Client Alert. The FCC Applies Forbearance Standard Under Section 10 of the Act; Section 251(c) Is Fully Implemented

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1 Number 494 December 19, 2005 Client Alert Latham & Watkins Corporate Department This Order is significant because it demonstrates the Commission s willingness to grant substantial deregulation to an ILEC even with only one significant facilities-based competitor in the market. FCC Grants Non-Dominant Status and UNE Relief to the Incumbent Local Exchange Carrier in Omaha On December 2, 2005, the Federal Communications Commission (the FCC or the Commission) issued an Order granting the petition of Qwest Corporation (Qwest) for forbearance from certain dominant carrier regulation and certain network unbundling obligations under Section 251(c)(3) of the Communications Act of 1934, as amended (the Act) in the Omaha Metropolitan Statistical Area (the Omaha MSA, or MSA), 1 pursuant to Section 10 of the Act. 2 The Commission granted Qwest s request to forbear from the application of dominant carrier price cap, earnings, tariffing and 60-day discontinuance regulations to its incumbent local exchange carrier (ILEC) offerings of interstate mass market exchange access services and mass market broadband Internet access services in the Omaha MSA, while denying Qwest s request for nondominant treatment in its offering of services to enterprise services (to medium-sized and large business customers). 3 The FCC also granted forbearance with respect to Qwest s obligation to provide unbundled loops and dedicated transport in nine out of 24 wire centers in the MSA. 4 The Commission declined to forbear from Qwest s Bell Operating Company (BOC) competitive checklist requirements under Section 271(c)(2)(B) of the Act and from its regulation of Qwest as an ILEC in Omaha. 5 The FCC took the unusual step of redacting the competitive information of Qwest and Cox Communications (Cox), Qwest s primary competitor in the Omaha MSA, including market share data, which the Commission found persuasive. Thus, at present, the market share percentages and extent of competitive facilities on which the Commission based its forbearance decisions are not available to the public. The Commission stresses that its forbearance decisions are made on a case-by-case basis, and that market conditions different from those in Omaha could result in a different outcome. This Order nonetheless is significant because it demonstrates the Commission s willingness to grant substantial deregulation to an ILEC even with only one significant facilities-based competitor in the market. The FCC Applies Forbearance Standard Under Section 10 of the Act; Section 251(c) Is Fully Implemented Section 10(a) of the Act requires the FCC to forbear from any statutory provision or regulation if it determines that: (1) enforcement of the regulation is not necessary to ensure that charges and practices are just and reasonable and are not unjustly or unreasonably discriminatory; (2) enforcement of the regulation is not necessary to protect Latham & Watkins operates as a limited liability partnership worldwide with an affiliate in the United Kingdom and Italy, where the practice is conducted through an affiliated multinational partnership. Copyright 2005 Latham & Watkins. All Rights Reserved.

2 consumers; and (3) forbearance is consistent with the public interest. 6 In its analysis, the Commission must consider whether forbearance from enforcing the regulation will promote competitive market conditions. 7 The Commission may not forbear from applying the requirements of Section 251(c) until it determines that requirements have been fully implemented. 8 The FCC explicitly stated that its sole task in the Order was to determine whether to forbear as to Qwest s ILEC operations in Omaha under the forbearance standard of Section 10(a), not to make any rulings of general applicability as to the threshold for non-dominance, non-impairment for purposes of Section 251(c), or ILEC status under Section 251(h) of the Act. 9 The Commission did find, however, that Section 251(c) is fully implemented in all markets, for purposes of Section 10, because the FCC has adopted rules of general applicability under Section 251(c) of the Act. 10 Thus, this would not be at issue in future requests for forbearance from Section 251(c). Forbearance Granted from Dominant Carrier Regulation for Mass Market Services In this Order, the Commission granted Qwest s request to forbear from certain dominant carrier regulation in its provision of interstate mass market exchange access services and mass market broadband Internet services in Omaha, but denied Qwest s request with respect to its provision of enterprise services. Dominant carriers are subject to requirements relating to, among others, cost-supported tariffing requirements and price cap or rate of return regulation for services falling under the Commission s jurisdiction. 11 As a non-dominant carrier with respect to mass market services, Qwest will no longer be subject to rate regulation and may file tariffs without cost support. 12 In addition, as a nondominant carrier, Qwest will be required to wait only 30 days for its applications under Section 214 of the Act to discontinue, reduce or impair service to be granted, instead of the 60-day period applicable to dominant carriers for the same applications. 13 The FCC denied Qwest s request for forbearance with regard to enterprise services due to Qwest s failure to provide sufficient information about the market for such services and the level of competition in the MSA. 14 In the past, the FCC has applied dominant carrier regulation to all ILECs because they have been found to possess market power in the provision of most services within their service areas. 15 The FCC determines whether a carrier is dominant by: (1) delineating the relevant product and geographic markets for examination of market power; (2) identifying firms that are current or potential suppliers in that market; and (3) determining whether the carrier under evaluation possesses individual market power in that market. 16 Mass Market and Enterprise Market Distinguished The FCC s Order is limited to the interstate services over which it has jurisdiction. The Commission defines relevant product markets by identifying and aggregating consumers with similar demand patterns. 17 The FCC divided the relevant product market of the Omaha MSA into interstate services provided to the mass market (residential consumers and small business customers) and interstate services provided to the enterprise market (medium-sized and large business customers). 18 The FCC further separated mass market broadband Internet access services provided to end-users from mass market exchange access services provided to interchange carriers, as it has in prior decisions. 19 The Commission defines the relevant geographic market as one in which all customers will likely face the same competitive alternatives for a product. 20 The FCC agreed with Qwest that the 2 Number 494 December 19, 2005

3 relevant geographic market here is Qwest s service territory in the Omaha MSA, which consists of five counties and twenty-four wire centers. 21 Market Share a Significant Factor in FCC s Decision to Forbear from Dominant Carrier Regulation The FCC applied the three prongs of the forbearance standard in Section 10(a) to the Omaha MSA and concluded that enforcement of dominant carrier regulation for mass market exchange access and broadband Internet access services is no longer warranted. 22 First, the FCC determined that enforcement of price cap regulation, rate of return regulation, tariffing and 60-day prior notice of discontinuance is unnecessary to ensure that Qwest s charges and practices are just and reasonable and not unjustly or unreasonably discriminatory. The FCC examined the following factors in making this determination: Market Share illustrates the amount of competition in the market. The FCC found that the relative market shares of Qwest and Cox were most persuasive; however, all market share data was redacted. 23 Demand Elasticity refers to the willingness and ability of customers to switch to another provider. The Commission determined that the growth in Cox s residential access line base and the corresponding decline in Qwest s base showed that residential customers are willing to switch providers easily, thereby demonstrating high demand elasticity. 24 Supply Elasticity, the ability of suppliers to increase the quantity of service supplied in response to an increase in demand, depends on (1) the ability of existing competitors to acquire significant additional capacity, and (2) the absence of barriers to entry for new providers. The Commission held that Cox s extensive facilities build-out in the Omaha MSA and growing success in luring Qwest s mass market customers demonstrated high supply elasticity. 25 However, the FCC recognized that the existence of low barriers to entry in the market relied heavily on Qwest s continuing duties under Section 251(c) to provide interconnection and resale. 26 Firm, Cost, Size and Resources are evaluated across competitors in a market to determine if anti-competitive pricing can be maintained. As compared to Cox, Qwest does not have sufficiently lower costs, greater size, superior resources, greater financial strength or superior technical capabilities. Qwest is also subject to competition from other established carriers of significant size in the Omaha MSA. 27 Second, the Commission determined that enforcement of certain dominant carrier regulation is no longer necessary to protect consumers. The Commission concluded that subjecting Qwest to regulation hinders its efforts to re-acquire customers and does not protect customers but, instead, limits customer choice. 28 The Commission relied on the same analysis that it used in the first prong of the forbearance standard to determine that consumers are protected without the application of dominant carrier regulation. Third, the Commission held that the enforcement of dominant carrier regulation would no longer promote the public interest, and forbearance would affirmatively promote consumer benefits. The FCC relied on Qwest s market share to conclude that subjecting Qwest to regulation limits its ability to respond to competitive forces and, therefore, its ability to offer consumers new pricing plans or service packages quickly. 29 Forbearance from 251(c)(3) Unbundling Requirements Partially Granted The FCC granted, in part, Qwest s request for relief from the Section 251(c)(3) unbundling obligations. The FCC applied the three prongs of the Section 10 forbearance standard to 3 Number 494 December 19, 2005

4 evidence of substantial facilities-based competition for telecommunications services provided over Cox s own extensive cable telephony facilities in Omaha, and concluded that enforcement of Qwest s obligation to provide competitors unbundled access to loops and transport is no longer warranted in nine of the 24 wire centers served by Qwest s ILEC in Omaha. 30 Finding Section 251(c) Fully Implemented As a threshold matter, the Act requires the FCC to determine whether the requirements of Section 251(c) have been fully implemented before it can make a judgment on forbearance relief. 31 The Commission succinctly concluded that Section 251(c) is fully implemented with respect to all ILECs nationwide because the Commission had issued rules implementing Section 251(c) and those rules had gone into effect. 32 The Commission reasoned that it is the entity that Congress charged with implementing the statute. 33 The Commission rejected proposals to include in the analysis of full implementation inquires that are duplicative of other Section 10 requirements. 34 The Extent of Facilities-Based Competition Is a Significant Factor in Decision to Forbear from UNE Requirements Under the Section 10 forbearance standard, the FCC first determined that the continued application to Qwest of the Section 251(c)(3) obligation to provide unbundled access to loops and transport is unnecessary to ensure charges and practices are just and reasonable and not unjustly or unreasonably discriminatory in nine of 24 wire centers. This was based predominantly on a determination of extensive competitive facilities deployment by Cox in those nine wire centers. The FCC stopped short of granting Qwest s request for UNE relief in its entire service territory within the Omaha MSA. Relief was granted only where the FCC found Cox had voice-enabled cable plant covering a certain minimum percentage of end-user locations accessible from that wire center (the exact amount was redacted in the Order). 35 To determine the extent of facilities-based competition in any particular wire center, the Commission considered whether a competitor covers the location using its own network, including its own loop facilities, through which it is willing and able, within a commercially reasonable time, to offer the full range of services that are substitutes for the ILEC s local service offerings. 36 Although the Commission did not reveal the percentage of customers Cox served using its own facilities, the Commission did make clear that Cox s network need not cover 100 percent of the end-user locations in a wire center service area before Qwest could qualify for forbearance. 37 Significantly, the FCC was willing to base its decision on the presence of a single competitor with a substantial facilities-based presence in the market. Although the Commission noted other actual and potential competition in the market, 38 and observed that under the remaining parts of Section 251(c) competitors could continue to purchase wholesale service from Qwest to resell, and negotiate interconnection agreements with Qwest, the Commission did not provide any detail in the Order on any competition other than the intermodal cable competitor Cox. The FCC thus explicitly rejected the notion of a duopoly in the market, and appeared comfortable relying on two facilitiesbased competitors plus whatever resellers and unspecified other competitors might also be present in the market. 39 In addition to the extensive Cox facilities in the nine wire centers where forbearance was granted, the FCC highlighted the following factors in the Order: 4 Number 494 December 19, 2005

5 Cox has been successfully providing local exchange and exchange access services in the nine wire center service areas without relying on Qwest s loops or transport. 40 Cox has captured a larger share of mass market customers (data redacted) where revenue potential, relative to the enterprise market, is low. 41 Cox has doubled its enterprise sales in the Omaha MSA each year for five consecutive years, had current marketing efforts in the enterprise market and had the necessary facilities to provide enterprise services. 42 Cox has sufficient technical expertise, economies of scale and scope, sunk investments in network infrastructure, and established presence and brand in the Omaha MSA to represent a substantial competitive threat to Qwest. 43 Qwest s own wholesale offerings would continue to be adequate without unbundled loop and transport offerings because high levels of retail competition provide Qwest with an incentive to make wholesale offerings attractive. 44 A number of carriers in the market have demonstrated success competing for enterprise services using DS1 and DS3 special access channel terminations obtained from Qwest (data redacted). Under the second prong of the forbearance standard, the Commission determined that enforcement of Section 251(c)(3) is no longer necessary to protect consumers. Based on the same reasoning as above, the Commission determined that forbearance from regulation actually would create greater competitive choices for consumers in the Omaha MSA. 45 To avoid customer disruption, the FCC adopted a six-month plan for competing carriers that currently purchase UNEs from Qwest to transition to alternative facilities or arrangements. 46 Under the third prong of the forbearance standard, the Commission held that the enforcement of Section 251(c)(3) no longer promotes public interest in the affected wire centers. Based on the level of competition and other regulatory safeguards, the Commission determined that the costs of loop and transport unbundling obligations in parts of the Omaha MSA outweigh the benefits, by reducing incentives to invest in facilities, discouraging innovation, and creating complex issues of managing shared facilities. 47 Instead, the FCC found that forbearance from such obligations will promote regulatory parity by placing Qwest and Cox on more equal footing. 48 Other Section 251(c) Obligations Remain in Effect in Omaha Other than loop and transport unbundling obligations under Section 251(c)(3), the FCC declined to forbear from other requirements of Section 251(c). 49 Therefore, Qwest remains subject to the requirement to: (i) negotiate in good faith the terms and conditions of Sections 251(b) and 251(c), (ii) provide other carriers with interconnection to Qwest s network at any technically feasible point, (iii) offer its retail services for resale at wholesale rates, (iv) provide reasonable public notice of changes in its network that would affect interoperability, (v) satisfy certain collocation obligations, and (vi) provide access to the remaining unbundled network elements (E911 database access and operations support systems). 50 The FCC determined that these requirements facilitate existing and potential competition in [the Omaha MSA] and Qwest fails to provide sufficient evidence or justification for why these requirements are no longer necessary. 51 Forbearance from Section 271(c)(2)(B) Requirements Denied Section 271(c)(2)(B) sets forth a fourteen point competitive checklist of access, interconnection and other threshold requirements that a BOC (such as Qwest s Omaha ILEC) must satisfy before that 5 Number 494 December 19, 2005

6 BOC can be authorized to provide inregion, interlata services. 52 The FCC granted Qwest s forbearance from the checklist requirements that apply to loop and transport unbundling in the nine wire centers in which it granted relief from Section 251(c)(3) obligations. 53 However, the FCC denied Qwest substantial forbearance relief from the application of other checklist requirements under Section 271 after determining that the record was insufficient to meet the Section 10 forbearance standard. 54 Forbearance from Regulation as an ILEC Denied Finally, the FCC rejected Qwest s request for forbearance from regulation as an ILEC under Section 251(h) (1) in the Omaha MSA because Qwest did not sufficiently identify how granting the request would meet Section 10 forbearance standard. 55 The Commission held that Qwest s general request failed to provide any substantive ILEC obligations from which it sought relief. 56 Order Effective Immediately The Order is effective from September 16, 2005, the date on which the Commission adopted the decision. 57 This is the date from which the six-month transition period runs for existing UNE customers. 58 Thus, by March 16, 2006, any carrier relying on Qwest UNEs in the wire centers where forbearance was granted will have to make other arrangements to provision service to their end-users. 6 Number 494 December 19, 2005

7 Endnotes 1 In the Matter of Petition of Qwest Communications for Forbearance Pursuant to 47 U.S.C. 160(c) in the Omaha Metropolitan Statistical Area, Memorandum and Order, WC Docket No (rel. December 2, 2005). (Order) U.S.C. 10 et. seq. 3 Order Order Order 90, U.S.C. 160(a)(1)-(3). 7 Id. at 160(b). 8 Id. at 160(d). 9 Order Order See 47 U.S.C. 214(a). 12 Order Order Order Order Regulatory Treatment of LEC Provision of Interexchange Services Originating in the LEC s Local Exchange Area, CC Docket No , Second Report and Order in CC Docket No and Third Report and Order in CC Docket No , 12 FCC Rcd 15756, 15776, (1997). 17 Order Order 22. The FCC denied Qwest s request to define a single product market including mass market and enterprise services. Id. at Order Order Order Order Order Order Order Order Order Order Order Order 57. In contrast to the non-dominance ruling, discussed above, forbearance from the requirement to provide competitors access to the specified unbundled network elements (UNEs) was not limited in the Order to service provided to mass market customers, but applies equally to enterprise customers U.S.C. 160(d). 32 Order Order 53 n Order Order 62, Order 60 n Order 69 ( [T]he service areas of these 9 wire centers in which we partially grant Qwest s Petition for forbearance are precisely the geographic areas where we expect to see further investment and deployment by Cox, and where we are most likely to see other competitors make the investments necessary to provide service without resorting to unbundled loops and transport. If we were to require that Cox s network must cover 100 percent of the end-user locations in a wire center service area before granting Qwest forbearance in that wire center, Qwest would only be entitled to forbearance relief in [redacted] today, despite the fact that Cox provides mass market services to [redacted]. ). See also Order 70 ( We do not believe that we should require that Cox s network neatly map to Qwest s wire center service area boundaries as a precondition of granting Qwest forbearance relief. ). 38 Order Id. 40 Order Order Order Order Order Order Order Order Order Order 84. The Commission did forbear from the collocation obligations under Sections 251(c)(6) and Section 271 to reflect the UNE relief granted under Section 251(c)(3) of the Act U.S.C. 251(c)(1), (2), (4), (5), (6), and 47 C.F.R (b), (c). See Order n Order Order Order Order Order Order Order Order 74 7 Number 494 December 19, 2005

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