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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. 20054 In the Matter of ) ) National Exchange Carrier Association, Inc. ) ASD 98-96 Proposed Modifications to the 1998-99 ) Interstate Average Schedule Formulas ) ORDER Adopted: March 17, 1999 Released: March 17, 1999 By the Chief, Accounting Safeguards Division, Common Carrier Bureau: I. Introduction 1. On October 1, 1998, the National Exchange Carrier Association, Inc. ("NECA") filed proposed modifications to the current universal service formulas for average schedule companies. The universal service formulas are used for calculating local switching support and universal service fund ("USF") expense adjustments. On October 23, 1998, the Accounting Safeguards Division ("ASD") of the Common Carrier Bureau issued a public notice soliciting comments on NECA's Filing. On December 22, 1998, we approved NECA's modified local switching support formula and, pending further review of the proposed modifications for calculating USF expense adjustments, directed NECA to retain the current USF expense adjustment formula that was approved June 29, 1998. 2. For the reasons discussed below, we deny NECA's proposed USF expense adjustment formula. We direct NECA to use the current USF expense adjustment formula, modified to reflect the growth in loops, as described below. II. Background 3. Incumbent local exchange carriers that participate in the access tariff pooling arrangements administered by NECA recover interstate costs from the pools either as cost companies or average schedule companies. Cost companies receive compensation for the use of their facilities in originating and terminating interstate common carrier communications services on the basis of their actual interstate costs of performing those functions. Average schedule companies receive compensation for their interstate common carrier services on the basis of formulas developed by NECA and approved by the Commission. 4. In its October 1, 1998 filing, NECA proposed modifications to the local switching support and USF expense adjustment formulas, requesting that they take effect on January 1, 1999, and remain in effect through December 31, 1999. Our analysis of the proposed local switching support formula revealed no substantial problems. As a result, we approved its use. Our review of NECA's proposed USF expense adjustment formula, however, raised a number of concerns. Generally, we found that the proposed formula did not reasonably approximate the costs per loop of the sample average schedule companies. Moreover, we were concerned whether such a large increase in USF expense adjustments that would result from NECA's proposal was warranted given the growth limitation on the entire USF and the fact that average schedule companies loops were growing only slightly faster than all firms receiving USF support. We raised our concerns with NECA and asked NECA to provide further information to support its proposed formula. In the December 22, 1998 Order, we directed NECA to retain the current USF expense adjustment formula pending our further review. 5. We have analyzed NECA's proposed USF expense adjustment formula, the underlying data NECA used to determine its proposed formula, additional data provided by NECA, and other information and data relevant to USF disbursements. Our concerns have not been allayed by our further discussions with NECA or the additional data presented by NECA. As discussed below, we are not persuaded that NECA's proposed formula is justified. III. Discussion 6. As specified in the rules, USF expense adjustments are provided to carriers for high cost loop support. Entitlement for high cost loop support is based solely on the carrier's actual loop cost and the degree that its costs exceed the national average. Therefore, in developing an appropriate USF expense adjustment formula for average schedule companies, the costs per loop of the sample average schedule companies is a predominant factor for determining the amount of support. As we have indicated in previous orders, the USF expense adjustment formula for average schedule companies should reasonably approximate the actual costs per loop of the sample companies and allocate funds accurately to the average schedule companies. 7. We approved the current USF expense adjustment formula because we found that it provided an improvement in the accuracy in the allocation of USF support for all sizes of average schedule companies and ensured no unreasonable reduction in any company's USF support. In approving the current formula, however, we noted that it still overcompensated some carriers and urged NECA to work toward developing a formula that would provide more accurate results and would more reasonably approximate the actual costs per loop of the average schedule sample companies. 8. Our review of NECA's proposed USF expense adjustment formula finds that it is not an improvement over the current formula and does not advance the objectives set forth in our previous orders. NECA's proposed USF expense adjustment formula does not reasonably approximate the cost per loop of sample average schedule companies. Instead it results in estimated costs per loop that are widely disparate from the actual costs per loop of the sample data. We analyzed a number of possible alternative models, including the current USF expense adjustment model, and found that they provide a better approximation of the sample average schedule companies' cost per loop data than NECA's proposed model. Significantly, NECA's proposed formula produces results inferior to the results produced under the current model. 9. Our analysis of NECA's proposed USF expense adjustment formula also reveals that approximately two thirds of the sample average schedule companies' actual costs per loop are below the costs per loop produced by the proposed formula. Thus, there is an apparent upward bias in the proposed model resulting in a significant overstatement of costs per loop. This significant overstatement of costs per loop would result in an overcompensation of USF expense adjustments to average schedule companies. Further, we find that the proposed formula does not improve the accuracy in allocation of USF support to the average schedule companies. In fact, our analysis shows that, under NECA's proposed formula, over half of the sample average schedule companies that would receive USF payments have costs that are not high enough to warrant such payments. 10. NECA states that it is continuing its efforts to develop a formula that better estimates costs per loop of the average schedule companies. We encourage NECA to continue to work towards this goal. In the meantime, however, we find no justification for approving a formula that does not provide a better approximation of the costs per loop of sample average schedule companies, has an upward bias in estimating costs per loop thus resulting in an overcompensation of USF expense adjustments to average schedule companies, and does not improve the accuracy in allocating USF expense adjustments to the average schedule companies. 11. Nor do we find sufficient rationale to support NECA's proposed 33% increase in USF expense adjustments based on other indicators that might arguably provide a basis for the proposed increase. For instance, NECA's proposed increase in USF expense adjustments is inconsistent with the stable cost trend in costs per loop for all companies, including average schedule companies. The data derived from NECA's sample of average schedule companies shows virtually no change in the average schedule companies' costs per loop. Similarly, there has been very little change in the nationwide average costs per loop. Thus, the relationship in costs per loops for average schedule companies and the national average has remained constant. Yet, NECA seeks an increase in USF expense adjustments for average schedule companies of 33%. NECA has not provided sufficient justification for the substantial increase in USF support payments to average schedule companies given almost no change in the costs per loops for these companies. 12. Furthermore, we find NECA's proposed increase in expense adjustments at variance with the Commission's policy of controlling growth in high cost support. In place now are rules that limit the rate of growth of the USF to the rate of growth in the total number of working loops nationwide. The average nationwide annual growth in working loops for 1997 was approximately 5%, and accordingly, the fund will increase by approximately that amount in 1999. NECA's data shows that average schedule companies working loops are growing slightly higher than the industry as a whole, at approximately a growth rate of 6.5%. Yet, NECA seeks an increase in USF support of approximately 33%. NECA has not provided sufficient rationale for the substantial increase in USF support payments produced under the proposed formula when compared to other indicators of growth relative to USF support. IV. Modification to Current USF Expense Adjustment Formula 13. Based on our review in this proceeding, we believe that until NECA develops a formula that better estimates actual costs per loop, fairly allocates USF support, and achieves the policies and objectives that underlie the provision of USF high cost support, the current USF expense adjustment formula should be retained and modified as discussed in paragraph 14 below. We recognize that the industry has experienced growth in working loops and that an increase in support to accommodate this growth would be reasonable. While the growth rate of working loops nationwide is approximately 5%, the growth rate in working loops for the average schedule companies is 6.5%. We believe it is reasonable to permit the USF expense adjustments provided under the current formula to increase by the growth in working loops for average schedule companies. While this solution does not substitute for a model that reasonably approximates the actual costs per loop of average schedule companies and accurately allocates payments, it is consistent with the Commission's policy of providing increases in USF support for high cost loops based on the growth in total number of working loops. 14. We direct NECA to modify the current formula so that the average schedule companies, in the aggregate, will receive 6.5% more in USF high cost loop support in 1999 than they received in 1998. To accomplish this, NECA should take the following three steps: (1) NECA should compute the individual average schedule company USF expense adjustment using the current formula and the 1997 working loop and exchange counts; (2) NECA should compute an adjustment factor as shown below: 1.065 x (Total Annualized USF Expense Adjustments for Last Half of 1998 for Average Schedule Companies) (Total Annual USF Expense Adjustments for Average Schedule Companies Derived From the Current Formula and the 1997 Working Loop and Exchange Counts) and (3) NECA should multiply the individual average company USF expense adjustment from step (1) by the factor derived in step (2) to determine each company's USF expense adjustment for 1999. We recognize that the modification we are making to the current formula could cause some companies to receive less USF high cost loop support in 1999 than they received in 1998. We are especially concerned about reductions in USF high cost loop support for companies serving the smallest exchanges because these companies are often the most dependent on USF support to keep local rates reasonable. Therefore, we direct NECA to submit a schedule to us within 30 days of the release of this order that sets forth the payments to each average schedule company resulting from the modified formula. Such submission should identify additional amounts above the amounts stated on the payment schedule that may be necessary to ensure that individual companies serving the smallest exchanges will not experience unreasonable reductions in per loop support in 1999 compared with their 1998 amounts. The requested submission does not preclude NECA from beginning payments to average schedule companies, under the modified formula, at the next regular payment cycle. V. Ordering Clauses 15. Accordingly, IT IS ORDERED, pursuant to Sections 0.91 and 0.291 of the Commission rules, 47 C.F.R.  0.91, 9.291, that the average schedule formula proposed by the National Exchange Carriers Association, Inc. on October 1, 1998, for USF expense adjustment IS DENIED. 16. IT IS FURTHER ORDERED, pursuant to Sections 0.91 and 0.291 of the Commission rules, 47 C.F.R.  0.91, 9.291, that NECA shall retain the current USF expense adjustment formula as modified in section IV of this order for the USF expense adjustment. 17. IT IS FURTHER ORDERED, pursuant to Section 4(i) of the Communications Act of 1934, as amended, 47 U.S.C.  154(i), and Sections 0.91, 0.291, 1.103 and 1.4(b)(2) of the Commission's rules, 47 C.F.R.  0.91, 0.291, 1.103 and 1.4(b)(2) that THIS ORDER IS EFFECTIVE UPON ITS RELEASE. FEDERAL COMMUNICATIONS COMMISSION Kenneth P. Moran Chief, Accounting Safeguards Division