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If you need the complete document, download the WordPerfect version or Adobe Acrobat version, if available. ***************************************************************** Before the Federal Communications Commission Washington, D.C. 20554 In the Matter of ) AAD 96-120 Petition for Waivers Filed by ) ) Union Telephone Company, Inc. and ) U S WEST Communications, Inc. ) ) Concerning Section 61.41(c)(2) and 69.3(e)(11) ) and the Definition of "Study Area" ) Contained in the Part 36 Appendix-Glossary ) of the Commission's Rules ) MEMORANDUM OPINION AND ORDER Adopted: February 5, 1997 Released: February 6, 1997 By the Chief, Accounting and Audits Division Common Carrier Bureau: I. INTRODUCTION 1. On November 22, 1996, Union Telephone Company, Inc. ("Union Telephone") and U S WEST Communications, Inc. ("U S WEST") filed a petition for waiver of various Commission rules. The petitioners seek waivers of the definition of "Study Area" contained in the Part 36 Appendix-Glossary of the Commission's rules. The requested waivers would allow Union Telephone and U S WEST to alter the boundaries of their existing Wyoming study areas as a result of U S WEST's sale of the Afton exchange to Union Telephone. 2. In addition, Union seeks a waiver of the price cap rule contained in Section 61.41(c)(2) of the Commission's rules. This rule requires non-price cap companies, and the telephone companies with which they are affiliated, to become subject to price cap regulation after acquiring a price cap company or any part thereof. The requested waiver would permit Union Telephone to remain under rate-of-return regulation after acquiring the exchange that currently is under price cap regulation. Finally, Union Telephone seeks waiver of Section 69.3(e)(11) of the Commission's rules, if necessary, to utilize the National Exchange Carrier Association ("NECA") as its carrier common line tariff administer. 3. On December 13, 1996, the Common Carrier Bureau ("Bureau") released a Public Notice soliciting comments on the petition. On January 8, 1997, the petitioners provided additional information concerning the petition. In this Order, we find that the public interest would be served by allowing the petitioners to alter their study area boundaries and allowing Union Telephone to continue operating under rate-of-return regulation after acquiring the exchange. We therefore grant the petition, subject to the conditions stated below. II. STUDY AREA WAIVERS A. Background 4. A study area is a geographic segment of an incumbent local exchange carrier's ("ILEC") telephone operations. Generally, a study area corresponds to an ILEC's entire service territory within a state. Thus, ILECs operating in more than one state typically have one study area for each state, and ILECs operating in a single state typically have a single study area. Study area boundaries are important primarily because ILECs perform jurisdictional separations at the study area level. For jurisdictional separations purposes, the Commission froze all study area boundaries effective November 15, 1984. The Commission took that action primarily to ensure that ILECs do not set up high-cost exchanges within their existing service territories as separate study areas to maximize interstate cost allocations. An ILEC must apply to the Commission for a waiver of the frozen study area rule if it wishes to sell or purchase an exchange. 5. Waiver of Commission rules is appropriate only if special circumstances warrant deviation from the general rule and such a deviation will serve the public interest. In evaluating petitions seeking a waiver of the rule freezing study area boundaries, the Commission employs a three-prong standard: first, the change in study area boundaries does not adversely affect the universal service fund ("USF") support program; second, the state commission(s) having regulatory authority over the exchange(s) to be transferred does not object to the change; and third, the public interest supports the change. 6. The Commission's concern about adverse USF impacts was mitigated, in the short term at least, by its adoption of the Joint Board's recommendation for an indexed cap on the USF. The Commission nonetheless recognized that, even in the short term, the granting of a study area waiver may adversely affect the fund's distribution, if not its size. Under the indexed USF cap rules, any study area reconfiguration that increases the USF draw of one USF recipient often reduces that of other USF recipients. Consequently, in evaluating whether a study area change would have an adverse impact on the distribution or level of the USF, the Commission applies a "one-percent" guideline to study area waiver requests filed after January 5, 1995. Under this guideline, no study area waiver is granted if it would result in an annual aggregate shift in USF assistance in an amount equal to or greater than one percent of the total USF, unless the parties can demonstrate extraordinary public interest benefit. To prevent ILECs from evading this limitation by disaggregating a single large sale of exchanges into a series of smaller transactions that in the aggregate have the same effect on the USF, the Commission further requires that the guideline be applied to all study area waivers granted to either ILEC, as a purchaser or seller, pending completion of the current review of the universal service program. B. Pleadings 7. Union Telephone currently serves 6,932 access lines and U S WEST currently serves 222,475 access lines in Wyoming. U S WEST proposes to sell the Afton exchange serving 2,336 access lines to Union Telephone. U S WEST seeks waiver of the rule freezing study area boundaries to enable it to remove this exchange from its Wyoming study area. Union Telephone also seeks waiver of that rule to consolidate the acquired exchange with its existing study area. 8. Petitioners state that the proposed changes would serve the public interest because Union Telephone plans to provide improved telecommunications services to rural subscribers. The petitioners state that Union Telephone plans to upgrade the outside plant facilities in the Afton exchange by installing digital loop carrier and placing new cable where necessary. In addition, the petitioners state that Union Telephone plans to upgrade and replace all aerial wire facilities during the first five years of service. Finally, the petitioners claim that the upgrades will enable Union Telephone to meet the current demand for service in the Afton area and to provide service to previously unserved residents. 9. The petitioners state that after the transfer and upgrading of the Afton exchange, the USF impact would be minimal. Specifically, the petitioners estimate that the transfer of the Afton exchange out of U S WEST's study area and into Union Telephone's study area would decrease U S WEST's annual USF draw by $16,000 and would increase Union Telephone's annual USF draw by $126,222. As a result, the net annual increase to the USF would be $110,222. C. Discussion 10. Request for waivers. We have reviewed the data the petitioners filed with NECA and the estimates filed in this proceeding and have determined that the net increase in USF draws will not have a substantial adverse impact on the USF total or on individual ILEC draws. In addition, the Public Service Commission of Wyoming and the Idaho Public Utilities Commission state that they do not object to these requested waivers. The upgrades planned by Union Telephone should improve customer services in the Afton exchange. We believe the petitioners have demonstrated that their customers will likely be well served by Union Telephone, and therefore, the requested study area waivers are likely to serve the public interest. We therefore find that the three-prong standard for granting a study area waiver has been met in this instance and that the study area waiver requests should be granted. 11. Need for imposed limits on USF draws. Although we find no reason to question Union Telephone's estimates of the USF impact, we nonetheless are concerned that those estimates may later prove inaccurate when the planned upgrades are completed. We have found that, even in a period of a few years, the USF payments for some ILECs have risen by unexpected amounts. These ILECs generally had undertaken substantial upgrades or expansions of the local network in difficult-to-serve, sparsely populated exchanges that are similar to the exchange being acquired by Union Telephone. 12. We therefore find that the waivers should be subject to the condition that, absent explicit approval from the Bureau, the annual USF support provided to the Union Telephone study area shall not exceed the post-upgrade amount estimated in the petition. This limit ensures that the study area waivers will not, due to error or unforeseen circumstances, result in adverse USF impacts which substantially exceed Union Telephone's forecasts. We note that the Telecommunications Act of 1996, which became effective on February 8, 1996, requires the reform by May 8, 1997, of many mechanisms the Commission uses to support its universal service goals, including the USF. It is likely that any new universal service rules will alter the method used to determine the distribution of USF support to high-cost areas, thereby changing the projected level of support to Union Telephone's study area. This, in turn, may require us to revisit this issue, and the related waiver condition that we have established herein. III. PRICE CAPS WAIVER A. Background 13. Section 61.41(c)(2) of the Commission's rules provides that, when a cost company acquires a price cap company, the acquiring company, and any ILEC with which it is affiliated, shall become subject to price cap regulation within a year of the transaction. The Commission stated that this "all-or-nothing" rule applies not only to the acquisition of an entire ILEC but also to the acquisition of part of a study area. U S WEST is a price cap company and Union Telephone is a cost company. Hence, under this rule, Union Telephone's acquisition of a U S WEST exchange would obligate it to become subject to price cap regulation. 14. The Commission explained that the all-or-nothing rule is intended to address two concerns it has regarding mergers and acquisitions involving price cap companies. The first concern is that, in the absence of the rule, an ILEC might attempt to shift costs from its price cap affiliate to its non-price cap affiliate, allowing the non-price cap affiliate to earn more, due to its increased revenue requirement, without affecting the earnings of the price cap affiliate, i.e., without triggering the sharing mechanism. The second concern is that, absent the rule, an ILEC may attempt to "game the system" by switching back and forth between rate-of-return regulation and price cap regulation. The Commission noted, as an example, the incentive a price cap company may have to increase earnings by opting out of price cap regulation, building up a large rate base under rate-of-return regulation so as to raise rates and, then, after returning to price cap, cutting costs back to an efficient level. It would disserve the public interest, the Commission stated, to allow an ILEC to alternately "fatten up" under rate-of-return regulation and "slim down" under price cap regulation, because rates would not fall in the manner intended under price cap regulation. 15. The Commission nonetheless recognized that a narrow waiver of the all-or-nothing rule might be justified if efficiencies created by the purchase and sale of a few exchanges were to outweigh the threat that the system may be subject to gaming. Such a waiver would not be granted unconditionally, however. Rather, waivers of the all-or-nothing rule would be granted subject to the condition that the selling price cap company shall make a downward adjustment to its price cap indices to reflect the change in its study area. That adjustment is needed to remove the effects of the transferred exchanges from rates that have been based, in whole or in part, upon the inclusion of those exchanges in the study areas subject to price cap regulation. B. Pleadings 16. Petition. Union Telephone seeks waiver of Section 61.41(c)(2) so it may operate as a rate-of-return ILEC, rather than a price cap ILEC, after acquiring the exchange which currently is under price cap regulation. The petitioners argue that Union Telephone is the type of small rural ILEC which the Commission has found to be an inappropriate candidate for price cap regulation. In addition, the petitioners state that in balancing the benefits to be gained under price cap regulation against the costs which would be incurred by Union Telephone, the public interest is better served by a grant of the requested waiver. The petitioners further argue that the Commission's two concerns, the threat of cost shifting between affiliates and gaming of the system, are not at issue in this case. C. Discussion 17. We agree with the petitioners that the Commission's first concern underlying the all-or- nothing rule is not applicable in this case. Union Telephone cannot shift costs between price cap and cost affiliates, because it is not seeking to maintain separate affiliates under different systems of regulation. As to the Commission's second concern, we find it implausible that the petitioners could game the system by moving the exchange back and forth between price cap and other forms of regulation, because the petitioners would require a second study area waiver. Moreover, U S WEST cannot transfer the exchange without removing the rate-increasing effects of the exchange from the price-capped rates that have been based, in part, upon the inclusion of this exchange in its Wyoming study area. 18. We therefore find there is good cause to grant Union Telephone waiver of the all-or- nothing rule to permit it to remain under rate-of-return regulation after acquiring the exchange which currently is under price cap regulation. As noted above, this waiver is subject to the condition that U S WEST shall make a downward adjustment to its price cap indices to reflect the removal of this high-cost exchange from its Wyoming study area. For the present, we will continue to regulate Union Telephone as a rate-of-return ILEC. Because we are waiving Section 61.41(c)(2), it need not withdraw from the NECA pools. We note that, as with any other rate-of-return ILEC, Union Telephone may elect price cap regulation in the future if it decides to withdraw from the NECA pools. IV. OTHER ISSUES 19. To the extent necessary, Union Telephone seeks a waiver of Section 69.3(e)(11) of the Commission's rules. That rule requires that any changes in NECA carrier common line tariff participation and long term support resulting from a merger or acquisition of telephone properties are to be made effective on the next annual access tariff filing effective date following the merger or acquisition. Union Telephone is concerned that under a strict interpretation of this rule, it rather than NECA, would be required to file a tariff on the next annual access tariff filing date. Assuming its acquisition occurs this year, Union Telephone represents that it plans to utilize NECA as its interstate tariff administrator; consequently, Union Telephone's carrier common line costs will be included in NECA's 1997 filing. We conclude that, Union Telephone is not required to make a separate annual access filing for its carrier common line costs, and therefore, a waiver of Section 69.3(e)(11) is not required. V. ORDERING CLAUSES 20. Accordingly, IT IS ORDERED, pursuant to Sections 1, 4(i), 5(c), 201 and 202 of the Communications Act of 1934, as amended, 47 U.S.C.  151, 154(i), 155(c), 201 and 202, and Sections 0.91, 0.291, and 1.3 of the Commission's rules, 47 C.F.R.  0.91, 0.291, and 1.3, that the petition of Union Telephone Company, Inc. and U S WEST Communications, Inc. for waiver of Part 36, Appendix-Glossary, of the Commission's rules, 47 C.F.R. Part 36 Appendix-Glossary IS GRANTED subject to the condition stated in paragraph 12 of this Order. 21. IT IS FURTHER ORDERED, pursuant to Sections 1, 4(i), 5(c), 201 and 202 of the Communications Act of 1934, as amended, 47 U.S.C.  151, 154(i), 155(c), 201 and 202, and Sections 0.91, 0.291, and 1.3 of the Commission's rules, 47 C.F.R.  0.91, 0.291, and 1.3, that the petition of Union Telephone Company, Inc. for waiver of Section 61.41(c)(2) of the Commission's rules, 47 C.F.R.  61.41(c)(2), IS GRANTED. 22. IT IS FURTHER ORDERED, pursuant to Sections 1, 4(i), 5(c), 201 and 202 of the Communications Act of 1934, as amended, 47 U.S.C.  151, 154(i), 155(c), 201 and 202, and Sections 0.91, 0.291, 1.3, and 61.43 of the Commission's rules, 47 C.F.R.  0.91, 0.291, 1.3, and 61.43, that U S WEST Communications, Inc. SHALL adjust its price cap indices as discussed in paragraph 18 above, to reflect in its 1997 annual price cap filing cost changes resulting from this and other transactions involving the sale of exchanges. 23. IT IS FURTHER ORDERED, pursuant to Sections 1, 4(i), 5(c), 201 and 202 of the Communications Act of 1934, as amended, 47 U.S.C.  151, 154(i), 155(c), 201 and 202, and Sections 0.91, 0.291, and 1.3 of the Commission's rules, 47 C.F.R.  0.91, 0.291, and 1.3, that the National Exchange Carrier Association shall not distribute USF assistance exceeding the limit imposed in paragraph 12 of this Order. 24. IT IS FURTHER ORDERED, pursuant to Sections 1, 4(i), 5(c), 201 and 202 of the Communications Act of 1934, as amended, 47 U.S.C.  151, 154(i), 155(c), 201 and 202, and Sections 0.91, 0.291, and 1.3 of the Commission's rules, 47.C.F.R.  0.91, 0.291, and 1.3, that this Order IS EFFECTIVE IMMEDIATELY UPON RELEASE. FEDERAL COMMUNICATIONS COMMISSION Kenneth P. Moran Chief, Accounting and Audits Division Common Carrier Bureau