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File pnmc5021 (.txt & .wp) is in directory \pub\Public_Notices\Miscellaneous. ************************************************************************* Before the Federal Communications Commission Washington, D.C. 20554 In the Matter of ) AAD 94-38 Petitions for Waivers Filed by ) ) Skyline Telecom., South Central Telephone ) Association, Inc., and U S WEST ) Communications, Inc. ) ) Concerning Section 61.41(c)(2) and the) Definition of "Study Area" Contained in) the Part 36 Appendix-Glossary ) of the Commission's Rules ) MEMORANDUM OPINION AND ORDER Adopted: June 14, 1996 Released: June 14, 1996 By the Chief, Accounting and Audits Division: I. INTRODUCTION 1. On April 8, 1994, Skyline Telecom ("Skyline"), South Central Utah Telephone Association, Inc. ("South Central"), and U S WEST Communications, Inc. ("U S WEST") filed a joint petition for waiver of two 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 petitioners to alter the boundaries of their existing Utah study areas as a result of U S WEST's sale of two exchanges to Skyline and six exchanges to South Central. 2. In addition, Skyline and South Central (collectively, "buyers") seek waivers 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 waivers would permit the buyers to remain under rate-of-return regulation after acquiring the exchanges which currently are under price cap regulation. 3. On April 22, 1994, the Common Carrier Bureau ("Bureau") released a Public Notice soliciting comments on the joint petition. On May 18, 1994, the Bureau received comments supporting the joint petition from the National Exchange Carrier Association, Inc. ("NECA") and the United States Telephone Association. Petitioners also provided additional Universal Service Fund ("USF") cost data and study area boundary information for the joint petition. On March 8, 1996, the Bureau received a letter from the Utah Public Utilities Commission stating that it has no objection to the requested waivers. Finally, on April 1, 1996, the Bureau received a letter from U S WEST, which enclosed the Arizona Corporation Commission's Opinion and Order stating that it has no objection to the requested waivers. 4. In this Order, we find that the public interest would be served by allowing petitioners to alter their study area boundaries and allowing buyers to continue operating under rate-of-return regulation after acquiring the exchanges. We therefore grant the joint petition, subject to the conditions stated below. II. STUDY AREA WAIVERS A. Background 5. A study area is a geographical segment of a carrier's telephone operations. Generally, a study area corresponds to a carrier's entire service territory within a state. Thus, carriers operating in more than one state typically have one study area for each state, and carriers operating in a single state typically have a single study area. Study area boundaries are important primarily because carriers 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 incumbent local exchange carriers ("LECs") do not set up high-cost exchanges within their existing service territories as separate study areas to maximize high-cost payments. The study area freeze also prevents incumbent LECs from transferring exchanges among existing study areas for the purpose of increasing interstate revenue requirements and compensation. An incumbent LEC must apply to the Commission for a waiver of the frozen study area rule if the incumbent LEC wishes to sell an exchange to another carrier and if that transaction would have the effect of changing the study area boundaries of either carrier. 6. 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 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 such a change. We note that 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. B. Pleadings 7. Petition. Petitioners seek waivers of the rule freezing study area boundaries to enable U S WEST to remove eight exchanges, serving approximately 5,000 access lines, from its Utah study area. The requested waivers also would allow buyers to consolidate the acquired exchanges with their existing Utah study areas, which are comprised of 17 exchanges serving approximately 6,000 access lines. 8. Petitioners state that the proposed changes would serve the public interest because buyers have agreed to upgrade the central offices to digital switches within 12 months and upgrade the outside plant facilities to single party service within a reasonable period of time. The petitioners further state that the demonstrated expertise of the buyers' management in operating rural telephone exchanges will ultimately provide a substantial and direct benefit to the subscribers within the eight exchanges. 9. Petitioners state that the requested waivers will not adversely affect the USF in any material way. They estimate that, if the study area waivers are granted and all planned upgrades are completed, the transfer of exchanges would increase the annual USF draw of South Central by $292,438 (from $74,613 to $367,051), but it would not affect the USF draw of either U S WEST or Skyline. 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 combined increase in USF draws will not have a substantial adverse impact on the USF total or on individual carrier draws. In addition, the Utah Public Utilities Commission and the Arizona Corporation Commission state that they do not object to these requested waivers. Finally, petitioners' proposals demonstrate that current and potential customers in the affected exchanges will likely be better served by the buyers than by U S WEST. The requested study area waivers thus are likely to serve the public interest. We therefore find that the three criteria for granting a study area waiver have 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 buyers' 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 LECs have risen by unexpected amounts. These LECs generally had undertaken substantial upgrades or expansions of the local network in difficult-to-serve, sparsely populated exchanges that are similar to the exchanges being acquired by buyers. 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 buyers' study areas shall not exceed the post-upgrade amounts estimated in the GVNW Letter. This limit ensures that the study area waivers will not, due to errors or unforeseen circumstances, result in adverse USF impacts which substantially exceed buyers' forecasts. We note that the implementation of the Telecommunications Act of 1996, requires the overhaul of various Commission support programs, including USF. It is likely that any new USF 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 the buyers' study areas. This, in turn, may require us to revisit these issues and the related waiver conditions that we have established herein following implementation of the 1996 Act. III. PRICE CAPS WAIVERS A. Background 13. Section 61.41(c)(2) of the Commission's rules provides that, when a non-price cap company acquires a price cap company, the acquiring company, and any LEC 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 LEC but also to the acquisition of part of a study area. Hence, under this rule, the buyers' acquisition of U S WEST's eight exchanges obligates them to become subject to price cap regulation instead of rate-of-return 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 LECs. The first concern is that, in the absence of the rule, a company 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, a LEC may attempt to "game the system" by switching back and forth between rate-of-return regulation and price cap regulation. The Commission cited, as an example, the incentive a price cap LEC 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 caps, cutting costs back to an efficient level. It would disserve the public interest, the Commission stated, to allow a LEC 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 LEC shall make a downward exogenous adjustment to its Price Cap Index to reflect the change in its study area. That adjustment is needed to remove the effects of the transferred exchanges from price-capped 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. Buyers seek waivers of Section 61.41(c)(2) so they may operate as rate-of- return LECs, rather than price cap LECs, after acquiring the eight exchanges which currently are under price cap regulation. Petitioners argue that the rule's application in this instance is contrary to the public interest and does not serve the purposes for which the rule was adopted. 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 petitioners that the Commission's first concern underlying the all-or- nothing rule is not applicable in this case. None of the buyers has an incentive to shift costs between price cap and rate-of-return affiliates, because none of these companies is seeking to maintain separate affiliates under different systems of regulation. As to the Commission's second concern, we find it very unlikely that U S WEST could game the system by moving the eight exchanges back and forth between price cap and rate-of-return regulation, because U S WEST is selling these exchanges and a reacquisition would require a second study area waiver. Moreover, U S WEST cannot transfer the exchanges without removing the rate-increasing effects of these exchanges from the price-capped rates that have been based, in part, upon the inclusion of these exchanges in its Utah study areas. 18. We therefore find there is good cause to grant the buyers waivers of the all-or- nothing rule to permit them to remain under rate-of-return regulation after acquiring the eight exchanges which currently are under price cap regulation. As noted above, these waivers are subject to the condition that U S WEST shall make a downward exogenous adjustment to its Price Cap Indices to reflect the removal of these generally high-cost exchanges from its Utah study area. For the present, we will continue to regulate the buyers as rate-of-return carriers. Because we are waiving Section 61.41(c)(2), they need not withdraw from the NECA pools. We note that, as with any other rate-of-return carriers, buyers may elect price cap regulation in the future if they decide to withdraw from the NECA pools. IV. ORDERING CLAUSES 19. Accordingly, IT IS ORDERED, pursuant to Sections 1, 4(i), 5(c), 201-202 of the Communications Act of 1934, as amended, 47 U.S.C.  151, 154(i), 155(c), 201-202, and Sections 0.91, 0.291, and 1.3 of the Commission's rules, 47 C.F.R.  0.91, 0.291, 1.3, that the joint petition of Skyline Telecom; South Central Utah Telephone Association, 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 conditions stated in paragraph 12 and note 23 of this Order. 20. IT IS FURTHER ORDERED, pursuant to Sections 1, 4(i), 5(c), 201-202 of the Communications Act of 1934, as amended, 47 U.S.C.  151, 154(i), 155(c), 201-202, and Sections 0.91, 0.291, and 1.3 of the Commission's rules, 47 C.F.R.  0.91, 0.291, 1.3, that the joint petition of Skyline Telecom and South Central Utah Telephone Association, Inc., for waiver of Section 61.41(c)(2) of the Commission's rules, 47 C.F.R.  61.41(c)(2), IS GRANTED subject to the condition stated in paragraph 18 of this Order. 21. IT IS FURTHER ORDERED, pursuant to Sections 1, 4(i), 5(c), 201-202 of the Communications Act of 1934, as amended, 47 U.S.C.  151, 154(i), 155(c), 201-202, and Sections 0.91 and 0.291 of the Commission's rules, 47 C.F.R.  0.91, 0.291, that the National Exchange Carrier Association, Inc., shall not distribute USF assistance exceeding the limit imposed in paragraph 12 and note 23 of this Order. 22. IT IS FURTHER ORDERED, pursuant to Sections 1, 4(i), 5(c), 201-202 of the Communications Act of 1934, as amended, 47 U.S.C.  151, 154(i), 155(c), 201-202, and Sections 0.91 and 0.291 of the Commission's rules, 47 C.F.R.  0.91, 0.291, that this Order is effective immediately upon release. FEDERAL COMMUNICATIONS COMMISSION Kenneth P. Moran Chief, Accounting and Audits Division Common Carrier Bureau