FCC Decisions Challenge Local Competitors' Business Plans
 
July 31, 2001
 

More than five years after enactment of the Telecommunications Act of 1996, the FCC has dramatically changed carrier-to-carrier payment mechanisms that had spurred Competitive Local Exchange Carriers (CLECS) to enter local telephone markets previously served almost exclusively by Incumbent Local Exchange Carriers (ILECs). ILECs and long-distance carriers hail the FCC's decisions as removing distortions in the competitive marketplace that unfairly favored the new competitors, while CLECs see the changes as betrayals of the FCC's commitment to foster competition that eliminate the underpinnings for crucial business decisions and investments by competitors. In contentious proceedings, the FCC (1) preempted state decisions that CLECs receive reciprocal compensation for terminating calls to information service providers (ISPs) and (2) established benchmarks for reasonable tariffed CLEC access charges for local handling of interstate long-distance calls from interexchange carriers' (IXCs') customers. In spite of the FCC's efforts to buffer the blow by gradually transitioning in the changes, the decisions jeopardize millions of dollars in revenues for CLECs.

The 1996 Act requires carriers to pay each other "reciprocal compensation" when one of them hands off a call for the other to transport and terminate. Previously, ILECs had charged competing carriers regardless of whether the ILEC was delivering traffic to the competitor for transport and termination or receiving traffic that the ILEC would terminate. The states generally ruled that the reciprocal compensation requirement applies to the call that connects a local customer with an Internet provider in its local calling area.

Since calls from customers to their Internet providers were almost all in one direction, the Bell companies found that they had to make huge payments to CLECs when they delivered their customers Internet access calls to the CLEC - charges that amounted to hundreds of millions of dollars each year. In contrast, the CLECs had no comparable "reciprocal" payments to make to the ILEC because Internet providers did not call the ILECs' customers back. Some CLECs were even set up solely to collect this one-way flow of money for carrying traffic between the BOCs and Internet providers. The controversy intensified when a federal court held that the FCC had not adequately explained its decision that a customer's call to its dial-up Internet service provider is not a local call, but part of an end-to-end interstate call under FCC jurisdiction.

In a decision released April 27, 2001, the FCC provided a new legal basis for its decision that Internet dial-up access service is predominantly interstate traffic and is not subject to the reciprocal compensation provision of the 1996 Act. A sharply critical dissent by Commissioner Harold Furchtgott-Roth attacked the FCC's legal position, claiming that the Internet-bound traffic should be under state jurisdiction. Some observers suggest that the FCC will not be able to satisfy an appeals court with its new rationale.

However, the FCC's order exercised authority over Internet-bound calls, adopting an interim recovery mechanism for this traffic to move it toward the bill-and-keep system it is proposing to apply to all interstate intercarrier compensation in a separate proceeding. Over a three-year transition, CLECs will be subject to a gradually declining cap on their charges for delivering traffic to ISPs, dropping to $.0007 cents per minute over a 25-month period. CLECs with lower rates may not raise their charges to the caps. During the transition, temporary reciprocal compensation will be available only for current traffic levels grown by 10% in each of the first two years. Unless a CLEC can show otherwise, a carrier's originating traffic that is more than three times its terminating traffic counts as Internet-bound traffic subject to the interim mechanism. To take advantage of the transition, an ILEC must agree to exchange all traffic on that basis, a likely reduction in ILEC revenues. And, while the CLECs' compensation is phasing down, the FCC will consider a permanent proscription of bill-and-keep arrangements that require each carrier to look to its own customers, rather than to other carriers, to recover its costs for transporting and terminating calls.

The second blow to CLECs' revenues involves the access charges that they have been charging IXCs for local pick up and delivery of long distance calls. CLECs compete with rate structures similar to those imposed on the ILECs by FCC rules, including access charges, which CLECs have been able to set for themselves. CLECs argued that IXCs are compelled by law to pay rates CLECs file as tariffs. IXCs attacked these rates as beyond competitive market discipline. They convinced the FCC that there is "market failure" because end users, not the long-distance access "customers," choose the access providers, but the IXCs are then expected to pay for access. The IXCs claimed the right to refuse interconnection when access rates exceed the rates charged by the ILEC. The CLECs countered with complaints that IXCs were unlawfully refusing to pay their tariffed access charges.

The FCC held a rulemaking proceeding to determine what CLEC originating and terminating access rates are reasonable and proposed to "benchmark" a reasonable level for CLECs' tariffed access charges and force CLECs to negotiate with IXCs over any higher charges. It found that CLECs had been charging up to 9.5 cents per minute. Again dovetailing with its proposal for a uniform bill-and-keep regime, the FCC adopted transitional measures to prevent CLECs from using the tariff process to demand payment of rates not controlled by the market. To tariff a "safe harbor" level of rates for switched access service, CLECs must reduce access charges to 2.5 cents per minute or the ILECs' level. LECs must reduce their rates to 1.8 cents per minute after one year, to 1.2 cents per minute after two years and, after three years, to the incumbent's level, which they may charge under tariff for the fourth year, even if the FCC has meanwhile adopted a bill-and-keep regime. The benchmarks apply to toll-free "8YY" calls, but the FCC will decide whether to flash cut to the ILECs' rate level for this traffic. A CLEC may only charge higher rates negotiated with IXCs, and is limited to the benchmark rate during any negotiations. The FCC used its forbearance authority to preclude tariffs for above-benchmark rates and clarified that IXCs have a duty to connect with carriers with tariffed rates that satisfy the benchmarks. It rebuffed CLECs' claims that IXCs will not negotiate, since the benchmark cap applies unless a new rate is negotiated. The FCC exempted any rural CLEC competing with a non-rural ILEC if no portion of its service area is in a place with 50,000 inhabitants or a Census Bureau urbanized area. Such carriers may charge NECA access tariff rates, but must subtract the NECA tariff's carrier common line (CCL) charge if competing with a price cap carrier. To charge higher rates, these CLECs would also have to negotiate with the IXC.

Challenges are likely because of the dire problems financial markets and FCC changes pose for CLECs. During appearances before a CLEC association, both the FCC Chairman's legal advisor and the Common Carrier Bureau Chief predicted decisions that may help CLECs and urged the CLECs to come in to the FCC and discuss their needs. Carriers will need to protect their interests at the FCC where the CLEC compensation battles will continue.