[Federal Register Volume 62, Number 13 (Tuesday, January 21, 1997)]
[Rules and Regulations]
[Pages 2918-2927]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 97-1388]
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FEDERAL COMMUNICATIONS COMMISSION
47 CFR Parts 32 and 53
[CC Docket No. 96-150; FCC 96-490]
Accounting Safeguards Under the Telecommunications Act of 1996
AGENCY: Federal Communications Commission.
ACTION: Final rule.
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SUMMARY: On December 23, 1996, the Commission adopted a Report and
Order (``Order'') establishing accounting safeguards necessary to
satisfy the requirements of Sections 260 and 271 through 276 of the
Communications Act of 1934, as amended by the Telecommunications Act of
1996 (``1996 Act''). This Order prescribes the way incumbent local
exchange carriers, including the Bell Operating Companies (``BOCs''),
must account for transactions with affiliates involving, and allocate
costs incurred in the provision of, both regulated telecommunications
services and nonregulated services, including telemessaging, interLATA
telecommunications, information, manufacturing, electronic publishing,
alarm monitoring and payphone services, to ensure compliance with the
1996 Act.
EFFECTIVE DATE: The requirements and regulations established in this
Order shall become effective upon approval by OMB of the new
information collection requirements adopted herein, but no sooner than
February 20, 1997. The Commission will publish a document at a later
date establishing the effective date.
FOR FURTHER INFORMATION CONTACT: Mark Ehrlich, Attorney/Advisor,
Accounting and Audits Division, Common Carrier Bureau, (202) 418-0385.
For additional information concerning the information collections
contained in this Report and Order contact Dorothy Conway at 202-418-
0217, or via the Internet at dconway@fcc.gov.
SUPPLEMENTARY INFORMATION: This Report and Order contains new or
modified information collections subject to the Paperwork Reduction Act
of 1995 (PRA). It has been submitted to the Office of Management and
Budget
[[Page 2919]]
(OMB) for review under the PRA. OMB, the general public, and other
federal agencies are invited to comment on the proposed or modified
information collections contained in this proceeding. This is a summary
of the Commission's Report and Order adopted December 23, 1996, and
released December 24, 1996. The full text of this Commission decision
is available for inspection and copying during normal business hours in
the FCC Public Reference Room (Room 239), 1919 M St., N.W., Washington,
D.C. The complete text of this decision may also be purchased from the
Commission's copy contractor, International Transcript Service (202)
857-3800 1919 M Street, N.W., Suite 246, Washington, D.C. 20554.
Paperwork Reduction Analysis
This Report and Order contains either a new or modified information
collection. The Commission, as part of its continuing effort to reduce
paperwork burdens, invites the general public and the Office of
Management and Budget (OMB) to comment on the information collections
contained in this Order, as required by the Paperwork Reduction At of
1995, Public Law No. 104-12. Written comments by the public on the
information collections are due 30 days after date of publication in
the Federal Register. OMB notification of action is due March 24, 1997.
Comments should address: (1) Whether the new or modified collection of
information is necessary for the proper performance of the functions of
the Commission, including whether the information shall practical
utility; (b) the accuracy of the Commission's burden estimates; (c)
ways to enhance the quality, utility, and clarity of the information
collected; and (d) ways to minimize the burden of the collection of
information on the respondents including the use of automated
collection techniques or other forms of information technology.
OMB Approval Number: 3060-0734
Title: Implementation of the Telecommunications Act of 1996:
Accounting Safeguards Under the Telecommunications Act of 1996.
Form No.: N/A.
Type of Review: Revision.
Respondents: Businesses or other for profit.
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Est. time Total annual
Section/title No. of per Response burden
respondents (hrs.) (hrs.)
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Affiliate Company, Books,
Records & Accounts, Section
272........................ 20 6,056.25 121,125
Affiliate Company, Books,
Records & Accounts, Section
274........................ 7 6,056.25 42,383.75
Est. Fair Market, Value--
Recordkeeping.............. 20 24 480
Arms' Length Requirement.... 7 72 504
Biennial Federal/State Audit/
Audit Planning/ Audit
Analysis & Evaluation...... 7 250 1,750
Filing Written Contract..... 7 1 7
Compliance Audit............ 7 250 1,750
Report of Exceptions........ 7 80 560
10-K Requirement............ 7 1,711 11,977
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Total Annual Burden: 180,536.75 Hours.
Estimated Costs Per Respondents: $632,500.
Needs and Uses: The information that subject carriers are required
to submit under the Order will enable the Commission to ensure that the
subscribers to regulated telecommunications services do not bear the
costs of these new nonregulated services and that transactions between
affiliates and carriers will be at prices that do not ultimately result
in unfair rates being charged to ratepayers. If the information
collections in this submission are not conducted, or conducted less
frequently, the Commission would not be able to prevent cross-
subsidization between these new nonregulated activities and the local
exchange carriers' regulated operations and the Commission would not be
in compliance with the 1996 Act. The Commission concludes that the
burden on the BOCs and incumbent local exchange carriers to comply with
these rules will be minimal.
Regulatory Flexibility Analysis
We have determined that Section 605(b) of the Regulatory
Flexibility Act of 1980, 5 U.S.C. Sec. 605(b), does not apply to these
rules because they will not have a significant economic impact on a
substantial number of small entities. Under the Small Business Act, a
``small business concern'' is one that: (1) Is independently owned and
operated; (2) is not dominant in its field of operation; and (3) meets
any additional criteria established by the Small Business
Administration. Entities directly subject to these rule changes are
engaged in the provision of local exchange and exchange access
telecommunications services. These entities are generally large
corporations that are dominant in their fields of operations and thus,
are not ``small entities'' as defined by the Act. While these companies
may have fewer than 1,500 employees and thus fall within the SBA's
definition of small telecommunications entity, we do not believe that
such entities should be considered small entities within the meaning of
the Regulatory Flexibility Act. Because the small incumbent local
exchange carriers subject to these rules are either dominant in their
field of operations or are not independently owned and operated, they
should be excluded from the definition of ``small entity'' and ``small
business concerns.'' Moreover, to the extent that small telephone
companies will be affected by these rules, we hereby certify that these
rules will not have a significant economic effect on a substantial
number of ``small entities.'' Although we do not find that the
Regulatory Flexibility Act is applicable to this proceeding, this
Commission has an ongoing concern with the effect of its rules and
regulation on small business and the customers of the regulated
carriers as is evidenced by this proceeding.
Summary of Report and Order
I. Safeguards for Integrated Operations
The Order establishes accounting safeguards for telemessaging,
certain interLATA telecommunications and information, alarm monitoring,
and payphone services that the BOCs and other incumbent local exchange
carriers may provide on an integrated basis in accordance with sections
260, 271, 275 and 276 of the 1996 Act. It concludes that our existing
cost allocation rules satisfy the requirements of these sections that
certain competitive telecommunications and information services not be
subsidized by subscribers to regulated
[[Page 2920]]
telecommunications services. In general, our current cost allocation
rules help ensure that interstate ratepayers do not bear the costs and
risks of the telephone companies' nonregulated activities by
prescribing how telecommunications carriers must separate the costs of
certain regulated activities from the costs of nonregulated activities.
Under these rules, incumbent local exchange carriers may not apportion
the costs of nonregulated activities to regulated products and
services. We discuss below the application of our cost allocation rules
to services permitted under sections 260, 271, 275, and 276.
Section 260--Telemessaging Service
Section 260(a)(1) provides that each incumbent local exchange
carrier providing telemessaging service ``shall not subsidize its
telemessaging service directly or indirectly from its telephone
exchange service or its exchange access.'' ``Telemessaging service''
includes voice mail and voice storage and retrieval services, and any
live operator services used to record, transcribe, or relay messages.
The Order concludes that our existing accounting safeguards will
effectively prevent cross-subsidization of telemessaging services in
accordance with section 260(a)(1). Our existing Part 64 cost allocation
rules are designed to prevent cross-subsidization of nonregulated
activities such as telemarketing by establishing a methodology for
allocating joint and common costs between regulated and nonregulated
activities. Under our cost allocation rules, carriers must assign costs
directly, wherever possible, to regulated or nonregulated activities.
If costs cannot be directly assigned, they are considered ``common
costs'' and must be placed in homogenous cost pools. The carrier must
then divide the costs in each pool between regulated and nonregulated
activities using formulas or factors known as ``allocators.'' Whenever
possible, common costs must be directly attributed based upon a direct
analysis of the origins of those costs. Common costs that cannot be
directly attributed must be indirectly attributed based on an indirect,
but cost-causative, linkage to another cost pool or pools for which a
direct assignment or attribution is possible. Only if direct or
indirect attribution factors are not available may the carrier allocate
a pool of common costs using what is known as a ``general allocator.''
Section 271--InterLATA Telecommunications Services
Section 254(k) prohibits telecommunications carriers from using
``services that are not competitive to subsidize services that are
subject to competition.'' The Order concludes that section 254(k) bars
all incumbent local exchange carriers, including BOCs, from subsidizing
competitive interLATA telecommunications services, such as out-of-
region services and certain types of incidental interLATA services,
with revenues from exchange services and exchange access that are not
subject to competition. Moreover, it concludes that our cost allocation
rules, as outlined above, should apply to interLATA telecommunications
services, including out-of-region services and certain types of
incidental services, that may be provided by incumbent local exchange
carriers on an integrated basis. However, in order to protect against
improper cost allocations from one regulated activity to another
regulated activity, we will now treat both out-of-region and certain
types of incidental interLATA services that may be provided by
incumbent local exchange carriers on an integrated basis like
nonregulated activities.
Section 272(e)(3)--Imputation of Charges
Section 272(e)(3) requires that ``[a] Bell operating company * * *
impute to itself (if using [exchange] access for its provision of its
own services), an amount for access that is no less than the amount
charged to any unaffiliated interexchange carriers for such service.''
The Order concludes that to record imputed exchange access charges
required under section 272(e)(3), BOCs should debit the nonregulated
operating revenue account by the amount of the imputed exchange access
charges and credit the regulated revenue account by the amount of the
imputed exchange access charges. By requiring BOCs to account for
imputed exchange access charges in this manner, the accounting for this
imputed revenue will be consistent with our current accounting rules
for imputing revenues derived from services provided to nonregulated
affiliates. Where a BOC charges different rates to different
unaffiliated carriers for access to its telephone exchange service, the
BOC must impute to its integrated operations the highest rate paid for
such access by unaffiliated carriers. In determining the highest rate
paid by unaffiliated carriers, the BOC may consider the comparability
of the service provided. If, for example, rates charged unaffiliated
carriers vary based on the volume purchased, the BOC may consider
comparable volume in determining the highest rate to impute to its
integrated operations. Accordingly, a BOC may take advantage of the
same volume discount purchases offered to its interLATA affiliate and
other unaffiliated carriers.
Section 275--Alarm Monitoring Services
Section 275(e) defines ``alarm monitoring service'' as ``a service
that uses a device located at a residence, place of business, or other
fixed premises (1) to receive signals from other devices located at or
about such premises regarding a possible threat at such premises to
life, safety, or property, from burglary, fire, vandalism, bodily
injury, or other emergency, and (2) to transmit a signal regarding such
threat by means of transmission facilities of a local exchange carrier
or one of its affiliates to a remote monitoring center to alert a
person'' about the emergency. Section 275(b)(2) specifies that an
incumbent local exchange carrier engaged in the provision of alarm
monitoring services ``not subsidize its alarm monitoring services
either directly or indirectly from telephone exchange service
operations.'' As with the prohibition against subsidizing telemessaging
services, the Order concludes that our present Part 64 cost allocation
rules will adequately safeguard against the subsidies prohibited by
section 275(b)(2).
Section 276--Payphone Services
Section 276(a)(1) states that ``any Bell operating company that
provides payphone service shall not subsidize its payphone service
directly or indirectly from its telephone exchange service operations
or its exchange access operations.'' To implement the prohibition,
section 276(b)(1)(C) directs the Commission to prescribe nonstructural
safeguards for BOC payphone service that, ``at a minimum, include the
nonstructural safeguards equal to those adopted in the Computer
Inquiry-III (CC Docket No. 90-623) proceeding.'' In Computer III, we
examined our regulatory regime for the provision of enhanced services
and replaced our previous requirements with a series of nonstructural
safeguards. These safeguards included the Part 64 cost allocation rules
and the affiliate transactions rules. Our experience with accounting
safeguards in Computer III has demonstrated that these safeguards can
effectively guard against the subsidization of competitive activities
by regulated ratepayers, which section 276 prohibits. Accordingly, the
Order concludes that we should apply accounting safeguards identical to
those adopted in Computer III to BOCs and incumbent local exchange
carriers
[[Page 2921]]
providing payphone service on an integrated basis.
II. Safeguards for Separated Operations
Previously, we adopted rules to govern how carriers record costs
when conducting business with nonregulated affiliates. These affiliate
transactions rules were designed to protect ratepayers from subsidizing
the competitive ventures of incumbent local exchange carriers'
affiliates. The affiliate transactions rules do not require carriers or
their affiliates to charge any particular price for assets transferred
or services provided; rather, the rules require carriers to use certain
specified valuation methods in determining the amounts to record in
their Part 32 accounts, regardless of the prices charged. The Order
concludes that, except where the 1996 Act imposes specific additional
requirements, our current affiliate transactions rules generally
satisfy the statute's requirement of safeguards to ensure that these
services are not subsidized by subscribers to regulated
telecommunications services. However, the Order adopts several
modifications to our current affiliate transactions rules, as discussed
more fully below. These modifications apply to all transactions between
incumbent local exchange carriers currently subject to these rules and
their affiliates, not just to transactions between BOCs and their
affiliates required under the Act.
Section 272--Manufacturing and InterLATA Services
Section 272(b)(5) of the 1996 Act requires that transactions
between a BOC and its affiliates engaged in the manufacturing
activities, origination of interLATA telecommunications services, and
offering of interLATA information services described in section
272(a)(2) be conducted on ``an arm's length basis.'' The Order
concludes that our affiliate transactions rules will ensure compliance
with the ``arm's length'' requirement of section 272(b)(5).
Furthermore, in order to satisfy section 272(b)(5)'s requirement that
transactions between section 272 affiliates and the BOC of which they
are an affiliate be ``reduced to writing and available for public
inspection,'' the Order requires the separate affiliate, at a minimum,
to provide a detailed written description of the asset or service
transferred and the terms and conditions of the transaction on the
Internet within 10 days of the transaction through the company's home
page. The description of the asset or service and the terms and
conditions of the transaction should be sufficiently detailed to allow
us to evaluate compliance with our accounting rules. This information
must also be made available for public inspection at the principal
place of business of the BOC, along with a certification statement
described in the Order. While section 272(b)(5) requires BOCs to reduce
their transactions to writing and make them ``available for public
inspection,'' we will protect the confidential information of BOCs, as
well as other incumbent local exchange carriers.
Changes to the Affiliate Transactions Rules
Prevailing Price
Under our current affiliate transactions rules, BOCs may use, under
certain circumstances, the ``prevailing price'' method as a valuation
method for recording affiliate transactions between themselves and
their affiliates engaged in activities described in section 272(a)(2).
The prevailing price describes the price at which a company offers an
asset or service to the general public. Prevailing price currently
represents just one component in the hierarchy of methods for valuing
transactions between a carrier and its affiliate. A carrier subject to
our current affiliate transactions rules currently uses one of the
following methods to value asset transfers for regulated accounts: (1)
Tariffed rates, (2) prevailing company prices, (3) net book cost, or
(4) estimated fair market value. In comparison, carriers must record
transactions involving services in their Part 32 accounts according to
one of three valuation methods: (1) Tariffed rates, (2) prevailing
company prices, or (3) fully distributed cost.
One of the difficulties we have identified with respect to
prevailing price valuation has been determining when carriers should
apply the prevailing price method to transfers of particular assets or
services. The mere offering of an asset or service to unaffiliated
entities is not sufficient to establish a prevailing price. A
substantial quantity of business must be conducted with unaffiliated
third parties in order to establish a true prevailing price.
Specifically, if the percentage of third-party business is small, there
can be no assurance that the price agreed upon by the carrier and its
affiliate represents the true market price, thus raising legitimate
questions as to whether the parties actually negotiated ``on an arm's
length basis.'' In such situations, the use of prevailing prices to
value transactions could permit an affiliate to charge inflated prices
to its affiliated regulated carrier, possibly leading to higher prices
for customers purchasing the regulated services. The Order solves these
difficulties by modifying and clarifying the prevailing price valuation
method.
Our previous rules did not clarify the meaning of a ``substantial''
amount of third-party business for the purpose of establishing a true
prevailing price. The Order concludes that annual sales, as measured by
quantity, of greater than 50 percent of a particular product or service
to third parties must occur to satisfy the requirement that there be a
``substantial'' amount of outside business in order to produce a true
prevailing price for that particular product or service. The Order also
concludes that this 50 percent threshold must be applied on a product-
by-product and service-by-service basis, rather than on a product-line
or service-line basis, because applying the 50 percent threshold on a
product-line or service-line basis would give carriers the incentive to
define product lines and service lines as broadly as possible in order
to be able to value as many transactions as possible at prevailing
price. However, products and services subject to section 272 need not
meet the 50 percent threshold in order for a BOC to record the
transaction involving such products and services at prevailing price.
Valuation Methods for Assets and Services
Our Part 64 cost allocation rules direct subject carriers to use
different methods to value transfers of assets and transfers of
services. The Order directs carriers to now apply the valuation method
currently prescribed for asset transfers to service transfers as well.
We believe that requiring carriers to use the same valuation methods
for both services and asset transfers will reduce the incentive for a
carrier to record an affiliate transaction as a service transfer,
rather than an asset transfer. Requiring a carrier to value transfers
of services using the same valuation methods currently used for asset
transfers will reduce the carrier's ability to value a transfer so that
a carrier can pass on to their affiliates any financial advantages
flowing from how they choose to characterize the transaction. We
continue, however, to define the cost of asset transfers in terms of
net book cost and the cost of service transfers in terms of fully
distributed costs because the net book cost of an asset is comparable
to the fully distributed cost of a service.
However, transactions where a carrier purchases from its affiliate
services that are neither tariffed nor subject to prevailing company
prices and such
[[Page 2922]]
affiliate exists solely to provide services to members of the carrier's
corporate family will continue to be valued at fully distributed cost.
This allows ratepayers to enjoy the benefits of economies of scale and
scope that are created by an affiliate established to provide services
solely to the carrier's corporate family. Requiring carriers to perform
fair market valuations for such transactions would increase the cost to
ratepayers while providing limited benefit.
Fair Market Value
The Order concludes that the procedures carriers use in estimating
fair market value should vary with the circumstances of each
transaction. For this reason, the Order does not specify the
methodologies that carriers must follow to estimate fair market value
where such a valuation method is required under the affiliate
transactions rules. Allowing carriers to make good faith determinations
of fair market value, rather than prescribing specific methodologies,
will provide them with the flexibility to use a methodology appropriate
for the circumstances of the transaction. This good faith requirement
will help ensure that transactions involving a BOC and its section 272
affiliate satisfy the ``arm's length'' requirement of section 272.
Furthermore, this good faith requirement is now imposed on all
affiliate transactions between an incumbent local exchange carrier
currently subject to our affiliate transactions rules and any of its
affiliates, not just to affiliate transactions involving the activities
described in section 272(a). When estimating the market value of
transactions using independent valuation methods, carriers may use
appraisals, catalogs listing similar items, competitive bids,
replacement cost of an asset, and net realizable value of an asset. If
sales to third parties of a product at a particular price generate
large revenues then the sale price is strong evidence of a good faith
estimate of fair market value. When situations arise involving
transactions that are not easily valued by independent means, the Order
requires carriers to maintain records sufficient to support their value
determination. Specifically, the valuation method chosen by the carrier
must succeed in capturing the available supporting information
regarding the transaction and must utilize generally accepted
techniques and principles regarding the particular type of transaction
at issue.
Tariffed-Based Valuation
Under section 252, incumbent local exchange carriers may submit
agreements adopted by negotiations or arbitration to State commissions
for approval or rejection without filing a tariff. Alternatively, they
may file statements of generally available terms pursuant to section
252(f) that state terms on which these incumbent local exchange
carriers would provide services to all customers who desire them. The
Order amends our affiliate transactions rules to allow incumbent local
exchange carriers to use charges appearing in publicly-filed agreements
submitted to a State commission pursuant to section 252(e) or
statements of generally available terms pursuant to section 252(f) in
the place of tariffed rates when tariffed rates are not available.
Return Component for Allowable Costs
Previously, the Commission determined that fully distributed costs
should include a return on investment, but no ``profit'' in excess of
the return then prescribed for the carrier's interstate regulated
activities. Consequently, carriers that utilize fully distributed cost
to value affiliate transactions include in their cost computations a
component for rate of return. The Commission has prescribed a unitary,
overall rate of return of 11.25 percent for those incumbent local
exchange carriers still subject to rate-of-return regulation to use in
computing interstate revenue requirements, unless a carrier can show
that such use would be confiscatory. The Order concludes that incumbent
local exchange carriers should use the rate of return on interstate
services, as amended periodically by the Commission, to determine the
fully distributed costs associated with affiliate transactions. The
prescribed interstate rate of return is consistent with the return on
investment that an incumbent local exchange carrier could anticipate if
it were to use its investment to provide services to third parties. The
Order also concludes that for all affiliate transactions, incumbent
local exchange carriers bear the burden of demonstrating with
specificity that the business risks that they face in providing
services to their affiliates would justify a risk-based adjustment to
the cost of capital that would result in a rate of return different
than 11.25%.
Accounting Requirements of Sections 272(b)(2) and (c)(2)
Section 272(b)(2) requires the separate affiliates prescribed under
section 272(a)(2) to ``maintain books, records, and accounts in the
manner prescribed by the Commission which shall be separate from the
books, records, and accounts maintained by the [BOC] of which it is an
affiliate.'' The Order concludes that separate affiliates prescribed
under section 272(a)(2) must maintain their books, records, and
accounts in accordance with GAAP, which will result in a uniform audit
trail at minimal cost. Moreover, a requirement of GAAP for separate
affiliates required under section 272(a)(2) imposes some degree of
uniformity upon these affiliates. We find no reason to impose the
additional burden of requiring separate affiliates required under
Section 272(a)(2) to maintain their books, records, and accounts in
accordance with the Part 32 Uniform System of Accounts.
Application to InterLATA Telecommunications Affiliates
Section 272(b)(5) requires BOC affiliates established under section
272(a), such as an affiliate providing in-region services, to ``conduct
all transactions with the Bell operating company of which it is an
affiliate on an arm's length basis.'' The Order concludes that the
current affiliate transactions rules satisfy section 272(b)(5)'s
``arm's length'' requirement by treating interLATA telecommunications
services like a nonregulated activity strictly for accounting purposes,
and applying our affiliate transactions rules to transactions between
each BOC and any interLATA telecommunications affiliate it establishes
under section 272(a), such as an affiliate providing in-region
services. However, when a BOC affiliate provides both regulated Title
II services permitted under sections 271 and 272, such as interLATA
telecommunications services, and nonregulated activities, such as
interLATA information services, the Order concludes that we need not
apply our cost allocation rules to prevent subsidization of
nonregulated activities by subscribers to these interLATA
telecommunications services because market forces leave BOC affiliates
with little ability to subsidize nonregulated activities by interLATA
telecommunications services.
Application to Sharing of Services
BOCs are permitted to share in-house services other than operating,
installation, and maintenance services with their section 272
affiliates if the agreement to share in-house services complies with
the requirements of section 272, including section 272(b)(1)'s
``operate independently''
[[Page 2923]]
requirement, section 272(b)(3)'s ``separate officers, directors, and
employees'' requirement, section 272(b)(5)'s ``arm's length''
requirement, and section 272(c)(1)'s nondiscrimination requirements.
Earlier in this Order, we determined that our affiliate transactions
rules should apply to transactions between BOCs and their section 272
affiliates in order to satisfy section 272(b)(5)'s ``arm's length''
requirement. The Order concludes, therefore, that our affiliate
transactions rules apply to transactions between BOCs and their section
272 affiliates for the sharing of in-house services, including joint
marketing services. Moreover, the sharing of in-house services by a BOC
and its section 272 affiliate constitutes a ``transaction'' under
section 272(b)(5) that must be ``reduced to writing and available for
public inspection.''
Audit Requirements
Section 272(d) requires that a company required to operate a
separate subsidiary under section 272 ``shall obtain and pay for a
joint federal/State audit every two years conducted by an independent
auditor to determine whether such company has complied with this
section and the regulations promulgated under this section, and
particularly whether such company has complied with the separate
accounting requirements under [section 272(b)].'' The purpose of the
required audits is to determine whether the BOCs and their separate
subsidiaries are complying with the accounting and structural
safeguards required by section 272 and to report the audit results to
the Commission and the state regulatory agencies. Because of the
critical nature of accounting safeguards in promoting competition in
the telecommunication marketplace and the critical role the biennial
audit will play in ensuring that the safeguards are working, the Order
concludes that the Commission and the States need to oversee the scope,
terms and conditions of the biennial audit.
Under the rules adopted in the Order, the Chief, Common Carrier
Bureau has the authority to form a federal/State joint audit team with
the States having jurisdiction over a BOC's local exchange service.
This joint audit team 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. The structural and
transactional requirements and the nondiscrimination safeguards set
forth in sections 272(b) 272(c) and 272(e) will be subject to audits.
The BOCs cannot hire independent auditors who have participated during
the two years preceding the biennial audit in designing any of the
systems under review in the audit.
The rules adopted in the Order set an orderly schedule for
conducting the audit and for submitting the audit report to the
Commission and the States as well as to interested parties for comment.
The rules call for participation and agreement by the BOC and by the
federal/State joint audit team in defining the scope and purpose of the
audit prior to its commencement. The federal/State joint audit team may
review and, if necessary, direct modifications to the design of the
independent auditor's audit program.
The final audit report must include: (1) The findings and
conclusions of the independent auditor; (2) exceptions of the federal/
State joint audit team to the auditor's findings and conclusions; (3)
response of the BOC to the auditor's findings and conclusions, and (4)
reply of the independent auditor to both the exceptions of the federal/
State joint audit team and the response of the BOC. The independent
auditor's section of the audit report must include a discussion of: (1)
The scope of the work conducted, with a description of how the
affiliate's or joint venture's books were examined and the extent of
the examination; (2) the auditor's findings and conclusions on whether
examination of the books, records and operations has revealed
compliance or non-compliance with section 272 and with the affiliate
transactions rules and any applicable nondiscrimination requirements;
and (3) a description of any limitations imposed on the auditor in the
course of its review by the affiliate or joint venture or other
circumstances that might affect the auditor's opinion. However, the
Order does not require a statement by the auditor that the carrier's
cost allocation methodologies conform to the Act. The first audit will
begin at the close of the first full year of operations. The next audit
will begin two years later and will cover the operations of the
previous two years. Each BOC must obtain one audit that covers all
affiliates engaged in services specified in section 272(a)(2),
including resale, rather than requiring individual audits for each of
these services.
Workpapers related to the biennial audits, including material
obtained from the examined entities, will receive confidential
treatment consistent with section 220(f) and the Commission's policy
for Part 64 audits. Any State commission having access to the audit
workpapers should have provisions in place to ensure the protection of
proprietary information as required by section 272(d)(3)(C). Without
such provisions in place, a State commission could neither be
represented on the federal/State joint audit team nor participate in
the biennial audit. To the extent the biennial audit and the cost
allocation manual audit under Part 64 overlap, we will permit the
biennial audit to meet the requirement of the section 64.904 annual
audit. For a biennial audit to satisfy any part of a cost allocation
manual audit, we will require a statement by the auditor that the
carrier's cost allocation methodologies conform to the Act. We also
note that, unlike the biennial audits, the cost allocation manual
audits under Part 64 do not involve State participation. Thus, by
relying on the biennial audit, we will allow State participation in the
overlapping areas of the audits. In their cost allocation manual audit
workpapers, the independent auditors should include copies of the audit
work performed under the biennial audit.
Section 273--Manufacturing by Certifying Entities
Section 273(d) requires entities that certify telecommunications or
customer premises equipment to maintain separate affiliates in order to
engage in certain types of manufacturing activities. Under section
273(d)(3), when such an entity certifies telecommunications equipment
or customer premises equipment manufactured by an unaffiliated entity,
the certifying entity ``shall only manufacture a particular class of
telecommunications equipment or customer premises equipment for which
it is undertaking or has undertaken, during the previous eighteen
months, certification activity * * * through a separate affiliate.''
``[N]otwithstanding [section 273(d)(3)],'' section 273(d)(1)(B)
prohibits ``Bell Communications Research, Inc., or any successor entity
or affiliate'' from ``engag[ing] in manufacturing telecommunications
equipment or customer premises equipment as long as it is an affiliate
of more than 1 otherwise unaffiliated [BOC] or successor or assign of
any such company.'' Section 273(d)(3)(B) requires the separate
affiliate to ``maintain books, records, and accounts separate from
those of the entity that certifies such equipment, consistent with
generally acceptable accounting principles[,]'' and to ``have
segregated facilities and separate employees'' from the certifying
entity. Section 273(g) permits ``[t]he Commission [to] prescribe such
additional rules and regulations as the Commission determines necessary
to carry out the provisions of this section,
[[Page 2924]]
and otherwise to prevent discrimination and cross-subsidization in a
[BOC's] dealings with its affiliates and with third parties.''
The Order concludes that our affiliate transactions rules, as
modified here, satisfy section 273(g)'s requirement that we ``prescribe
such additional rules and regulations as [we] determine are necessary
to * * * prevent * * * cross-subsidization in a [BOC's] dealings with
its affiliate.'' Elsewhere in this Order, we concluded that BOCs are
subject to the modified affiliate transactions rules in their dealings
with their affiliates engaged in activities permitted under section
272(a), including manufacturing affiliates, in order to assure
compliance with the ``arm's length'' requirement of section 272(b)(5).
Accordingly, BOCs that perform certification activities are already
subject to the affiliate transactions rules in dealings with their
manufacturing affiliates under section 272(b)(5) and current conditions
do not warrant additional rules to satisfy section 273(g). In addition,
as long as a certifying entity, such as Bellcore, remains affiliated
with a regulated BOC, our affiliate transactions rules apply to any
transactions between that certifying entity and its section 273
separated, nonregulated manufacturing affiliate that ultimately result
in an asset or service being provided to the BOC.
Section 274--Electronic Publishing
Section 274 prescribes the terms under which a BOC may offer
electronic publishing. Section 274(a) permits a BOC or its affiliate to
provide electronic publishing over its own or its affiliate's basic
telephone service only through a ``separated affiliate'' or an
``electronic publishing joint venture.'' The Order concludes that in
order to satisfy sections 274(b) and 254(k), we must apply our
affiliate transactions rules, as modified in this Order, to
transactions between BOCs and their ``separated'' electronic publishing
affiliates or joint ventures. This will serve as a safeguard against
the misallocation of costs from a BOC's nonregulated services, such as
electronic publishing services, to regulated telecommunication
services. Our affiliate transactions rules, as modified in this Order,
prevent the BOCs' ratepayers from bearing the costs of competitive
services provided by BOC affiliates and are, therefore, sufficient to
implement section 254(k)'s requirement that carriers not ``use services
that are not competitive to subsidize services that are subject to
competition.''
Section 274(b)(8) requires that a BOC and its electronic publishing
``separated'' affiliate or joint venture each perform an annual
compliance review conducted by ``an independent entity'' to determine
compliance with section 274. The Order concludes that we need not adopt
any rules regarding the compliance review beyond the plain language of
section 274(b)(8)(A). Because of the differences between a compliance
review under section 274 and an audit, it further concludes that a
carrier may not use the electronic publishing compliance review to
satisfy any portion of the annual cost allocation manual audit required
by section 64.904 of the Commission's rules.
Section 274(b)(9) requires the BOC and its electronic publishing
``separated'' affiliate or joint venture to file a report with the
Commission of any exceptions and corrective action resulting from the
compliance review. Section 274(b)(9) further requires the Commission to
``allow any person to inspect and copy such report subject to
reasonable safeguards to protect any proprietary information contained
in such report from being used for purposes other than to enforce or
pursue remedies under [section 274].'' The Order found that these
requirements of section 274(b)(9) are self-effectuating and, therefore,
we need not adopt any rules regarding this requirement beyond the plain
language of section 274(b)(9). The same treatment will be given to
confidential information in such reports as is applied to confidential
information contained in other Commission filings.
Section 274(f)'s Reporting Requirement
Section 274(f) requires any ``separated'' affiliate under section
274 to file annual reports with the Commission ``in a form
substantially equivalent to the Form 10-K required by regulations of
the Securities and Exchange Commission.'' To minimize burdens on the
filing companies, the Order concludes that when an electronic
publishing ``separated'' affiliate already files a Form 10-K with the
SEC, the ``separated'' affiliate may file the same Form 10-K with the
Common Carrier Bureau within 90 days after the end of the ``separated''
affiliate's fiscal year in satisfaction of section 274(f)'s
requirements. For each ``separated'' affiliate not subject to the SEC's
Form 10-K requirement, however, the Order concludes that the
``separated'' affiliate need not file an actual SEC Form 10-K with the
Commission. Instead, such affiliates must file with the Commission a
report containing the same information as is required in the SEC's Form
10-K. In accordance with section 274(f), the report must be organized
``in a form substantially equivalent to the Form 10-K required by
regulations of the [SEC].''
Section 274 Transactional Requirements
Section 274(b)(1) requires the ``separated'' affiliate or joint
venture and the BOC with which it is affiliated to ``maintain separate
books, records, and accounts and prepare separate financial
statements.'' Section 274(b) requires the ``separated'' affiliate or
joint venture to ``be operated independently from the [BOC].'' Pursuant
to section 274(b)(3), the ``separated'' affiliate or joint venture and
the BOC with which it is affiliated must ``carry out transactions (A)
in a manner consistent with such independence, (B) pursuant to written
contracts or tariffs that are filed with the Commission and made
publicly available, and (C) in a manner that is auditable in accordance
with generally accepted auditing standards.'' Section 274(b)(4)
requires the ``separated'' affiliate or joint venture to ``value any
assets that are transferred directly or indirectly from the [BOC] to a
separated affiliate or joint venture, and record any transactions by
which such assets are transferred, in accordance with such regulations
as may be prescribed by the Commission or a State commission to prevent
improper cross subsidies.'' The Order concludes that section
274(b)(1)'s requirement of separate books, records, accounts, and
financial statements is self-effectuating and, therefore, does not
adopt any rules regarding this requirement beyond the plain language of
section 274(b)(1). Furthermore, section 274(b)(3)(A)'s requirement that
transactions be carried out ``in a manner consistent with such
independence'' requires that transactions between a ``separated''
electronic publishing affiliate or joint venture and its affiliated BOC
occur on an arm's length basis, as the transaction would occur between
unrelated parties. The phrase ``such independence'' in section
274(b)(3)(A) refers to section 274(b)'s requirement that a
``separated'' electronic publishing affiliate or joint venture ``be
operated independently from the [BOC].''
However, we find the language of section 274(b)(3)(B) to be
ambiguous. Pursuant to this section, a BOC and its separated affiliate
shall carry out transactions ``pursuant to written contracts or tariffs
that are filed with the Commission and made publicly available.'' From
this language it is unclear whether written contracts must be filed
with the Commission or whether only tariffs are required to be filed
with the Commission. It is also unclear whether written contracts must
be made publicly available or whether only tariffs are required to be
made
[[Page 2925]]
publicly available. We therefore intend to seek further comment on the
meaning of section 274(b)(3)(B) in CC Docket No. 96-152.
Section 274 ``separated'' electronic publishing affiliates or joint
ventures must maintain their books, records, and accounts in accordance
with GAAP in order to satisfy section 274(b)(3)(C)'s requirement that
transactions be ``auditable in accordance with generally accepted
auditing standards.''
Moreover, the Order concludes that we should conform our valuation
methods governing the provision of services between an electronic
publishing ``separated'' affiliate or joint venture and the BOC with
which it is affiliated to those governing asset transfers. We therefore
will require all non-tariffed affiliate transactions to be recorded at
prevailing price if such price exists, and otherwise at the higher of
cost and estimated fair market value when the carrier is the seller or
transferor, and at the lower of cost and estimated fair market value
when the carrier is the buyer or transferee. We will continue to define
the applicable cost benchmarks as net book cost for asset transfers and
fully distributed costs for service transfers. Although section
274(b)(4) only refers to asset transfers, we read section 274's
requirement that the ``separated'' affiliate or joint venture and the
BOC with which it is affiliated ``carry out transactions * * * in a
manner consistent with such independence'' to prohibit the
``separated'' affiliate or joint venture and the BOC with which it is
affiliated from subsidizing electronic publishing services from
regulated telecommunications services. We designed our affiliate
transactions rules to prevent such cross-subsidization. We therefore
conclude that the affiliate transactions rules, as we modify them in
this Order, should apply to all transactions--both asset transfers and
the provision of services--between a BOC and its ``separated''
affiliate or joint venture engaged in electronic publishing activities
permitted under section 274.
Finally, our modified affiliate transactions rules apply whenever a
BOC under common ownership or control with an electronic publishing
``separated'' affiliate or joint venture provides network access and
interconnections for basic telephone service to such ``separated''
affiliates or joint venture.
Separated Operations Under Sections 260 and 271 Through 276
Even when sections 260 and 271 through 276 do not require BOCs or
other incumbent local exchange carriers to offer services through a
separate affiliate, an incumbent LEC might choose to perform these
activities through an affiliate. Under such circumstances, the Order
concludes that our affiliate transactions rules should apply to
transactions between an incumbent local exchange carrier and any of its
affiliates engaged in activities of the types permitted by these
sections 260 and 271 through 276, regardless of whether the Act
requires those activities to be conducted through a separate affiliate.
In order to protect against the subsidies prohibited by these sections,
we conclude that we must apply our affiliate transactions rules to all
transactions between non-BOC incumbent local exchange carriers and
their affiliates engaged in telemessaging activities, incidental
interLATA services, alarm monitoring activities, and payphone services.
We also conclude we must apply our affiliate transactions rules to all
transactions between incumbent local exchange carriers and their
affiliates providing any of the competitive services of the types
permitted under sections 260 and 271 through 276.
Ordering Clauses
Accordingly, it is ordered that, pursuant to sections 4(i), 4(j),
201-205, 218, 220, 260, 271-76, 303(r), 403 of the Communications Act
of 1934, as amended by the 1996 Act, 47 U.S.C. Secs. 154(i), 154(j),
201-205, 218, 220, 260, 271-176, 303(r), 403, the rules, requirements
and policies discussed in this order are adopted and sections 32.27,
53.209, 53.211, and 53.213 of the Commission's rules, 47 CFR
Secs. 32.27, 53.209, 53.211, and 53.213 are amended as set forth below.
It is further ordered that the requirements and regulations
established in this decision shall become effective upon approval by
OMB of the new information collection requirements adopted herein, but
no sooner than February 20, 1997.
List of Subjects
47 CFR Part 32
Communications common carriers, Reporting and recordkeeping
requirements, Separate affiliate safeguards, Telephone, Uniform System
of Accounts.
47 CFR Part 53
Bell Operating Companies, Communications common carriers, InterLATA
services, Separate affiliate safeguards, Telephone.
Federal Communications Commission.
William F. Caton,
Acting Secretary.
Rule Changes
Parts 32 and 53 of Title 47 of the Code of Federal Regulations are
amended as follows:
PART 32--UNIFORM SYSTEM OF ACCOUNTS FOR TELECOMMUNICATIONS
COMPANIES
1. The authority citation for Part 32 continues to read as follows:
Authority: Secs. 4(i), 4(j) and 220 as amended; 47 U.S.C.
154(i), 154(j) and 220; Telecommunications Act of 1996, Public Law
No. 104-104, sec. 402(c), 110 Stat 56 (1996) unless otherwise noted.
2. Section 32.27 is amended by revising paragraphs (b), (c) and (d)
to read as follows:
Sec. 32.27 Transactions with affiliates.
* * * * *
(b) Assets sold or transferred between a carrier and its affiliate
pursuant to a tariff, including a tariff filed with a state commission,
shall be recorded in the appropriate revenue accounts at the tariffed
rate. Non-tariffed assets sold or transferred between a carrier and its
affiliate that qualify for prevailing price valuation, as defined in
paragraph (d) of this section, shall be recorded at the prevailing
price. For all other assets sold by or transferred from a carrier to
its affiliate, the assets shall be recorded at the higher of fair
market value and net book cost. For all other assets purchased by or
transferred to a carrier from its affiliate, the assets shall be
recorded at the lower of fair market value and net book cost. For
purposes of this section carriers are required to make a good faith
determination of fair market value.
(c) Services provided between a carrier and its affiliate pursuant
to a tariff, including a tariff filed with a state commission, shall be
recorded in the appropriate revenue accounts at the tariffed rate. Non-
tariffed services provided between a carrier and its affiliate pursuant
to publicly-filed agreements submitted to a state commission pursuant
to section 252(e) of the Communications Act of 1934 or statements of
generally available terms pursuant to section 252(f) shall be recorded
using the charges appearing in such publicly-filed agreements or
statements. Non-tariffed services provided between a carrier and its
affiliate that qualify for prevailing price valuation, as defined in
paragraph (d) of this section, shall be recorded at the prevailing
price. For all other services provided by a carrier to its affiliate,
the
[[Page 2926]]
services shall be recorded at the higher of fair market value and fully
distributed cost. For all other services received by a carrier from its
affiliate, the service shall be recorded at the lower of fair market
value and fully distributed cost, except that services received by a
carrier from its affiliate that exists solely to provide services to
members of the carrier's corporate family shall be recorded at fully
distributed cost. For purposes of this section carriers are required to
make a good faith determination of fair market value.
(d) In order to qualify for prevailing price valuation in
paragraphs (b) and (c) of this section, sales of a particular asset or
service to third parties must encompass greater than 50 percent of the
total quantity of such product or service sold by an entity. Carriers
shall apply this 50 percent threshold on a asset-by-asset and service-
by-service basis, rather than on a product line or service line basis.
In the case of transactions for assets and services subject to section
272, a BOC may record such transactions at prevailing price regardless
of whether the 50 percent threshold has been satisfied.
* * * * *
PART 53--SPECIAL PROVISIONS CONCERNING BELL OPERATING COMPANIES
1. The authority citation for Part 53 continues to read as follows:
Authority: Sections 1-5, 7, 201-05, 218, 251, 253, 271-75, 48
Stat. 1070, as amended, 1077; 47 U.S.C. 151-55, 157, 201-05, 218,
251, 253, 271-75, unless otherwise noted.
2. Section 53.209 is added to subpart C to read as follows:
Sec. 53.209 Biennial audit.
(a) A Bell operating company required to operate a separate
affiliate under section 272 of the Act shall obtain and pay for a
Federal/State joint audit every two years conducted by an independent
auditor to determine whether the Bell operating company has complied
with the rules promulgated under section 272 and particularly the audit
requirements listed in paragraph (b) of this section.
(b) The independent audit shall determine:
(1) Whether the separate affiliate required under section 272 of
the Act has:
(i) Operated independently of the Bell operating company;
(ii) Maintained books, records, and accounts in the manner
prescribed by the Commission that are separate from the books, records
and accounts maintained by the Bell operating company;
(iii) Officers, directors and employees that are separate from
those of the Bell operating company;
(iv) Not obtained credit under any arrangement that would permit a
creditor, upon default, to have recourse to the assets of the Bell
operating company; and
(v) Conducted all transactions with the Bell operating company on
an arm's length basis with the transactions reduced to writing and
available for public inspection.
(2) Whether or not the Bell operating company has:
(i) Discriminated between the separate affiliate and any other
entity in the provision or procurement of goods, services, facilities,
and information, or the establishment of standards;
(ii) Accounted for all transactions with the separate affiliate in
accordance with the accounting principles and rules approved by the
Commission.
(3) Whether or not the Bell operating company and an affiliate
subject to section 251(c) of the Act:
(i) Have fulfilled requests from unaffiliated entities for
telephone exchange service and exchange access within a period no
longer than the period in which it provides such telephone exchange
service and exchange access to itself or its affiliates;
(ii) Have made available facilities, services, or information
concerning its provision of exchange access to other providers of
interLATA services on the same terms and conditions as it has to its
affiliate required under section 272 that operates in the same market;
(iii) Have charged its separate affiliate under section 272, or
imputed to itself (if using the access for its provision of its own
services), an amount for access to its telephone exchange service and
exchange access that is no less than the amount charged to any
unaffiliated interexchange carriers for such service; and
(iv) Have provided any interLATA or intraLATA facilities or
services to its interLATA affiliate and made available such services or
facilities to all carriers at the same rates and on the same terms and
conditions, and allocated the associated costs appropriately.
(c) An independent audit shall be performed on the first full year
of operations of the separate affiliate required under section 272 of
the Act, and biennially thereafter.
(d) The Chief, Common Carrier Bureau, shall work with the
regulatory agencies in the states having jurisdiction over the Bell
operating company's local telephone services, to attempt to form a
Federal/State joint audit team with the responsibility for overseeing
the planning of the audit as specified in Sec. 53.211 and the analysis
and evaluation of the audit as specified in Sec. 53.213. The Federal/
State joint audit team may direct the independent auditor to take any
actions necessary to ensure compliance with the audit requirements
listed in paragraph (b) of this section. If the state regulatory
agencies having jurisdiction choose not to participate in the Federal/
State joint audit team, the Chief, Common Carrier Bureau, shall
establish an FCC audit team to oversee and direct the independent
auditor to take any actions necessary to ensure compliance with the
audit requirements in paragraph (b) of this section.
3. Section 53.211 is added to subpart (C) to read as follows:
Sec. 53.211 Audit planning.
(a) Before selecting a independent auditor, the Bell operating
company shall submit preliminary audit requirements, including the
proposed scope of the audit and the extent of compliance and
substantive testing, to the Federal/State joint audit team organized
pursuant to Sec. 53.209(d);
(b) The Federal/State joint audit team shall review the preliminary
audit requirements to determine whether it is adequate to meet the
audit requirements in Sec. 53.209 (b). The Federal/State joint audit
shall have 30 days to review the audit requirements and determine any
modifications that shall be incorporated into the final audit
requirements.
(c) After the audit requirements have been approved by the Federal/
State joint audit team, the Bell operating company shall engage within
30 days an independent auditor to conduct the biennial audit. In making
its selection, the Bell operating company shall not engage any
independent auditor who has been instrumental during the past two years
in designing any of the accounting or reporting systems under review in
the biennial audit.
(d) The independent auditor selected by the Bell operating company
to conduct the audit shall develop a detailed audit program based on
the final audit requirements and submit it to the Federal/State joint
audit team. The Federal/State joint audit team shall have 30 days to
review the audit program and determine any modifications that shall be
incorporated into the final audit program.
(e) During the course of the biennial audit, the independent
auditor, among other things, shall:
(1) Inform the Federal/State joint audit team of any revisions to
the final
[[Page 2927]]
audit program or to the scope of the audit.
(2) Notify the Federal/State joint audit team of any meetings with
the Bell operating company or its separate affiliate in which audit
findings are discussed.
(3) Submit to the Chief, Common Carrier Bureau, any accounting or
rule interpretations necessary to complete the audit.
4. Section 53.213 is added to subpart (C) to read as follows:
Sec. 53.213 Audit analysis and evaluation.
(a) Within 60 dates after the end of the audit period, but prior to
discussing the audit findings with the Bell operating company or the
separate affiliate, the independent auditor shall submit a draft of the
audit report to the Federal/State joint audit team.
(1) The Federal/State joint audit team shall have 45 days to review
the audit findings and audit workpapers, and offer its recommendations
concerning the conduct of the audit or the audit findings to the
independent auditor. Exceptions of the Federal/State joint audit team
to the finding and conclusions of the independent auditor that remain
unresolved shall be included in the final audit report.
(2) Within 15 days after receiving the Federal/State joint audit
team's recommendations and making appropriate revisions to the audit
report, the independent auditor shall submit the audit report to the
Bell operating company for its response to the audit findings and send
a copy to the Federal/State joint audit team. The independent auditor
may request additional time to perform additional audit work as
recommended by the Federal/State joint audit team.
(b) Within 30 days after receiving the audit report, the Bell
operating company will respond to the audit findings and send a copy of
its response to the Federal/State joint audit team. The Bell operating
company's response shall be included as part of the final audit report
along with any reply that the independent auditor wishes to make to the
response.
(c) Within 10 days after receiving the response of the Bell
operating company, the independent auditor shall make available for
public inspection the final audit report by filing it with the
Commission and the state regulatory agencies participating on the joint
audit team.
(d) Interested parties may file comments with the Commission within
60 days after the audit report is made available for public inspection.
[FR Doc. 97-1388 Filed 1-17-97; 8:45 am]
BILLING CODE 6712-01-P
