In one of its most deregulatory decisions ever, the FCC has released a draft Report and Order (Order) to be voted on at its April 20, 2017 meeting that would largely detariff and eliminate pricing rules for most ILEC special access services. Price cap regulation would continue for ILEC DS1 and DS3 channel terminations only in counties that the Commission deems as non-competitive.  Ethernet and ILEC packet services would continue to be provided under contracts. The Order is a major victory for ILECs and cable companies and a major loss for IILEC competitors. 

The Republican dominated FCC concluded that the growing competition in the business data services (BDS) market especially from packet-based services such as Ethernet has made it time to end the FCC’s decade-long investigation into ILEC special access services and release those services from years of price regulation. Thus in a Fact Sheet released on March 30, 2017, it notes:

The Chairman of the FCC has circulated a draft Report and Order (Order) that, based on an extensive record, recognizes the presence of strong competition in the business data services market, and therefore eases the regulatory burdens on providers of these services. By modernizing our rules, the draft Order will allow market forces to continue working to spur entry, innovation and competition in the vibrant business data services market.  

Based on its finding that most markets are competitive, here is how the various services in the BDS market will be regulated going forward:

Packet-based Services – The Commission believes packet-based services represent the future of business data services.  In contrast, it claims that DS1s and DS3s are legacy services that are losing the battle (and market share) competing against packet-based broadband services such as Ethernet over Hybrid Fiber Cable (EoHFC) services provided by cable companies in the same geographic market.  Thus this competition or potential competition between legacy and packet-based services is sufficient enough to discipline pricing.  As a result, it finds the marketplace for packet-based business data services is competitive.

Time Division Multiplexed (TDM)-based DS1s and DS3s - The Commission acknowledges that, ILECs have a degree of concentration in certain markets for DS1 and DS3 services. However, it believes the industry is becoming increasingly competitive, particularly at higher bandwidths, with a decreasing demand for these legacy services. Thus the Commission states:

Our analysis suggests that any prior advantage an incumbent might have enjoyed at lower bandwidths is now less competitively relevant in light of customer demand that attracts a number of traditional and nontraditional competitors that are improving legacy cable networks and expanding with new facilities to meet demand. This is further supported by the degree of sunk investment made by traditional and nontraditional providers of business data services to compete. We conclude that incumbent LEC market power has been in many cases largely eliminated, and elsewhere is declining thanks to increased competition in business data services markets.  (Order at para. 82).

Transport - Based on 2015 special access data provided by the industry and its market observations, the Commission finds substantial evidence of competition in TDM-based transport markets, which indicates that price regulation is not required. For these reasons, it concludes that TDM-based transport is competitive.

Competitive Channel Terminations - The Commission also finds that DS1 and DS3 channel terminations should also be free of price regulation in certain markets deemed competitive through a competitive market test. A market (US county) is competitive if:

50 percent of the locations with BDS demand in that county are within a half mile of a location served by a competitive provider based on the 2015 [Data]Collection or 75 percent of the census blocks in that county have a cable provider present based on the Commission’s Form 477 data. Any price cap incumbent LEC serving special access customers within that county will be relieved of ex ante pricing regulation. Id. para 84).

The competitive market test will be performed every three years to assure that each county is appropriately designated as competitive or non-competitive.

Non-Competitive Channel Terminations – ILEC DS1 and DS3 channel terminations in non-competitive markets will be regulated based on ILEC Phase I pricing flexibility prices. Therefore, (1) volume and term discounts are permitted, along with (2) contract tariffs made available to similarly situated customers; and (3) tariffs can be changed on a single days notice. Overly restrictive non-disclosure agreements in contract tariffs for business data services sold in non-competitive areas is prohibited.   

The Commission does not require ILECs to reinstitute price caps in non-competitive counties that are within former Phase II pricing areas because it finds that the costs of doing so exceeds the benefits. According to the Commission, ILECs in these counties have been providing DS1 and DS3 end user channel terminations free of price cap regulation for a number of years and have adapted their internal systems accordingly. Bringing these services back into price caps would require that incumbent LECs revamp their billing, information technology, and third-party management systems, at significant cost.

Lower Bandwidth Special Access – ILEC special access services with lower bandwidth than DS1 (i.e., voice grade circuits) receive Phase I pricing flexibility

CLECs - The Commission will not regulate the channel termination prices of CLECs in non-competitive counties.

Price Cap Reductions – The Commission adopts an X-factor of 2.0 percent that reflects its best estimate of the productivity growth that ILECs will experience in the provision of channel terminations relative to productivity growth in the overall economy. Thus, each year in the Annual Access Filings (AAFs), ILECs will have to reduce their rates still regulated by price caps by 2 percent plus or minus inflation measured by the Gross Domestic Product-Price Index (GDP-PI).

This year, however in addition to a typical AAF effective July 1, 2017, the Commission requires revised ILECs to file tariff review plans (TRPs) implementing the new X-factor effective on December 1, 2017. To ease the burden on the industry, the Commission permits ILECs to use the same base period demand and value of GDP-PI in their December 1, 2017 filings as in their July 1, 2017 annual filings.

Detariffing – ILECs currently must tariff their services to comply with section 203 of the Telecommunications Act. To rectify this and permit detariffing of all services other than non-competitive ILEC DS1 and DS3 channel terminations, the Commission takes the following forbearance actions:

Forbears from the application of section 203 to each price cap ILEC in its provision of any packet-based business data services or circuit-based business data services above the DS3 bandwidth level.

Forbears from the application of section 203 to each price cap ILEC in its provision of business data services elements that comprise transport pursuant to section 69.709(4) of the Commission’s rules, and to DS1 and DS3 channel terminations services and any other special access services currently tariffed in competitive counties or in non-competitive counties previously subject to Phase II pricing flexibility.   

The Commission requires mandatory detariffing after a transition that will provide price cap ILECs sufficient time to adapt their business data services operations to a detariffing regime. It also requires CLECs, to detariff their business data services by the end of this transition.

Transition to Detariffing - The transition will begin on the date of Federal Register publication of notice of this Order and will end eighteen months thereafter.

During this transition, tariffing for these services will be permissive—the Commission will accept new tariffs and revisions to existing tariffs for the affected services. This will allow carriers to respond to competitive pressures and introduce new business data services as they adapt to detariffing. Incumbent LECs will be subject to the rules adopted in the Order to the extent they tariff affected business data services during the transition.  Carriers, including non-incumbent LECs, may remove the relevant portions of their tariffs for the affected services at any time during the transition. Once the transition ends, no price cap incumbent LEC or competitive LEC may file or maintain any interstate tariffs for affected business data services. This will prevent carriers from obtaining “deemed lawful” status for tariff filings that are not accompanied by cost support and invoking the filed-rate doctrine in contractual disputes with customers. Id., paras. 160-62).

Current contracts are not affected by this Order. A contract tariff remains a contract even if it is not tariffed.

Wholesale Services - The Commission notes that by issuing this Order, it has identified a set of rules and/or policies that will ensure rates, terms, and conditions for special access services that are just and reasonable. Thus, the interim wholesale access rule for discontinued TDM-based BDS and unbundled network element platform (UNE-P) replacement services established in the 2015 Technology Transitions Order will expire when these rules and policies become effective.

What’s Next – ILEC special access customers and some small businesses concerned that this Order will drive out competition from the DS1/DS3 market are outraged. They will almost surely seek a stay of the Order and will appeal it to the appropriate courts. Opponents are likely to argue that if the Order is permitted to take effect ILEC competitors are likely to be irrevocably harmed and competition severely damaged. Thus a stay is in the public interest. It is the opinion here that in our heavily politicized atmosphere, the heavily Democratic DC Circuit is more likely than in a typical stay request to withhold its usual deference to an agency and reject the Republican dominated FCC’s Order.  That is why we believe a stay is possible, even likely.

We also see a couple of obvious areas to attack the Order. Opponents had no idea this type of deregulatory decision was coming from the Further Notice of Proposed Rulemaking and had no opportunity to oppose it. Therefore, they will argue it violates the Administrative Procedure Act (APA).  They will request the court(s) to require the FCC to hold a new proceeding with comments and reply comments required.

Opponents will also try to discredit the FCC’s market test which relies on possible rather than actual competition to classify a county as competitive. They will also claim that the FCC’s reliance on one year of data to reach its conclusions is unsatisfactory since a single data point could be an anomaly. 

All in all, we have a draft Order that is truly industry transforming, but is likely to face many legal challenges before the final dust is settled on special access.      

By Andy Regitsky, CCMI