C And F Block PCS Auction Scheduled For December
On December 12, 2000, the FCC is scheduled to begin an auction to allocate certain frequencies in the Personal Communications Service (PCS). PCS is a wireless service providing voice and data transmission on frequencies between 1850-1990 Megahertz (MHz). Since the creation of PCS in 1994, the value of PCS spectrum has vastly increased, as is evidenced by the July 2000, agreement by Deutsche Telecom to purchase PCS provider Voicestream Wireless for cash and stock equal to approximately $53 billion.
The opportunity to bid for PCS spectrum in December has aroused intense interest on the part of virtually all existing wireless providers, as well as among entrepreneurs wishing to enter the wireless field. However, the rules under which the available PCS frequencies will be licensed have been the subject of equally intense controversy, which has even extended to whether the FCC can or should auction the frequencies at all.
This article will discuss the background to the December auction and the legal controversies that surround it. It will also summarize the issues recently decided by the FCC in determining which entities will be eligible to bid for the frequencies.
In 1993, for the first time, Congress authorized the FCC to use auctions, as opposed to comparative hearings or lotteries, to grant radio licenses. In 1994, the FCC decided to allocate PCS licenses by auction and to divide the spectrum available for PCS into six frequency "blocks," with the "A," "B" and "C" blocks being given 30 MHz each and the "D," "E," and "F" blocks each receiving 10 MHz of spectrum. Each A and B licensee was to serve a multistate "Major Trading Area" (MTA) and the C, D, E and F block licensees were to be allocated to smaller metropolitan "Basic Trading Areas (BTAs).
In order to facilitate the participation of relatively small businesses in PCS, they were given special advantages in the auctions. In the C, D, E and F blocks, "small" businesses, defined as those with average annual gross revenues of not more than $40 million for each of the preceding three years, qualified for "bidding credits" of 15 percent. "Very small" businesses, defined as those with average annual gross revenues of not more than $15 million for the previous three years, received a 25 percent bidding credit.
Also, and importantly, the FCC limited the C and F block auctions to "entrepreneurs," defined as businesses, including attributable investors and affiliates, having gross revenues of less than $125 million in each of the last two years and less than $500 million in total assets. Theoretically, those gross revenue amounts were supposed to include those of investors and affiliated entities, but the FCC developed complex rules to allow wealthy investors to participate in small business applicants as long as they were controlled by those eligible for the credits.
Winning C and F block applicants were also given the opportunity to make "installment payments" over a period of years to the FCC of their winning bid amounts. In the A, B, D and E blocks there were no installment payments. In those blocks, auction winners had to pay "cash on the barrelhead" before receiving licenses.
There were also "unjust enrichment" rules designed to prevent "entrepreneurs" and small business licensees from transferring their licenses to those ineligible for credits until their systems were built. And all auction winners, whether they were eligible for bidding credits, had to meet stringent requirements to construct their initial systems within five years of license grant.
The initial C and F block "entrepreneurs block" auctions took place in 1996 and resulted in substantial sums being bid to secure licenses.
However, either because C and F block applicants recklessly bid money they did not have or because the FCC made available excessive amounts of other wireless spectrum in 1996 and 1997, thus reducing the value of the C and F block spectrum and making financing difficult to obtain, or because of general economic conditions or because of a combination of all those factors, the C and F block auctions proved to be a regulatory disaster. Three large C block auction winners/licensees, NextWave Personal Communications, Inc., GWI PCS, Inc. (now known as Metro PCS), and DCR PCS, Inc. filed for bankruptcy protection. Other C block licensees also went bankrupt and/or defaulted on installment payments owed to the FCC for their licenses. To date, a total of 232 C and F block licenses covering a population of 191 million persons, have been involved in bankruptcy proceedings or defaults.
The FCC has sought to meet this problem in the following ways. First, in 1997 and 1998, it provided an opportunity for C block licensees either to turn in their licenses under "amnesty" provisions, "disaggregate" 15 MHz or turn in some licenses while using a percentage of the "down payments" made for those licenses to cover the costs of other licenses. Those alternatives were intended to reduce C block licensees’ obligations to manageable levels, while still allowing licensees to retain and build some systems. The FCC has also changed its rules to provide that future PCS auction winners will not have the opportunity to make installment payments, thus eliminating the problem of the FCC being a "creditor." Future auction winners will have to pay full price (minus any "bidding credits") for their licenses before they receive them.
However, with respect to "defaulted" C and F block licenses for which licensees had made no permitted "election," the FCC moved to "repossess" and re-auction them. In this, the FCC has been resisted bitterly by the bankrupt licensees, particularly NextWave and Metro PCS, which have claimed that their FCC licensees are assets in bankruptcy proceedings, whose value can be determined by federal bankruptcy judges. The FCC maintains that licenses simply can be "canceled" if licensees fail to make required payments. (See related story on page 9.)
A federal bankruptcy judge and federal district judge in New York held in NextWave’s favor on that issue but were reversed by the U.S. Court of Appeals for the Second Circuit and the FCC plans to auction NextWave’s defaulted licenses in December. NextWave has filed a separate appeal with the U.S. Court of Appeals for the D.C. Circuit, alleging that the FCC had no authority to seize its licenses. That appeal is pending. It also filed in the DC Circuit a companion Petition for Stay, seeking an auction delay. That request was denied on November 13.
In October 2000, Metro PCS won its case against the FCC in the U.S. Court of Appeals for the Fifth Circuit in Texas. That court held that Metro PCS was now entitled to pay a purchase price to the FCC of approximately 20% of what it originally had agreed to pay for its licenses. The FCC has thus not been able to repossess and re-auction Metro PCS’s licenses.
The conflict between the two circuit courts of appeal may have to be resolved by the U.S. Supreme Court, to which NextWave in the Second Circuit case and the FCC in the Fifth Circuit case probably will appeal. Those appeals, however, cannot be heard before December of this year. The D.C. Circuit could, however, rule on NextWave’s other appeal at any time.
Ironically, as the value of PCS spectrum has increased, the bankrupt licensees have found new sources of financing. NextWave, for example, this year offered to pay the FCC $4.3 billion, representing what it had bid for its defaulted licenses, plus interest, and it recently repeated that offer. NextWave has received support in Congress from members who believe that the FCC should simply accept what NextWave bid originally and move on. However, as we write during the post-election "lame duck" congressional session, Congress has not acted to stop the December auction. Nor has any of the three circuit courts with jurisdiction acted to "stay" or postpone the auction. The FCC, for its part, has declined NextWave’s offer, rebuffed congressional pressure, and reaffirmed its plans to re-auction all of the defaulted licenses when the courts allow it to reclaim them.
The licenses now available in the December auction include 312 10 MHz C block licenses, 43 15 MHz C block licenses, and 67 10 MHz F block licenses.
The Eligibility Proceeding
The upcoming C and F block auction of the defaulted licenses has attracted the attention from large wireless "players" such as AT&T Wireless, Nextel and BellSouth (now Cingular after its merger with SBC Wireless), which were previously were barred from participating in the C and F blocks by the FCC’s eligibility rules.
During the past year those carriers and others sought to eliminate the bar on their participation in the upcoming C and F block auctions through requests for rule waivers and rule changes. Such changes were resisted by those presently eligible for C and F block authorizations, who feared that entry of the large carriers would cause an escalation in the prices that would be bid.
On August 29, 2000, the FCC released a "Report and Order," which adopted new C and F block rules that went some distance to meet the requests of the large carriers.
The FCC first broke up the individual C block 30 MHz authorizations, which are to be auctioned into three 10 MHz blocks. In the largest 17 BTAs, two of the three 10 MHz authorizations will be open to all bidders, while one will remain closed to all bidders except those presently eligible. In all other BTAs, one 10 MHz authorization would be open to all bidders while the two others will remain closed. There will be open bidding on all 15 MHz C block authorizations and on all available 10 MHz F block authorizations.
Bidding credits will be retained for "small"; and "very small" businesses bidding in "open" auctions but there will be no bidding credits in "closed" auctions, i.e. auctions among only "entrepreneurs."
The FCC also has changed its rules to allow any license won in "open" bidding to be freely transferable at any time without penalty for "unjust enrichment" and the FCC will allow licenses won in "closed" bidding among presently eligible licensees also to be transferable freely without monetary penalty after satisfaction of the licensee’s first construction "benchmark."
Though the FCC will allow large wireless entities to bid on some C and F block frequencies, it has preserved a niche for relatively small businesses seeking to break into wireless.
PCS offers the prospect of considerable rewards, as the U.S. increasingly shifts to the type of ubiquitous wireless service now found, for example, in Scandinavia. However, there are risks associated with PCS. Once such risk lies in participation in an auction in which prices will be high and the validity of which bankrupt licensees will be doing their best to undermine through legal and political means. Also, if a bidder wins a valid license, it will have to compete in one of the most dynamic sectors of the U.S. economy, at a time when the outlook for many "start up" telecom firms has become uncertain.
Preliminary applications (FCC Form 175) for the C & F block auctions were filed on November 6, and so no entities that did not file such applications may participate in the December auction under present rules.
However, this has been a regulatory story with many twists and turns and it is by no means impossible that the December auction may be delayed by court, FCC or congressional action. If that happens, additional parties may become eligible to participate in a rescheduled auction. There may be additional PCS auctions if the FCC eventually prevails in the current bankruptcy litigation. We will advise clients concerning future opportunities for auction participation.