Net Neutrality, Telecom “Investment” & Title II

Adapted from a Feb 4, 2019 article by Bruce Kushnick | Original is here.

Last year we wrote a report on the FCC’s structural flaws in analysis regarding Net Neutrality and other related issues. New reports are coming in February 2019 . . .
— See REPORT: Solving Net Neutrality: A Fatal Structural Flaw in All 2017-2018 FCC Proceedings.

State Public Telecom Utility (Verizon-New York) 2017 Annual Report

Have you ever heard of the 75% – 25% rule for network “investment” expenses?

• 75% of the construction budgets are being paid by “Local Service”, which means by Title II-regulated, State Public Telecom Utility Cos. ('SPTUs'), which, of course is intrastate"

• Only 25% of the construction budgets are billed to services classified as “interstate”.

Did you know . . .

1. That the fiber optic wires for FiOS broadband and much of the fiber optic wires for Verizon’s Wireless services are using the construction (investment) budgets of the state utilities ('SPTUs') and this was done claiming that these networks are Title II — while the services are classified as interstate?

2. That the FCC’s accounting rules (recently extended through 2025) for allocating expenses of the different private Telecom subsidiary companies use an allocation percentage (a breakdown between regulated vs. unregulated subsidiaries) — based on a formula from the year 2000?

3. That these FCC accounting tricks charges the majority of expenses (and investment) to SPTU companies — and the resulting artificial SPTU losses are used for rate increases for Local Service?

4. That these same FCC accounting tricks have inflated the profits of private Telecom subsidiaries, so that America pays some of the highest wireless prices per-gigabyte in the world?

5. That 5G Wireless requires a fiber optic wire every 1–2 blocks, and that the costs for this long-overdue fiber optic expansion appears to be coming out of the SPTU construction (investment) budgets?

Faulty Broadband Investment Analyses

In the oral arguments for the fate of Net Neutrality regulations occurred on Feb 1, 2019, one thing is abundantly clear:   all of the statistics about investments in America’s Broadband Wireline and Wireless networks being presented by the FCC in Court are fundamentally wrong. No attorney detailed that the majority of this network ‘investment’ was from the construction expenditures that are part of the State Public Telecom Utilities.

These seat-of-the-pants analyses by

• The Free State Foundation,
• Information Technology & Innovation Foundation (ITIF)
• Hal Singer, the Georgetown Center for Business and Public Policy
• The Phoenix Center

. . . and other analyses stretched the data to fit their agenda. Then the FCC selects what they think is best to tilt public policy towards Big Wireless (Verizon, AT&T et al.) — and away from the public good or consumer protection. While the analyses may sound plausible, they are all make-believe.

And virtually no one — not the experts, pundits or even the FCC — has acknowledges that Title II-regulated SPTU companies still exist in every state. These experts have simply not examined the existing financial reports. We have.

This is not surprising as the FCC stopped publishing the basic financial state data in 2007. Except for the state of New York, no other state, that we could find, is still publishing basic SPTU financial reports.

Follow the Money

Let’s go through some shocking financials.

The table that opens this article, above, is taken directly from the Verizon-New York ('Verizon-NY') 2017 SPTU Annual Report, published in June 2018. Verizon-NY is the primary State-based Public Telecommunications Utility company in New York State. We know that the Verizon-NY financials have the same characteristics as every other SPTU because the Verizon-NY financials were based on federal FCC accounting rules, which applied to all SPTUs in 2007.

Hiding Billions in Financial Cross-Subsidies** (Rounding used for simplicity.)

Excerpt of Verizon NY 2017 Financial Annual Report, Published June 2018*

1. Verizon-NY had revenues of almost $5 billion in 2017.

2. Verizon-NY’s Local Service had revenues of nearly $1.1 billion in 2017, which are mainly the revenues from basic copper phone lines. (Note: This total, however, is not the total 2017 revenues from copper-based lines for Verizon in New York State.)

3. Verizon-NY’s Local Service, however, is paying $1.2 billion in construction and maintenance expenses — (commonly called “Plant” and “Non-specific Plant”) and is inexplicably paying the majority of these expenses.

4. Verizon-NY’s “Access” Service had revenues of almost $2.4 billion in 2017 and this includes almost $2 billion in “Business Data Services”. These are also called “backhaul” networks and are used by the wireless companies.

5. Verizon-NY’s “Nonregulated” category includes FiOS video, Voice Over Internet Protocol (VOIP), and other nonregulated, deregulated or never-regulated services.

   • Local Service revenues are from the copper-based basic phone lines and from other source documents we found that Verizon spent an estimated $100–$125 million in construction in 2017.

   • This means that $1.1 billion has been cross-subsidized from Verizon-NY, the Title II-regulated SPTU, to fund Verizon's other unregulated private subsidiaries. Furthermore, this investment is not collected from investors but from excess charges on legacy, copper, PSTN landline phone bills.

6. Note also that Verizon-NY’s Local Service was also charged a whopping $1.8 billion in something called “Corporate Operations” expense, paying for the corporate jets and executive pay as well as for political contributions lobbyists, lawyers, and even for golf tournaments.

7. All of this fraudulent cross-subsidy activity his made Verizon-NY’s Local Service unprofitable, with $2.9 billion in losses in 2017 — and a large portion of the losses can be attributed to two expenses: Construction and Corporate Operations.

8. This accounting fraud then made Verizon-NY, the entire state-based Public Telecom utility, appear unprofitable, with $2.6 billion in losses, garnering undeserved tax benefits,

Evidence That Demands A Verdict

• Key Question: Why is Verizon-NY Local Service Paying the Lion's Share of Construction and Corporate Operations Expenses?

• Answer: The FCC's cost accounting rules created these Telecom cross-subsidies from regulated subsidiaries to unregulated subsidiaries.

• This is a massive financial shell game — perhaps the largest in US history because it involves the systematic fleecing of the SPTUs in every state, totaling over 500 Billion dollars_xxx.

Now consider the following:

• The FCC’s cost accounting rules are now set to put the majority of all of expenses into Local Service because the FCC’s rules are ‘frozen’ to a percentage breakdown from the year 2000 and were never changed.

• And if you want perversity, in December 2018, the FCC extended this ‘freeze’ for six additional years, through 2025.

• These FCC’s cost accounting rules divide up the expenses to be paid by the regulated and unregulated subsidiaries — pegged to the year 2000 — when Local Service was 65% of revenues and paid 65% of expenses.

• In 2017, Local Service is 22% of revenues, but pays about 65% of the Corporate Operations expense — $1.8 billion, in just Verizon NY, in just 2017.

• At the core, this manipulation of the accounting rules allowed for the cross-subsidizing from intrastate Title II-regulated SPTU cos. to the other private, uregulated subsidiaries that have been declared “interstate”.

• The 75%–25% Rule. The construction costs have been allocated to Local Service based on an additional accounting rule: the 75%-25% rule. I.e., Seventy-Five percent of the construction, conduit, etc., costs are charged to Local Service; 25% to the ‘interstate’ services. This rule means that the other lines of business, like Access, are paying a fraction of the construction expenses.

  • Local Service is paying $1.2 billion in construction . . .

  • . . . while Access Services are paying only $600 million in construction — even thought Access Services has more than double the revenues

• Based on these financials, the Local Service basic phone lines had multiple rate increases that were, as we can see, based on artificial, manipulated and perverted accounting.

Conclusions: FCC Garbage In, Consumer Protection Garbage Out

1. The Construction budgets were for FiOS and the Fiber Optic wires to the cell sites.

It would appear that the wireless company was cross-subsidized by this extra $1.1 billion in construction that was placed into Verizon New York Local Service in 2017.

Fran Shammo, Verizon’s former Chief Financial Officer stated to investor representatives that the wireline construction budgets have been diverted to charge regulated wireline budgets for the less regulated wireless affiliate’s construction needs.

“The fact of the matter is Wireline capital — and I won’t get the number but it’s pretty substantial — is being spent on the Wireline side of the house to support the Wireless growth. So the IP backbone, the data transmission, fiber to the cell that is all on the Wireline books but it’s all being built for the Wireless Company.”

2. The Fiber Optic Networks are Part of the State Utility and are Title II.

This is from a Verizon New York FiOS franchise. It specifically states that the “FTTP”, “Fiber-to-the Premises”, is Title II.

Not one lawyer for either side in the Feb 1, 2019 Net Neutrality Oral Arguments bothered to mention this fact. Verizon has been talking out of both-sides of their mouth when they claim that Title II harmed investment. The FCC and Verizon have been talking out of both-sides of their mouth when they claim that Title II regulation harmed investment

3. The Timeline of Net Neutrality and Title II.

The FCC’s Net Neutrality decision states that broadband capital investment increased from 2009–2014, and it was only when “Title II” was applied, in 2015, that there was a drop.

“We first look to broadband investment in the aggregate and find that it has decreased since the adoption of the Title II Order. ISP capital investment increased each year from the end of the recession in 2009 until 2014, when it peaked. In 2015, capital investment by broadband providers appears to have declined for the first time since the end of the recession in 2009.” (Emphasis added.)

The following is the SPTU Verizon-New Jersey (Verizon-NJ) construction expenditures by year, 1993–2014. It would appear that the time-frame mentioned by the FCC is just made up as it has no resemblance to this state-based utility — which is the majority of Verizon's investment in the Garden State. Going through eachstate, had the FCC bothered to collect the data, it would havecontradicted the FCC's stance — Let’s wing it and pick data that we can use for our argument — 'Title II is bad and Net Neutrality is bad’.

According to an op-ed by the Phoenix Center in Bloomberg Law, Free Press, Hal Singer, ITIF, Free State Foundation, and Georgetown, all have investment theories, attempting to tie investment changes to the application of Title II regulation, which supposedly harmed investment — or didn’t . . .

"But How to Measure the Effect of a Regulation on Investment?

Most of the debate in the record revolves around competing calculations from Free Press (which purport to show that investment rose post-reclassification) and economist Hal Singer (which purport to show that investment fell post-reclassification), both of which offer simplistic comparisons of capital expenditures by major Broadband Service Providers in the few years before and after the 2015 reclassification decision.

The FCC was unimpressed by such comparisons, and for good reason. As the commission recognized, simple comparisons of capital spending trends 'can only be regarded as suggestive, since they fail to control for other factors that may affect investment'. For this reason, the FCC also relegated to the 'suggestive bin' the bulk of the record of evidence on investment effects, including works by the Information Technology & Innovation Foundation (ITIF), the Georgetown Center for Business and Public Policy, the Free State Foundation, among others."

The Phoenix Center claims its approach is different because it is “counter-factual”.

“Thus rejecting simplistic comparisons of capital expenditures made by both sides of the dispute, the FCC instead properly focused on the “counterfactual” — that is — what would investment had been “but for” reclassification?”

Counter-factual in this case means counter to basic facts.

4. Structural Flaw in many 2017-2018 FCC Proceedings.

Net Neutrality is a popular meme but at the core, but even restoring Net Neutrality regulations still leaves a broken mess. The FCC’s entire analysis leaves out the primary issue — the FCC ignored all state-based . . . everything. The FCC never acknowledges that

• There are SPTU's in every state

• The SPTU is the primary source of investment for broadband

• Local customers have become the primary defacto investors, due to expenses being improperly allocated to SPTUs by the FCC’s accounting rules.

Net Neutrality regulations don't stop these obvious harms to the public good and consumer protection:

• the cross-subsidies
• the harvesting of local phone customers
• the failed broadband deployments that were supposed to show up
• the vertical integration of the content services and the data transmission services;

All of Telecom's networks and services — wireline and wireless — are tied together to . . .

1. maintain control
2. block competitors
3. track consumers and
4. sell Google-style advertising
5. sell consumers' data

5. Zombie Rules: The FCC Cost Accounting Rules and Forbearance Decisions.

The FCC claims that the FCC cost accounting rules have been “forborne”, meaning still in place but no longer required. Over the last two years, the FCC has initiated multiple proceedings to make sure that they erase anything left standing, including the latest in December, 2018 which was just decided to keep the ‘accouting freeze’ for an additional six years. The FCC refers to this as “weed whacking”.

Yet, the FCC took these actions without any audits or examination of the impacts the rules had for 19 years, so it can’t say a word about the harms caused or how the Verizon-NY financias ended up showing the massive cross-subsidies — enabled by the rules.

• The FCC’s rules are still in use. In New York they were used by the NY Public Service Commission in the investigation of Verizon New York and settlement which occurred in July 2018.

• No state we can find removed or changed their accounting, which means every state is still using the rules.

• The impacts from these rules that are still in use were rate increases and claims of ‘losses’ in multiple states.

We called this “Zombie rules”, because, like the Walking Dead, they may be dead but they still harm us.

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