for universal service in areas receiving high-cost support would not exceed an affordable
level.
VI. What Is A "Universal Service Area"?
"Universal service areas" for purposes of universal service must be established to determine
the area over which high costs are to be judged. To encourage uniformity of funding between the
States, SWBT believes that the Joint Board and the Commission should endorse and encourage the
States to adopt the same "universal service area" definition.
Calculating universal service support levels using state-wide average cost and rate data
maintains the current system of uneconomic pricing and implicit support and fads to provide an
incentive for competitive entry in high-cost rural areas while maintaining the current artificial
attractiveness of urban population centers as competitive targets. Calculating a single level of
universal service support for a broad geographic area, such as an entire state, would result in support
levels being too high in urban areas, and too low in rural regions. Different levels of universal service
high-cost support for various geographic markets would more closely align the economic incentives
with cost characteristics in each market, thereby encouraging efficient entry while avoiding
subsidizing the entry of inefficient firms. Accordingly, SWBT recommends that large LECs'
universal service areas" be defined to mean any geographic territory no smaller than the incumbent
LEC's wire center and no larger than the incumbent LEC's geographic territory included in a basic
local calling plan.
VII. Universal Service Costs
For support to be "specific" and "sufficient" under Section 254(b)(5), it must be based upon
the costs incurred by the service provider and must represent the difference between the historical
cost of providing universal service and the actual revenues collected for such service. In determining
explicit support levels, all eligible providers should use consistent methods for the calculation of costs
and revenues.
The method employed in the USTA plan calculates the support based on costs identified by
Parts 36 and 69 of the Commission rules. The use of fully distributed cost principles should continue
to be used by incumbent LECs and should be adopted by other eligible carriers. Any concern that
carriers not subject to Parts 36 and 69 would be disadvantaged by this approach can be addressed by
allowing those carriers to use some simplified form of those cost allocation rules, with an upper limit
on their support levels defined as the level of support for the incumbent LEC in a specific geographic
area.[23] The development of a support structure is more likely to be concluded within the Act's
narrow time constraints by making minor, simplifying modifications to the existing cost allocation
principles in Part 36 and relying on the support levels of the incumbent LEC as a backstop. There
would be no need for a protracted delay while new cost proxy methods and alternatives to cost
allocation are developed, evaluated, and debated.
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23 Based on the fact that competition benefits consumers through lower rates for services
provided at lower costs, SWBT believes that if an incumbent carrier receives no high-cost support
in an area, then no other eligible carrier should receive high-cost support in that area.
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Additionally, costs need not be adapted or updated until the definition of universal service
changes. Each carrier's cost should be used to develop a universal service support amount per line
that would be frozen until the definition changes. All carriers -- both incumbent LECs and other
eligible carriers -- will be on a common footing for explicit identification of subsidy qualification.
This will help to ensure that one competitor is not advantaged over another. So long as the use of
cost allocations is limited to establishing equitable support mechanisms and not setting prices, this
limited use of regulatory cost methods would be consistent with Congressional intent to provide a
pro-competitive and deregulatory framework.
A. Use of Benchmark Costing
SWBT has analyzed the Benchmark Costing Model (BCM) and is convinced that it does not
provide a reasonable comparison to actual costs by study area (company) or by wire center. The
Joint Sponsors have admitted that "[t]he BCM does not define the actual cost of any telephone
company, nor the embedded costs that a company might experience in providing telephone service
today."[24] However, before any model can be adopted, the validity of that model must be established
by testing its hypothesis against known and measurable results. The only appropriate test is the
comparison to actual network costs of study areas across the nation.
SWBT has compared the BCM for each State and each incumbent LEC (1,511 study areas,
of which 795 are "Cost" study areas, 616 are "Average Schedule" study areas, and an additional 100
study areas created by the BCM due to its mapping process) to actual Universal Service Fund (USF)
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24 MCI Communications Inc., NYNEX Corporation, Sprint/United Management Co., and U S
WEST, Inc., Benchmark Cost Model: A Joint Submission, Copyright 1995, CC Docket No. 80-
286 (Dec. 1, 1995), at I-2, Item 3.
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information as reported to the National Exchange Carriers Association (NECA) for each of the
following items:
* BCM investment per household to USF investment per loop
* BCM loop costs per household to the USF loop costs per loop
* BCM loop investment by wire center to SWBT actual embedded costs by wire center
* BCM calculated count of households and square miles for each LEC to its actual data
as reported to the Commission in response to the USF data request.[25]
The results of SWBT's analysis show that:
(1) The BCM calculated loop investment per household is at least 50% different than
actual company results for 34% of the LECs (see Attachment 5, p. 4).
(2) The BCM ARMIS-based annual cost calculation is at least 50% different than actual
data for 40% of the LEC study areas. (Attachment 5, p. 8)
(3) The BCM Hatfield-based annual cost calculation is at least 50% different than actual
data for 29% of the LEC study areas. (Attachment 5, p. 8)
(4) The BCM investment per household was different by at least 25% for 85% of
SWBT's 506 wire centers in Texas. (Attachment 5, p, 17)
The BCM significantly misstates the size of areas associated with a LEC's operations and the
numbers of customers (or households) in a LEC's service areas. These problems with the BCM are
caused by difficulty of and inaccuracies in the mapping of Census data to carrier operating
boundaries. [26]
In contrast to the simulated costs advocated in the BCM actual cost data has been reported
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25 Order in Docket 80-286, released December 1, 1994.
26 See SWBT ex parte, CC Docket No. 80-286, filed February 19, 1996 (revision of February
14, 1996,
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under uniform procedures by LECs and audited by the Commission and State commissions for many
years. Substituting a cost proxy for reliable factual data, much less a cost proxy as demonstrably
inaccurate as the BCM, is unwarranted and unreasonable. Use of the BCM will deny eligible carriers,
both incumbent LECs and new entrants, recovery of the actual historical costs of providing universal
service. The areas identified as high cost by the BCM are not always high cost and some actual high
cost areas are missed entirely by the BCM. Thus, the BCM merely identifies areas assumed to have
the highest costs, not areas where the highest costs actually are. Adopting a demonstrably inaccurate
proxy model to address the assumed unwillingness of new entrants to offer consistent, uniform
accurate, and actual data comparable to that supplied by an incumbent LEC is simply wrong. To be
competitively neutral in 'its treatment of incumbents and new entrants, the Commission should not
adopt an inaccurate, unreliable, and unrepresentative benchmark cost model," but rather should
require all eligible carriers to use a simplified version of the Commission's cost allocation rules.
B. Use of Competitive Bidding
SWBT has previously set forth its concerns to a bidding process for high-cost universal
service funding.[28] The Act did not modify the basis for those objections. SWBT still does not believe
that competitive bidding is necessary, appropriate, or warranted for high-cost support determination.
Given the lack of any demonstrable need today or in the foreseeable future, the resources necessary
to properly structure a competitive bidding process (a possibility which SWBT strongly doubts) are
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27 SWBT is not familiar with the Pacific Telesis proxy model currently being considered for
California intrastate purposes and cannot comment on that proxy model at this time.
28 SWBT 80-286 Comments at p. 15.
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best spent elsewhere.[29]
VIII. Explicit Support Mechanisms
Explicit interstate support mechanisms will be needed in some areas to maintain reasonable
local exchange rates for basic access to the public network. The primary focus should be to maintain
a consistent, predictable level of interstate support. State commissions have taken into account
interstate support in setting current rates for local exchange service. Interstate support for basic local
exchange rates and universal service funding should be explicitly funded.
SWBT concurs with USTA that a new explicit interstate high-cost funding mechanism should
be used to fund:
* interstate loop costs that exceed the Interstate Affordability Benchmark,
* existing USF and Dial Equipment Minutes (DEM) weighting support for rural
incumbent LECs,[30]
* existing USF and DEM weighting for non-rural incumbent LECs[31] frozen and
eliminated at the end of the four-year transition period.
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29 Before any consideration can be given to adopting any bidding procedure, it must be
determined whether the "losing" bidders/carriers in a bidding process would retain any carrier-of-
last-resort obligation (including any readiness to serve obligations, or whether any such obligation
automatically ceases. Otherwise, a competitor will be able to impose a level of support that is
below-cost for the incumbent carrier-of-last-resort. Regardless, the potential for gaining the
process to the detriment of competition and competitors is obvious. To hold an incumbent carrier
to carrier-of-last-resort obligations but refuse to allow it to recover its costs would be
confiscatory and otherwise unlawful.
30 As the record in CC Docket 80-286 demonstrated, it is essential that USF and DEM
weighting be maintained in essentially their current forms to fund the high costs of small
incumbent LECs that serve rural areas. See, e.g. SWBT Reply Comments filed November 9,
1995, in CC Docket No. 80-286.
31 "Non-rural" incumbent LECs are all current LECs not identified as rural by the Act.
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USTA's proposal recommends that CCL and LTS be maintained during the transition period.
CCL and LTS will decrease as SLC prices are increased. During the transition, CCL and LTS should
be bulk billed instead of recovered through usage-sensitive switched access rates of non-pooling
LECs. At the end of the transition period, CCL and LTS would be eliminated.
IX. Use of Explicit Support
Support can only be directed to an "eligible carrier" pursuant to Section 214(e), which is
expressly left to the States to certify.[32] The Commission therefore has no role in the certification
process. However, the Commission can assure that support is being used for its 'intended purpose,
and any services that are not competitive are not subsidizing services that are subject to competition
by using actual costs.
X. How and on What Should Contributions Be Assessed
SWBT supports the USTA proposal that the support contribution be based on interstate retail
telecommunication service revenues rather than on the other alternatives proposed in the NPRM.
Retail revenues are those collected by carriers for services sold as final products to end-user
consumers and do not include "wholesale" revenues collected from services sold as intermediate
inputs to the services to other carriers. Using interstate retail telecommunication revenues as the
funding basis provides a reasonably simple and economically efficient method for collecting the. funds
and satisfies the Act and its legislative intent. The intent of making support explicit is to remove
implicit support from the services sold as input to other carriers. Thus, excluding these services from
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32 As part of the certification process, the States should continue to fulfill their historical role
of requiring compliance with uniform quality and service standards for universal service
installation, repair). See Sections 254(b)(1) (principle of quality service); 254(f).
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the revenue base is correct.
In contrast, the methods proposed in the NPRM may cause economic distortions, basing
contributions on gross revenues, or on gross revenues net of payments made to other carriers, places
a "tax" on Input or wholesale services which creates uneconomic incentives to avoid those input or
wholesale services. For example, requiring a carrier to make contributions based on access service
revenues (an input or wholesale service) will cause the effective cost of access to be higher, which
may induce purchasers of access to seek ways to avoid purchasing access services. If the funding is
instead based on retail revenues, that uneconomic incentive is eliminated and funding is properly
targeted. Moreover, methods that base contributions on per-line or per-minute units depend on the
manner in which services are sold, and would create market distortions that can be avoided by using
retail revenues as the base.
With regard to whether to include intrastate revenues in the allocation base for the Federal
universal service funds, SWBT believes that the base for its proposed interstate fund should only
include interstate retail telecommunications revenues. The methods by which carriers already
determine interstate revenues for TRS purposes could easily be modified to estimate interstate retail
telecommunications revenues.
The easiest method to make support funding explicit is to establish a surcharge that is to be
assessed by carriers to their interstate retail telecommunications service customers. This surcharge
would be an explicit charge stated on a customers bill and would be a set percentage of the interstate
amount billed. The surcharge level would depend on the level of interstate retail telecommunications
revenues and the total support needed, and must be equivalent for all interstate carriers to satisfy the
equitable and nondiscriminatory requirements. Proceeds from that surcharge would then be remitted
to a neutral third-party administrator.[33]
XI. Who Should Fund
The Commission must ensure that "[a]ll providers of telecommunications services make an
equitable and nondiscriminatory contribution." Section 254(b)(4). Accordingly, AU 'interstate carriers
-- including incumbent LECs, other LECs, resellers, wireless carriers, interexchange carriers,
competitive access carriers, and alternate operator service providers -- that provide interstate retail
telecommunications services to end-users should be included within that base.
XII. The Unaddressed Issues
There are a few issues not raised in the NPRM that must be addressed if the deregulatory and
pro-competitive goals of the Act are to be achieved. These issues are so fundamental that they cannot
be addressed later or in a vacuum, but must be part of the comprehensive universal service structure
fashioned under the Act.
A. Carrier of Last Resort Obligations
Historically, the carrier of last resort obligation (including readiness to serve) has been
inextricably linked to universal service. Achieving the concept of universal service has historically
consisted of (i) deploying and maintaining a universally available telecommunications network capable
of providing two-way switched voice service (ii) that customers may access at reasonable rates. The
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33 SWBT recommends that the Joint Board consider NECA for the role of administrator.
NECA's prior cost-efficient administration of other funds and its already high level of knowledge
and skill in these areas argue for giving NECA serious consideration among the possible
candidates for administrator.
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first requirement has been pursued so that each LEC could provide local service to new subscribers
throughout its defined service area on a timely basis. LECs have deployed facilities in anticipation
of the need for local service so that State commission-mandated installation intervals would be met
even when uneconomical. The carrier of last resort obligation has been funded and offset by the
historical structure of the industry and the implicit support flows embedded in existing LEC rates
Incumbent LECs have been required to make uneconomic long-term decisions and to make
investments well prior to the realization of market demand to meet those obligations.
The Act has not expressly eliminated that obligation for the incumbent LECs, nor does it
expressly require other eligible carriers to assume that same position. If the incumbent LEC retains
that obligation, it will still be required to deploy facilities in anticipation of servicing customers even
though another carrier may &ay provide universal service. The same opportunity for unrecovered
investment exists if there are two or more eligible carriers in a service area and each has carrier of last
resort obligations. In order to help avoid regulatory takings issues, the Joint Board and the
Commission must resolve unrecovered investment and universal service support issues in these
situations where carrier of last resort obligations are not alleviated.
B. Resold Universal Services
Under the Act, a carrier can use resold services and network elements of another carrier to
meet the criteria to be deemed an eligible carrier. In fact, those services and elements could
conceivably be obtained from another eligible carrier. The intent of universal service support is to
offset a portion of the costs required to supply universal service so that prices remain affordable even
in high-cost areas. Funds should be available only to those carriers providing the network facilities
used. In situations where the reseller is purchasing resold services in a supported high-cost area, the
reseller will already be receiving "support" in the form of a below cost price of the resold service or
element. Making universal service support funds available to resellers in addition to below-cost
resold services would be economically inefficient at best, and nonsense under virtually all
circumstances. Only the carriers incurring the actual costs of constructing and operating the network
being used to provide service should be explicitly funded through universal service support
mechanisms. Subsidizing resellers with amounts above the discounted high-cost resale prices would
reduce economic efficiency because resellers add value only through administrative (i.e., billing and
marketing) efficiencies,[34] would discourage the carriers actually providing network facilities from
adding to, and maintaining existing, infrastructure, and raise regulatory takings issues.
C. The Enhanced Service Provider Exemption
Perhaps the fastest growing implicit subsidy is the one given to enhanced service providers
(ESPs), which allow ESPs to avoid interstate access charges under current Commission policy.
Maintaining this exemption is wholly inconsistent with the Act. Requiring some households to pay
a higher price to further the national priority of universal service while continuing to mandate implicit
support for thriving businesses[35] simply cannot be squared with either the intent of the Act or the
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34 Universal service support funds provided to a reseller can represent nearly pure profit. If
the level of universal service support is sufficiently high, resellers can establish retail prices below
prevailing LEC rates and still earn positive profits while the LEC incurs costs in excess of its
revenues to deploy and maintain resold facilities.
35 See, N.A.R.U.C., 733 F 2d at 1136, 1137, where the Court accepted the Commission
justification for preferential ESP treatment that it was "necessary to preserve their financial
viability" for a transitional period.
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Commission objective of a "minute is a minute" interconnection rates between carriers. The Joint
Board should recommend a swift elimination of the ESP exemption and endorse it be addressed in
long-term access reform.
D. The Need for Capital Recovery by Incumbent LECs
The Act highlights another form of implicit universal service support -- lengthening the
depreciation lives of equipment to keep depreciation expense lower than economically justified, with
the lower customer rates that result. This process served as a "pay me later" opportunity to defer
capital recovery payments. LEC depreciation rates were and still are treated as a source of implicit
support.36 When incumbent LECs operated exclusive franchises, they were ensured a fair opportunity
to recover investment. As competition eroded that concept, recovery of under-depreciated
investment became less certain. No longer able to rely upon the regulatory contract to ensure
recovery, SWBT and all other Tier I LECs effected huge depreciation reserve "write ups" on the
external financial books.[37] The depreciation reserve for SWBT was increased by nearly $4.7 billion.
Under-depreciated plant exists and must be addressed. Those investments were made under
the exclusive franchise concept regardless of the profitability of providing local exchange service.
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36 To the extent that an incumbent LEC's depreciation rates have been set by a regulatory
body at a level that does not permit economic recovery of investment, the Act requires that rates
be adjusted to eliminate this prospective source of implicit universal service support funding.
37 The presence of price regulation and increased competition has triggered the discontinuance
of regulated accounting (SFAS 71) for external financial reporting pursuant to SFAS 101. The
previous use of SFAS 71 was based on the assumptions that prices would recover the costs of
providing services (including the recovery of assets through depreciation expense), and that a
sufficient number of customers would be present to pay those prices. With competition, those
assumptions are no longer valid.
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Absent this regulatory social contract, LEC investment strategies and commitments would have been
much different (much more similar to those of the current new entrants, that enter only where the
investment is profitable). The LECs have kept their part of the regulatory social contract, and must
be able to recover the under-depreciated amounts. These under-depreciated amounts should be
addressed through explicit capital recovery funds in the Federal and State jurisdictions.
SWBT proposes to recover the shortfall based on a theoretical reserve calculation,[38] an
approach that permits calculation of separate amounts for individual jurisdictions. These calculations
would use the same shorter economic depreciation lives used to "write up" the reserve on the external
financial books. The under-recovered amounts would be identified by State, and then between
interstate and intrastate jurisdictions[39] and amortized over 5 to 7 years. Attachment 6 presents
estimates of those under-recovered amounts for SWBT.
SBWT is not suggesting that the under-depreciated amounts be included in the general explicit
funding mechanisms. Instead, those amounts would first be eliminated from any calculation on the
need for explicit universal service support, and recovered through the use of another explicit
mechanism over a defined period of time. AU telecommunications companies would contribute to
this recovery via a surcharge on all retail transactions. Once recovered, the fund would terminate.
Since these funding and recovery mechanisms only deal with the current amount of under-
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[38] The LECs implementing FAS 101 did not use the same methods of calculating their reserve
write-up on their external financial books. To calculate the explicit support for additional capital
recovery all LECs should use a consistent method, such as a theoretical reserve calculation.
[39] To avoid cost recovery and funding transfers between jurisdictions, each State should have
its own intrastate capital recovery fund and interstate capital recovery fund designed to only
recover the amortization amount for that specific jurisdiction.
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recovery, LECs must have the flexibility to use economic asset lives in prospective regulatory
depreciation. Otherwise, future amounts of under-recovery will be accumulated and another true-up
required,
Respectfully submitted,
SOUTHWESTERN BELL TELEPHONE COMPANY
Robert M Lynch
Durward D. Dupre
Mike Zpevak
Darryl W. Howard
Attorneys for
Southwestern Bell Telephone Company
One Bell Center, Suite 3 520
St. Louis, Missouri 63 1 01
(314) 235-2513
April 12, 1996