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Consumer Groups Additional Comments on AT&T Petition

Mr. Alex Himelfarb
Clerk of the Privy Council and Secretary to the Cabinet
Langevin Block
80 Wellington St.
Ottawa Ontario
K1A 0A3

BY FAX AND EMAIL

Dear Sir:

Re: Canada Gazette – Notice No. DGTP-008-02

Petition to the Governor in Council from AT&T Canada under Section 12 of the Telecommunications Act in regard to the following CRTC Decision: Regulatory Framework for Second Price Cap Period, Telecom Decision CRTC 2002-34

1. The following supplementary comments are filed on behalf the of Consumers’ Association of Canada, the National Anti-Poverty Organization, and l’Union des Consommateurs (“The Consumer Groups”), a coalition of consumer groups that participated in the CRTC proceeding leading to Decision 2002-34, under the name “ARC et al”.
2. The Consumer Groups have recently been made aware of some misleading statements made by Call-Net in its submission of November 21, 2002. The Groups are submitting these comments in order to identify and correct those misleading statements, and to address the request put forward by Call-Net for a repeat of the CRTC’s price cap review. Failure to address any other allegation or argument should not be construed as acceptance of, or agreement with, that allegation or argument, where such acceptance or agreement would be contrary to the position of The Consumer Groups.

Call-Net’s request for a review of telecommunications pricing in Canada has already been fulfilled

3. Call-Net requests, among other things in its Comments, that the Governor in Council direct the CRTC:

to investigate and report on policy initiatives to reform the pricing of telecommunications services in Canada. This would include reports on the relative level of telecommunications prices in Canada versus other G-8 countries; whether existing price levels provide a sufficient return to ILECs and competitors to finance their capital projects and research and development activity; and what measures need to be taken to improve investment in telecommunications infrastructure in Canada and the ability of competitors to finance their new entry; while still providing services to Canadians at reasonable rates.

4. This is precisely what the CRTC did during the fourteen month proceeding launched by Public Notice 2001-37, Price Cap Review and related issues, which focused on the very issue of local telecommunications service pricing in Canada. Call-Net ignores the fact that, during this proceeding, ILECs and CLECs submitted voluminous evidence in an attempt to establish exactly what Call-Net is, once again, trying to establish here.

5. That evidence, which included international rate comparisons, ILEC returns, competitor returns, and effects of pricing on investment and R&D in the Canadian telecommunications industry, was the subject of extensive review and cross-examination during the proceeding.

6. Indeed, the very report on which Call-Net relies for its (incorrect) assertion that Canadian residential retail rates are significantly lower than in those in the USA, was relied upon by the ILECs and subjected to a thorough review during the proceeding. Also reviewed during the proceeding was an International Price Benchmarking Study produced for the ILECs by Teligen Ltd., as recently as May 2001. Indeed, the whole issue of international price comparisons was discussed at length and addressed in argument by several parties.

7. Also discussed at length during the proceeding were the issues of ILEC returns, CLEC returns, and investment in telecommunications generally, all in the context of setting local retail rate constraints. Extensive evidence was adduced on these issues, via submissions, interrogatories, exhibits, cross-examination, and argument – too many to catalogue here.

8. That such evidence may not have been explicitly addressed by the Commission in Decision 2002-34 does not mean that it was not considered. To the contrary, the Commission took into account all evidence adduced and all submissions made during the proceeding, in coming to its decision on appropriate rate levels.

9. In brief, Call-Net is effectively requesting that the CRTC be ordered to repeat the fourteen month proceeding it has just completed on the issue of pricing of telecommunications services in Canada. In light of the thoroughness of the CRTC’s review, this request cannot be taken seriously.

Call-Net’s argument is out-dated and patently self-serving

10. In an effort to make its local telephone business more profitable, Call-Net suggests that higher retail rates are necessary. Insofar as increases to retail rates would increase Call-Net’s profits, this is not surprising. Higher retail rates have obvious appeal for all providers in the market.

11. Any “general consensus in the industry that existing price levels are too low” merits no weight, given the industry’s self-interest in higher rates. Regulators and policy-makers must instead examine objective factors such as costs and profit levels in order to determine whether there is a problem with price levels. This is exactly what the CRTC did in the price cap review.

12. Competition in local telephony may have required higher retail rates several years ago, when local residential rates were below cost; it no longer makes sense, now that local service more than covers its costs in all but the defined “High Cost Serving Areas”, where a competitively-neutral subsidy scheme is in place. It is no coincidence that industry players argued for higher price caps and greater pricing flexibility in the price cap review proceeding not on the basis of cost, but rather on the grounds that higher retail rates would attract more investment by better rewarding shareholders, while still comparing well internationally.

13. Yet, Call-Net tries to resurrect this out-dated argument by suggesting that retail rates in Canada still do not cover costs. Except in High Cost Areas, consumer prices for local phone service in Canada are no longer “frozen below cost”. Call-Net should know better than to mislead the government in this manner.

14. In any case, Call-Net’s argument that retail rates need to rise in order to attract competition was clearly rejected by the CRTC on the basis of the evidence provided during the proceeding, including extensive evidence on the cost of providing service and rates of return to service providers in the local market.

Canadian retail rates are no longer lower than US rates

15. Astonishingly, Call-Net relies upon a discredited study for its argument that Canadian retail rates are significantly lower than rates for comparable service in the USA. Citing a 2001 Yankee Group report, Call-Net argues that typical users in selected US cities paid significantly more for local service than in selected Canadian cities. This very study was relied upon by the ILECs in the price cap review proceeding, and reviewed by other parties. Call-Net totally ignores the fundamental flaws of this study, as set out in ARC et al’s Final Argument, reproduced below:

Canadian rates are at parity with US rates for basic service, and are not out of line with rates in other OECD countries

1. In defence of their application to further raise basic local rates, The Companies argue that “local service rates in Canada are among the lowest in the world”. Specifically, they argue that Canadian rates for a typical basket of residential local telephone service are well below those in the USA and other OECD countries. In so doing, they rely on two studies, both of which were funded by them: one by Teligen comparing rates in G7 countries, and another by The Yankee Group, comparing Canadian and US rates.

2. The Companies’ capital markets witness, Mr. Richard Talbot, also relies on the Yankee Group study for his conclusion that “Canadian consumers pay lower prices for a typical usage basket of telecom services than do consumer in the U.S.”.

3. As demonstrated by Ms. Lawson in cross-examination of The Companies’ Panel #1, the Teligen study is inherently biased due to its selection of countries, and the Yankee Group study is so flawed that it is not worth the paper it is written on.

4. In fact, rates for a representative basket of local services in Canada are well within the bounds of other OECD countries: as Mr. Farmer acknowledged, Canada ranks 10th or 11th out of 29 OECD countries in terms of the price of a given basket of residential local services. The Teligen study, for no good reason, excludes most of those OECD countries with lower rates than Canada’s.

5. A close examination of the Yankee Group study shows that it is nothing more than propaganda for the company who funded it. Its flaws are numerous, centering around an arbitrary methodology. The many flaws include:

  • three “user profiles” which bear no relation to actual consumer usage;
  • an assumption of 1,000 minutes of local calling for each user profile, which is exactly twice the number of local minutes assumed by the FCC when constructing similar comparisons (and hence exaggerates the cost of metered service in the USA);
  • a “modest user” profile which, in respect of long distance usage, is in fact reflective of a heavy LD user based on data from Bell Canada;
  • a “typical” usage profile which, in respect of long distance calling, is again many times higher than that of the typical (i.e., median) Bell Canada customer;
  • a “heavy user” profile which is at the extreme end of heavy usage;
  • no amount for installation fees;
  • no accounting for discount “Lifeline” and “Link-up” rates in the USA (available to low income households for basic local service and installation); and
  • failure to adjust rates for purchasing power parity.

1. Clearly, the conclusions of this study are completely unfounded and cannot be relied upon.

2. In fact, a simple comparison of average Canadian and US rates for basic local service shows that they are virtually identical, once the OECD’s purchasing power parity adjustment is applied. As illustrated in ARC et al Exhibit #5, the average rate in Canada as of May 2001 (before increases in July 2001) was app.CDN$22.75, while the comparable US rate in 2000 was US$18.71, equivalent to CDN$22.76 using the June 2001 PPP adjustment factor of 1.25.

3. As confirmed by Dr. Taylor under cross-examination by Ms. Lawson, rates for basic local service in the USA have generally been frozen (i.e., no increases, even for inflation), over the past few years. Hence, the average US rate in 2001 is unlikely to be much different.

4. To the extent that comparative rate levels are relevant, we have therefore already achieved rate parity with the US. No longer is the Canadian economy benefiting from lower basic telephone rates than apply south of the border.

5. Furthermore, at the same time that basic telephone rates in the USA are being reduced, in real and in many cases nominal terms, ILECs in Canada are asking for increases that would bring Canadian rates to levels higher than in the USA. Such is neither necessary nor desirable.”

1. In their Reply to ARC et al’s Argument on this point, the Companies focused on the issue of Purchasing Power Parity, and did not refute other flaws in the Yankee Group study, pointed out by ARC et al. Instead, they acknowledged that if any conclusions can be drawn from these studies, it is that “telecommunications costs in Canada are fair”. Notably, the Companies did not attempt to stretch the truth in the way that Call-Net has.
2. The fact is that there is no longer any “significant” differential between Canadian and American telephone service prices, as alleged by Call-Net. Canadian local rates are no longer “remarkably low”. Indeed, Canadian prices for local phone service are now higher than in the USA in many cases, depending on location. On average, rates for local service in Canada and the USA are now comparable.
3. For Call-Net to attempt to perpetuate an out-dated myth about relative price levels is regrettable and surprising, given that the real issue raised by the AT&T Petition has to do with competitor service rates, not retail rates.

Call-Net confuses issues of long distance pricing with issues of local service pricing

4. Call-Net fails to distinguish between long distance and local service pricing in its argument that CRTC price caps are at least partially responsible for its financial woes. Decision 2002-34, the subject of the AT&T Petition, has to do only with local price levels. Call-Net’s complaints, however, have more to do with its long distance business than its local business.
5. When Call-Net states, in para.66, that it “views the pricing issue of telecommunications services as a key indicator of the unhealthy state of competitive market in Canada”, it not only has the issue backwards, it is confusing low LD pricing (and hence low profits) due to high levels of competition in that market, with price caps on local service. In fact, local service continues to be highly profitable for the ILECs.
6. Evidence adduced during the CRTC proceeding showed that ILEC rates of return on their local service businesses, during 1998-2001, ranged from 9.7% to 27.0%, healthy levels by any calculation. On the other hand, competitive service rates of return were a fraction of these utility returns.
7. If there are “structural problems” with the local telecommunications market in Canada, they clearly do not have to do with local price levels.

8. On the other hand, the long distance market is characterized by a high level of competition, which, as expected, results in low prices and low profit levels. Call-Net’s complaints, in our submission, lie more with the competitiveness of the long distance market in Canada than with the CRTC price caps on local retail rates.

Local price caps are not to blame for the woes of competitors

9. The evidence regarding ILEC rates of return is sufficient to dispose of Call-Net’s argument that the low level of pricing for local exchange services is responsible for the slow development of competition in this sector. Clearly, other factors are at work, including the highly capital-intensive nature of this industry, the economic nature of competition in some areas and/or sectors, competitor service rates, difficulties obtaining access to ILEC facilities, and other anti-competitive behaviour on the part of ILECs.
10. It is facile and short-sighted to suggest that raising local rates will solve the problems faced by competitors in this industry.

Call-Net puts the cart before the horse

11. Call-Net is explicit in its request that “pro-competitive policies must prevail over other policy objectives”. This is the heart of Call-Net’s argument: that competition should be pursued at all costs, regardless of the outcome in terms of price, quality of service, or other ultimate goals.
12. In effect, Call-Net is asking the Governor-in-Council to put investor returns ahead of consumer rates.
13. Yet, Call-Net also appreciates that competition is merely “the preferred means of achieving the socio-economic objectives in s.7 of the Telecommunications Act”. If this is the case, then clearly, the socio-economic objectives Call-Net refers to are ultimately more important that the means of achieving them.
14. Clearly, the latter approach is the one adopted by Parliament and implemented by the CRTC. Competition is a preferred means to an end, not an end in itself. As noted by the Consumer Groups in their earlier submissions:

“Competition is achieved, where it is economic, by ensuring that competitors face fair rates for the services they need from ILECs. Healthy, sustainable competition cannot be forced. It should instead be allowed to develop where economic, and at a pace that reflects the reality of this highly capital-intensive, technology-dependent industry. The public interest will not be served by premature attempts to “kickstart” competition where it cannot be sustained in the long term. Such regulatory subsidization of uneconomic competition is destined to failure at the expense of ratepayers and to the benefit of no one other than a few lucky shareholders.

ompetitors can be subsidized either through discount rates for services they buy from ILECs, or through artificially high retail rates. In the latter case, ILECs also benefit, and may indeed benefit more than CLECs due to their dominant position in the marketplace. As Dr. Taylor acknowledged, it is inappropriate to raise retail rates simply in order to create margins for competitors…”

“Inefficient competitive entry will not be sustainable. If such entry is made possible through retail price increases beyond levels necessary for fair ILEC returns, it will be very short-lived. Once ILECs lower prices to levels more in accordance with efficiently competitive markets, inefficient competitors will lose their margins and go out of business. In order to avoid such inefficiency and disruption to consumers, it is incumbent on the Commission to establish price caps at levels that reflect lowest cost provision of service.”

15. In sum, the Consumer Groups urge the Governor-in-Council to review all the evidence and arguments put before the CRTC in the price cap proceeding on the issue of local rate price levels, before accepting any of Call-Net’s submissions on this point. If this is done, it will become clear that the “investigation and report on pricing” requested by Call-Net are unnecessary.

All of which is respectfully submitted,

original signed

Philippa Lawson
Counsel for the Consumer Groups

cc: The Honourable Allan Rock, Ministry of Industry
Ms. Diane Rheaume, Secretary General, CRTC
Mr. Michael Helm, Dir. Gen., Telecom Policy Branch, Industry Canada
Chris Pierce, AT&T
Ian Scott, Call-Net

END OF DOCUMENT

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