Imagine it is the year 2020. You are the CEO of a medium-sized cable company considering whether to enter the western Loudoun County market in Northern Virginia about 50 miles from Washington, DC. The area has long been rural but recently has become more suburban as more and more businesses move further out from the city core. You strongly believe your new Ethernet service is innovative and you plan on offering a cadre of price options to win the business of enterprises and CLECs.

However, before you make a final decision, your (indispensable) telecom consultant tells you there are a plethora of regulations you will have to navigate. First, you will have to determine if your potential market is designated as competitive or non-competitive based on a number of predetermined factors determined by the FCC. 

You find that western Loudoun County was classified one year ago as non-competitive since it was served by an ILEC only. Based on this classification you learn that the Commission has set up a cost model that provides you with the allowable benchmarks you must obey when pricing your Ethernet service.

You review the benchmarks and find that most of your pricing options are forbidden because they fall outside of those benchmarks. Moreover, complying with those benchmarks would make your service far less attractive and easily swatted away by the established ILEC. Suddenly the western Loudoun market is much less attractive.

Foolishly believing the FCC will listen to reason, you meet with the Commission staff to explain that your entry into the market would make western Loudoun much more competitive. The staff sympathizes but informs you that the next classification is not scheduled to occur for two more years. Until then, western Loudoun will stay a non-competitive market and you must price your service accordingly. Not surprisingly, you decide the western Loudoun market will have to wait at least another two years before it will benefit from the competition you had hoped to provide.

If you think this scenario is unlikely to occur, think again. The FCC has already proposed that business data services (BDS) markets be classified into competitive and non-competitive categories with new classifications occurring every three years.  It also proposed a benchmarking approach for Ethernet services in non-competitive markets to ensure that pricing in those markets mimic the prices of competitive ones. The agency is considering several ways for establishing those benchmarks. One proposal would use reasonably comparable prices for ILEC special access services as a benchmark to determine whether rates for various packet-based services such as Ethernet are just and reasonable, then eventually transitioning to a packet-based benchmark established under this approach.  But there may be a better way.

In its BDS Order, the Commission considered using a cost model to establish the benchmarks:

Certain parties have suggested we could use a cost model to establish benchmarks for packet-based BDS Ethernet services. For instance…the CACM [Connect America Cost Model] was used to provide a forward-looking estimate by census block of the costs of providing a voice and broadband-capable network for use in determining Connect America Fund support for broadband necessary to serve price cap areas. We seek comment on whether we could either establish a new cost model or modify an existing cost model to provide a basis for establishing Ethernet rate benchmarks within price cap incumbent LEC service areas to the extent that price regulation might otherwise apply (FCC Docket 16-54, released May 2, 2016 at para. 424).

Windstream quickly responded with a two-step proposal that would use this approach:

First, the Commission should use a cost model to calculate, for each given geographic area (to be determined), the average revenue per BDS customer location that would be required to recover the forward-looking economic costs (including a reasonable profit and a share of common costs for other parts of the network) of deploying, operating, and maintaining a network with the capability to deliver a 1 Gaps connection to all BDS customer locations.  

Second, the Commission should use the relationship between the market leader’s service tier prices (keyed to the price for 1 Gaps service) and proportion of connections provided in each service tier to establish a set of benchmark prices for wholesale last-mile inputs in each selected market (FCC Docket 05-25, Windstream June 3, 2016 letter to FCC, at p. 2).

Windstream claims that using a cost model to establish benchmarks has advantages over using the ILECs existing special access services because the benchmarks would represent forward-looking costs instead of the historical costs embedded in the special access rates. Thus, allowable prices based on cost-based benchmarks are likely to be significantly lower than if ILEC special access rates are used.

In some ways, the Windstream proposal seems to make a great deal of sense. In fact, if the Commission were to utilize all the proposals for regulating non-competitive markets there is little doubt it could force companies to adopt prices that mimic competitive markets. But at what price? The Commission is well on the way to making the telecommunications industry completely model-based, in which all pricing is controlled by a higher authority (it)!  While this approach may establish equitable prices, it removes any incentive for companies to innovate or invest in new markets or services.

Frankly, it appears that the FCC’s goal is to regulate the industry as if we were still in 1960 and AT&T was still a monopoly provider. If that is the case, why not just use rate-of-return regulation for all carriers? Then this cable company would not have to decide whether it should enter the western Loudoun market, it would just ask the government.

By Andy Regitsky, CCMI