NEWSReport No. DC 96-114NEWS ACTION IN DOCKET CASE December 24, 1996 COMMISSION IMPLEMENTS ACCOUNTING SAFEGUARDS PROVISIONS OF THE TELECOMMUNICATIONS ACT OF 1996 (CC Docket No. 96-150) The Commission today released an Order implementing the accounting safeguards requirements of the Telecommunications Act of 1996. Congress imposed these safeguards in sections 260 and 271 through 276 of the 1996 Act both to ensure that subscribers of regulated non-competitive telecommunications services do not subsidize incumbent local exchange carrier (LEC) provision of competitive services and to promote competition by preventing incumbent LECs from using their market power in local exchange services to obtain an anti-competitive advantage in the provision of other services. In the Order released today, the Commission affirmed the tentative conclusion set forth in its Notice of Proposed Rulemaking (NPRM) released in July 1996, that its existing cost allocation and affiliate transactions rules generally satisfy the statute's accounting safeguards requirements. In addition, the Commission adopted certain modifications to its affiliate transactions rules to provide greater protection against subsidization of competitive activities by subscribers to regulated telecommunications services and to streamline and clarify these rules, to ensure more uniform application. In Sections 260 and 271 through 276 of the 1996 Act, Congress outlined the conditions under which incumbent LECs may offer telemessaging and alarm monitoring services and Bell Operating Companies (BOCs) may manufacture and sell telecommunications equipment, manufacture customer premises equipment, and offer interLATA telecommunications, information, electronic publishing, and payphone services. Sections 271 through 274 and 276 of the 1996 Act prohibit BOCs from subsidizing services permitted under those sections with revenues from their regulated telecommunications services. Sections 260 and 275 prohibit all incumbent LECs from subsidizing their telemessaging and alarm monitoring services with revenues from regulated telecommunications services. The Commission's existing accounting safeguards consist of cost allocation and affiliate transactions rules. The Commission concluded that its existing cost allocation rules generally satisfy the 1996 Act's accounting safeguards requirements when incumbent LECs, including the BOCs, provide services permitted under Sections 260 and 271 through 276 on an integrated basis (i.e., within the telephone operating companies). In the Order released today, the Commission affirmed the tentative conclusion reached in its NPRM that the current affiliate transactions rules generally satisfy the 1996 Act's accounting safeguards requirements when incumbent LECs must use or choose to use an affiliate to provide services permitted under Sections 260 and 271 through 276. The Commission also adopted, with some modifications, most of the NPRM's suggested changes to the affiliate transaction rules to provide greater protection against subsidization of competitive activities by subscribers to regulated services. In addition, the modifications to the affiliate transactions rules adopted by the Commission provide clearer guidance to the use of the prevailing price method for transaction valuation. The Commission determined that such clearer guidance should result in more streamlined and uniform application of the affiliate transaction rules. In the NPRM, the Commission sought comment on whether it should eliminate the use of the prevailing price method as a valuation method for recording affiliate transactions between the BOCs and their affiliates engaged in activities described in section 272(a)(2) of the Act. The prevailing price method describes the use of the price at which a company offers an asset or service to the general public to establish the value of the affiliated transaction. Under the Commission's existing affiliate transactions rules, carriers record non- tariffed assets or services at their prevailing prices if such prices exist. Consequently, prevailing price represents one component in the hierarchy of methods for valuing transactions between a carrier and its affiliate. The Commission determined, however, that it would not adopt its proposal to eliminate the prevailing price method as a valuation method for recording affiliate transactions. Instead, the Commission continued to require that the prevailing price method may be used only in situations in which a "substantial" quantity of business for products or services are conducted by an incumbent LEC or its affiliate with unaffiliated third parties. In the Order released today, the Commission clarified that a "substantial" quantity of business means that 50 percent or more of a particular product or service is provided to unaffiliated third parties. As a result, the sales price of products or services amounting to 50 percent or more of the sales volume of that particular product or service provided by an incumbent LEC or affiliate shall be considered a prevailing price for recording affiliated transactions. Section 272 of the Act requires the BOCs to conduct all transactions with their section 272 affiliates on an "arm's length basis." The Commission's existing affiliate transactions rules are designed solely for transactions between regulated carriers and their nonregulated affiliates. The Commission stated that its existing rules did not protect against a flow of subsidies from a BOC's exchange services and exchange access to its affiliate providing regulated interLATA telecommunications services, such as in-region services. Consequently, the Commission concluded that it would apply the affiliate transactions rules to transactions between each BOC and any interLATA telecommunications affiliate it establishes under section 272, such as an affiliate providing in-region services, and order that the BOCs treat such services like nonregulated activities for accounting purposes. Under the Order released today, the structural and transaction requirements and the nondiscrimination safeguards set forth in section 272 are subject to audits. Due to the nature of these audits, the Commission determined that the Chief of the Common Carrier Bureau shall form a federal/State joint audit team with the States having jurisdiction over a BOC's local exchange service. These joint audit teams will review the conduct of the audit and direct the independent auditor to take such action as the team finds necessary to ensure compliance with the audit requirements. This proceeding is one of a series of interrelated rulemakings that collectively will implement the safeguards provisions of the 1996 Act. In a separate but related Order also released today, the Commission adopted non-accounting safeguards to govern BOC entry into certain new markets. Together, the accounting and non-accounting safeguards are intended to protect subscribers to BOC services, such as local telephony, against the risk of being forced to pay costs incurred due to the BOCs' provision of competitive services, and to protect competition in those markets from the BOCs' ability to use their existing market power in local exchange services to obtain an anticompetitive advantage in those new markets the BOCs seek to enter. The Commission stated that it will monitor the development of competition to determine whether further changes to these accounting safeguards are needed to achieve the objectives of the Act. Action by the Commission December 23, 1996, by Report and Order (FCC 96-490). Chairman Hundt, Commissioners Quello, Ness, and Chong. -FCC- News Media contact: Mindy J. Ginsburg at (202) 418-1500. Common Carrier Bureau contact: Tim Peterson at (202) 418-1500 or Mark Ehrlich at (202) 418-0850.