NMECG PRESENTATION TOTHE NEW MEXICO PUBLIC REGULATION COMMISSION

APRIL 3, 2012

THE FEDERAL COMMUNICATIONS COMMISSION’S

ORDERS TO IMPLEMENT REFORM AND MODERNIZATION OF:UNIVERSAL SERVICEINTERCARRIER COMPENSATIONVOICE AND BROADBAND SERVICES

ADOPTED OCTOBER 27, 2011 – RELEASED NOVEMBER 18, 2011

KEY FACTS ABOUT RLECs IN NEW MEXICONMECG Totals

Access Lines 34,411 Square Miles Served 77,124 Customers per Square Mile 2.24 Number of Employees 526 Annual Payroll $28m Total State and Local Taxes Paid YE 2010 $4.8m 5 Year Capitol Investment Program $210m Outstanding Loans $225m Total Fiber Route Miles 6,322 Over 95% Customers Have Access DSL if they want it

Overview of Universal Service

Steven D. MettsPresident

New Mexico Exchange Carrier Group

Universal Service Concept Has Been In Place Since

the Original Communications Act in 1934

Provide Basic and Essential Service to as Many People as Possible

Comparable Rates in Urban and Rural Areas

Universal Service Originally Accomplished By

Shifting Costs Away From Basic Local Service and To Long Distance Service

Local Service Considered a Necessity and Priced Below Cost

Long Distance Considered More of a Luxury and Priced Above Cost

Divestiture - 1984 Introduced Competition in Long

Distance Industry Customer Had A Choice of Long

Distance Providers Local Exchange Carriers Began

Charging Access Charges to Long Distance Carriers for The Use of the Local Network

Access Charges Set Above Cost to Keep Local Rates Affordable

Subscriber Plant Factor Subscriber Plant Factor Was Used To

Shift Local Loop And Some Switching Costs From State to Interstate Jurisdictions

Weighting Allocated As Much As 85% of Local Loop Costs To Interstate Jurisdiction

Weighting Was Done To Ensure Universal Service In High Cost Areas

Subscriber Plant Factor 1985 SPF Eliminated and Replaced With

A 25% Gross Allocation Of Loop Costs To Interstate Jurisdictions

Transition To The 25 % Gross Allocation Was Phased In From 1986 to 1993

Original Universal Service Fund Was Phased In Over The Same Period

Increased End User Charges

Category 3 COE Weighting Separations Rules Changed To Make All

Switching Costs Traffic Sensitive Switching Costs Were Shifted From The

Intrastate Jurisdiction To The Interstate Jurisdiction

Done In The Interest Of Universal Service Phased In From 1988 to 1993

Category 3 COE WeightingInterstate Intrastate Local

SLU Factor 20% 32% 48%

Weighting 3

Cat 3 Factor

60% 25% 15%

Switched Access Overview

Switched Access Charges Are Intended To Compensate Exchange Carriers for:

- Local Loop Costs- End Office Switching

Costs- Transport Facilities

Telecom Act of 1996 Required “Implicit Subsidies” Be

Removed From Rates and Made Explicit to Enhance Competition

Expanded The Purposes Of The Federal Universal Service Fund

Requires USF Support To Be Portable Among Eligible Telecommunications Carriers

MAG and CALLS Orders Implemented in 2001 and 2002 Eliminate Per Minute Charges For

Carrier Common Line Increase Flat End User Charges New Elements of Federal USF

Interstate Access Support Interstate Common Line Support

Elements of Federal USF High Cost Loop Fund Local Switching Support (LSS) Long Term Support (LTS) Interstate Common Line Support (ICLS) Interstate Access Support (IAS) Safety Net Additive

New Mexico USF

Originally Established As Part of Commission’s ORP Order

Legislature Established State Rural Universal Service Fund in Rural Telecom Act in 1999

Legislature Clarified SRUSF in 2005

Intrastate Access Charges Intrastate Rates Were Much Higher Than

Interstate Rates Intrastate Rates Were Reduced to

Interstate Rates With Companies Being Kept Whole By Payments From The Fund Instead of Passing it All On To Local Ratepayers

They Did What?!Out with the Old & In with the New

An Overview of the FCC’s landmark Universal Service and Intercarrier Compensation Order on

Rate of Return ILECs

Doug Kitch, CPA

Outline

Brief History of the Proceeding(s) Events leading to the Order National Broadband Plan; Notice of Proposed

Rulemaking; Industry Filings What did happen What didn’t happen Universal Service (USF or CAF) Intercarrier Compensation (ICC) Reporting Requirements Conclusion 19

Events Leading to Order

Growth of competitive markets Wireless; IP; Broadband; Video

Growth in size of FUSF CETC Identical Support Rule

• Less than $5M in 1999 to over $1.2B in 2010 Total fund = $2.6B in 2001 vs. $4.5B in 2011 FUSC assessment ~ 6.8% in 1Q2002 to 17.4% in 2Q2012 “A closer look at ILEC USF receipts reveals that ILEC’s non-access

funding is down from $2.16 billion in 2003 to $1.37B in 2011” (Balhoff & Williams)

Other factors: growth of Rural Health Care USF program; E-Rate program

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Events Leading to Order

Expanding availability of broadband Behind as ranking world leader

Complicated hodge-podge of rules addressing various parts of the industry Invites “gaming the system”

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Brief History

The National Broadband Plan Released March 16, 2010 Originated from American Recovery & Reinvestment Act

(ARRA) – Congress directed the FCC to develop the NBP

Includes a plan for ensuring every American has access to broadband Capability

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Brief History

USF/ICC Transformation Notice of Proposed Rulemaking Released February 8, 2011 Proposed reforms to ICC and current USF Designated broadband as supported universal service Connect America Fund outlined

Order Released November 18th, 2011

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What Did Happen in the Order

Extends universal service definition to include broadband

Establishes “firm” budget for USF ($4.5B) Creates the Connect America Fund Adopts Bill and Keep regime for all Intercarrier

compensation Begins phase-down of legacy universal service

support Addresses Access Stimulation and Phantom Traffic FCC entry into traditionally state-level regulation 24

What Did Not Happen

Contribution reform Long Term CAF considerations for RLECs Increase in funding to reflect increased investment

to meet NBP goals Adoption of target speeds in rural areas of more

than 4 meg/1meg

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UNIVERSAL SERVICEConnecting America

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Universal Service

Comprehensive Budget ($s in billions)

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Total Fund $4.5

Price Cap $1.8

RoR $2.0

Mobility $0.5

Remote Areas $0.1

Universal Service – Rate of Return Carriers

Reforms to legacy support mechanisms Framework to limit capital and operating expense

recovery (separate slide) New unsubsidized competitor rule (separate slide) Phase out Safety Net Additive Cap per-line monthly support at $250 (or $3,000 per line

annually) Eliminate Local Switching Support (effective 7/1/2012)

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Capital and Operating Expense Limitation

Framework adopted Subject to comment in FNPRM

Benchmarks for prudent levels of capital and operating costs for purposes of determining high-cost support amounts Called “Quantile Regression Analysis”; to be

implemented no later than 7/1/2012 Corporate operations expenses: extends current

HCLS cap to ICLS

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Unsubsidized Competitor Rule

Definition: “Facilities-based provider of residential terrestrial fixed voice and broadband service that does not receive high cost support”

Where an unsubsidized competitor is competing and covers 100% of a study area, no CAF funding will be available Bureau is working on methodology to determine “100% overlap”

In study areas with 100% overlap, high cost support is frozen at 2010 levels or $3,000 times the number of lines, whichever is lower

Phased out over 3 years

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INTERCARRIER COMPENSATION

The road to bill and keep

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Intercarrier Compensation

Immediate Actions – arbitrage practices Access Stimulation Phantom Traffic

Adopts uniform national bill and keep regime for all intercarrier compensation In Bill and Keep, carriers look to their customer first, and then to

support mechanisms FCC adopts this framework for intrastate, as well as

interstate, rates States will continue to play a role

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Recovery Mechanisms

Key Concepts Recovery will not be 100% revenue neutral Recovery sources

Access Replacement Charge (ARC) to end user Access Revenue Replacement Support from CAF (“ICC CAF”)

Eligible Recovery – the amount of ICC CAF revenue RoR LECs are allowed to recover

Recovery Baseline – based on calendar year 2011 interstate switched access revenue requirement and F/Y 2011 state terminating and reciprocal compensation amounts, reduced each year by 5% 33

ARC Recovery

If eligible (i.e. local rate plus surcharges is <$30), ARC surcharge of $.50/line/mo (residential and single line business) up to max of additional $3.00 and $1.00/line/mo (multi-line business) up to max of additional $12.20 The ARC charge is part of the $30 benchmark

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ACCOUNTING & OVERSIGHT REQUIREMENTS

Major changes

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New Section 54.313

Applies to all high cost support recipients Due April 2, 2012 and annually thereafter

Feb. 3rd clarification Order: postponed until 4/1/2013 except for FCC-designated ETCs, which are required to file a progress report by 4/2/2012

State-designated ETCs that currently file information with states included with 54.313(a)(2-6) per below will now file that information with the FCC, USAC, etc earlier than 4/1/2013. New Mexico already requires this information

1. Progress report on 5-year service quality improvement plan2. Detailed information on outages3. Unfulfilled service requests4. Complaints per 1,000 connections5. Service quality standard certification 36

New Section 54.313

6. Certification that carrier is able to remain functional in an emergency

7. Price offerings8. Holding company information9. Documentation of discussion with Tribal

governments10.Rate certification (starting 4/1/2013)11.Results of network performance tests

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Highlights of Feb. 3rd Clarification Order

Local rate floor: only applies to HCLS, not ICLS ($10/$14 benchmark issue)

Financial reporting obligations: RUS reports will suffice in lieu of annual audit

High cost recipients still required to annually report ownership information, however compliance date not set yet for 2012

VoIP traffic: clarifies that “toll” VoIP traffic (mou-sensitive and flat rate) will be same as non-VoIP toll traffic

When state access rate is lower than interstate, state tariffs may NOT be modified to increase their access rates to interstate levels

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Conclusion

Still Pending: Final regression model Whether regression analysis should apply to ICLS Final ICLS corporate expense cap limitation formula How to account for unsubsidized competitor rule if less than 100%

terrestrial competitor presence Specific transition of originating rates Long term reform (ARC phase out; ICC CAF phase out) Rate of return represcription NACPL “recycling”

Next Steps Further Notice follow up Financial Analysis

State Impact Handout 39

Questions?

doug@alexicon.net719-531-6342

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EFFECTS OF THE FCC’S USF AND ICC REFORMS ON RURAL CUSTOMERS IN NEW MEXICO AND THEIR

RLEC PROVIDERS Significant Reductions of Interstate Revenues for RLECs

Without Alternate Revenues or CAF Increased Operational Expenses Forced Reductions of Capital Expenditures Long Term Service and Network Degradation Negative Economic Impacts Increased Customer Rates Increased Reliance on State Universal Service Funding

IMPACTS ON NMPRC Tariff Filings

Lifeline and Link-up VoIP Rate Increases for Services Increased Contributions for New and Existing

Customers – Aid-for-Construction Access Recovery Charges – Interstate

IMPACTS ON NMPRC Consumer Complaints

Fewer Employees to Support Customer Requests and Requirements

Protracted Delays for Essential Network Upgrades, Replacements, and Maintenance

IMPACTS ON NMPRC Increased Requirements and Requests for

NMUSF Support Careful Management of Regulatory Burdens

FCC’s Actions HJM 9 – Inquiry for Streamlining Regulations for

RLECs Assure that consumers continue to have access to

high quality and affordable services

IMPACTS ON NMPRCCompetition –

Wireless Services are under FCC jurisdiction, but wireless carriers rely on RLECs to provide essential connections

Wireline Services remain under the NMPRC’s purview Access Rates are prescribed by the FCC Bill and Keep Rates will be developed by the NMPRC

and the RLECs

IMPACTS ON NMPRC ETC Reporting Requirements

NMPRC is required to report expanded ETC requirements to comply with the FCC’s Order

Inclusion of Broadband matrices in addition to traditional Voice services