List of Capped Companies Plummets from 283 to 106 in QRA 2.0

It appears as though the Wireline Competition Bureau has paid attention to the hundreds of filings, letters, and ex parte meetings from the rural independent telecom industry over the last few months, because the new version of quantile regression analysis (QRA) released on April 25, 2012 actually makes more than a few minor changes closely based on RLEC input and recommendations. The “Benchmarks Order” was released late in the day along with a separate Second Order on Reconsideration addressing CAF Phase I and VoIP ICC and a new website for CAF resources on FCC.gov. Overall, the FCC made some profound changes to QRA—changes that the RLEC industry will likely applaud, and changes that may prevent several hundred companies from facing financial distress before the end of the year.

Going back to the USF/ICC Transformation Order, the FCC approved regression analysis as a methodology for limiting high-cost support. The FCC felt that some RLECs were simply receiving too much money from the fund, and “these carriers generally faced no overall limits on their expenditures.” In the Order, the FCC proposed a specific quantile regression analysis methodology in Appendix H, and put it up for comment in the FNPRM. RLECs were overwhelmingly against the proposed methodology (you can read about this more here, here, here, and here). RLECs unleashed a storm of fury and frantically tried to figure out how the proposed caps would impact their investment and capital over the next few years, only to find that it was literally impossible to predict anything beyond 2012.

The RLEC industry provided countless examples of why the original QRA was arbitrary and capricious, why the FCC’s underlying data was wrong, and why the methodology failed to meet the standards of predictable and sufficient support. Furthermore, RLECs took their concerns to Congress, and dozens of Senators and Representatives responded by pressuring the FCC to revise the methodology. In the last two weeks, over two dozen companies have filed letters of intent to file waivers if the FCC adopts the original methodology. And one last thing—government economists who reviewed the methodology a couple months ago also suggested a variety of changes, arguing that the FCC basically got it wrong.

JSICA will dig deeper into QRA 2.0 and the Benchmarks Order over the coming weeks; meanwhile we offer an overview of the changes. The FCC explains that it made the changes “in response to the comments from two peer reviews and interested parties and based on further analysis by the Bureau. These changes significantly improve the methodology while redistributing funding to a greater number of carriers to support continued broadband investment.” Notable changes include:

• 106 carriers are capped, instead of the previous 283.
• For the capped carriers, the reduction in HCLS will be phased in between July 1, 2012 and January 1, 2014.
• The “savings” from capping the 106 companies will amount to about $65m, in contrast to the previously estimated $109m. $55m will be redistributed to the uncapped carriers for broadband investment.
• QRA is now used to generate a capex limit and an opex limit for each company, rather than to generate limits for 11 separate Study Area Cost per Loop algorithm lines. As the FCC notes in the Order, this is “the most significant change in the methodology,” and the decision “reflects a balancing of considerations.” The FCC also notes, “Using fewer regressions limits the Commission’s ability to identify outliers, but enables carriers to account for the needs of individual networks and recognizes the fact that carriers may have higher costs in one category that may be offset by lower costs in others.” This is indeed an important realization and compromise.  
• The FCC changes the definitions of capex and opex. It now defines capex “as the plant-related costs in step twenty-five, which includes return on capital and depreciation, and [defines] opex as the remaining components that are added in step twenty-five to calculate total costs.” It is important to note that the FCC now accounts for depreciation in the capex definition.
• The FCC made significant changes to the selection of independent variables used in QRA by adding a variety of robust and descriptive variables and proxies. A full list of the variables is available in Appendix A of the Order, but some of the notable additions include road miles, road crossings, climate, soil difficulty and bedrock depth. The FCC also includes special variables for Tribal areas, Alaska, the Midwest, and the Northeast.
• The FCC acknowledged the widespread criticism of the TeleAtlas study area boundary data, but declined to modify the study area boundaries in the new methodology. However, the FCC will “provide a streamlined, expedited waiver process for carriers affected by the benchmarks to correct any errors in their study area boundaries.” Additionally, the FCC will solicit data from RLECs about study area boundaries and update the regression methodology in 2014 based on this data. The FCC will also generously waive the $8k waiver fee for carriers seeking a study area boundary waiver.
• The new methodology includes an independent variable that captures the age of the plant—this is important, because it will help differentiate carriers that have invested recently from carriers that have not invested recently. The FCC explains, “Adding this variable raises the cost limit for carriers that have invested recently.”

Some aspects of QRA were not changed, and the FCC rejects several arguments presented by the RLEC industry about QRA. First, the FCC is keeping the ninetieth percentile threshold for now. RLECs previously argued that the FCC should increase the threshold because the caps themselves were overly-inclusive. Under the new methodology, significantly fewer companies are capped which the FCC believes justifies the ninetieth percentile threshold: “We conclude that using the ninetieth percentile as part of the revised methodology appropriately balances the Commission’s twin goals of providing better incentives for carriers to invest prudently and operate more efficiently.”

Second, the FCC rejected the notion that QRA constitutes retroactive ratemaking because “it cannot fairly be said that the application of these benchmarks will take away or impair a vested right, create a new obligation, impose a new duty, or attach a new disability in respect to the carriers’ previous expenditures.” The FCC also notes that it is now phasing in the caps over 18 months, which “provides a greater opportunity for carriers to make any necessary adjustments.” Lastly, the FCC rejects the notion that QRA is a slap in the face of the USF principles of predictability and sufficiency—on the contrary, the FCC believes “if anything, support will now be more predictable for most carriers because the new rule discourages companies from exhausting the fund by over-spending relative to their peers.” Additionally, “the very purpose of the benchmarks is to ensure that carriers as a whole receive a sufficient (but not excessive) amount of HCLS.”

QRA 2.0 is drastically, profoundly, tremendously different from the initial methodology proposed in the USF/ICC Transformation Order. There are sure to be at least a couple “devils in the details,” but for the most part it appears as though the FCC really did listen to and accept the arguments made by the RLEC industry in response to QRA 1.0. In addition to developing a more robust and realistic methodology, the FCC is inserting a reasonable transition period whereby RLECs can prepare for the caps in a gradual manner. What do you think about QRA 2.0—what do you like and dislike the most? Will the changes have a positive impact on RLEC broadband investment over the next 18 months?