Intercarrier Compensation

1. Intercarrier Compensation May 27, 2004 Glenn Brown www.mcleanbrown.com

2. Intercarrier Compensation (ICC) • Disparate charging mechanisms based on: • Jurisdiction (intrastate, interstate) • Nature of the call/technology (local, long distance, Internet) • Type of carrier (LEC, IXC, CMRS, ISP, end-user) • System is neither economically rational nor sustainable • Disparities leading to arbitrage and/or fraud • “Phantom Traffic” • Inability to differentiate between interstate and intrastate traffic • Fundamental nature of the network is changing • Current compensation mechanisms are premised on an analog, copper, circuit-switched network • Rapid evolution towards a digital, fiber, packet-switched network • Intercarrier compensation must likewise evolve

3. Key Concepts of EPG Plan • Bill and Keep will not serve the public interest • A zero price for network usage will send uneconomic signals • Rural carriers will have neither the incentive nor the resources to grow their networks to carry broadband services • Current intercarrier compensation mechanisms should converge • Address anomalies in current compensation mechanisms • Intrastate switched and special access generally should be reduced to interstate levels and structure • A capacity-based structure including Ports and Links should evolve to be consistent with the evolution towards packet-based networks • A bulk-billed Access Restructure Charge (ARC) should replace lost revenues • Available only to regulated providers of access • Funded through an assessment on all working telephone numbers • State Restructure Credit (SRC) to provide equity among the states

4. Bill & Keep is not the Answer • A unified intercarrier charging mechanism does not mean a price of zero • Those who invest to build rural networks must receive fair compensation for use of their property • Rural networks are more costly to build due to longer distances and lower traffic volumes • Bill & Keep will have serious unintended consequences, particularly in rural areas: • Zero price for network usage sends false pricing signals resulting in inefficient network usage • On average, rural carriers receive over 25% of their cost recovery from intercarrier compensation • Bill & Keep would place unnecessary strain on currently overburdened USF mechanisms and/or rural consumers • Rural carriers would lack the resources and incentives to invest to carry growing traffic loads and to deliver broadband services

5. Summary of EPG Plan Intercarrier Compensation should be reformed in four steps: Step 1 • Merge Interstate Access, State Access and Reciprocal Comp. • Replace lost revenue through an Access Restructure Charge (ARC) • Fix problems in current access structure Step 2 • Convert switched access to capacity-based Port and Link structure Step 3 • Years 1-5 ARC is the residual Step 4 • Years 6-10 ARC is frozen and grown by inflation • Rates are the residual

6. Step 1 – Merge State and Interstate • Reduce state switched access charges to interstate rate levels and structure • State currently 5.5¢/min. average • Interstate currently 2.1¢/min. average (with rate banding) • Reduce state special access charges to interstate rate levels and structure • Special rules if state is currently less than interstate • Introduce ARC to offset lost intrastate revenues • Bulk-billed by NECA to carriers based on working telephone numbers • Available only to providers of regulated access • No need to increase SLC caps • Single pooled, rate-banded tariff administered by NECA (company tariffs optional)

7. Step 1 – Fix Current Problems • Enforce current access rules and tariffs: • A national policy of “Truth-in-message labeling” must be articulated; • Requests for piecemeal exemptions from current access charges should be denied; • Default termination tariff rates should be developed for currently unbillable or “phantom” traffic. • The current ESP exemption should continue to provide affordable dial-up access for consumers, but should be clarified to place limitations on its use for termination of traffic to the PSTN.

8. Step 2 – Port and Link Implemented • Port and Link elements introduced for common and dedicated switched access • Port and Link elements are priced to recover average equivalent interstate rate per minute, with rate banding • Current average MOU equivalent is 2.1¢/min. • Yielding average Port rate of approx. $2,400 per DS1 per month • Link element based upon combined interstate/state special access tariff • Adjusted and/or banded as necessary to account for rural cost differences due to distance and traffic volumes • For common transport, Port and Link elements billed to tandem owner/aggregator • Tandem owner/aggregator bills its network-side wholesale customers

9. Financial Summary(Rural Rate-or-Return Carriers Only) • Port and Link Rates: • NECA Port rate set at approximately $2,400 per month per DS1 Port • Revenue equivalent of 2.1¢ per minute (current interstate NECA average rate) • Link rate set at current NECA interstate special access levels • Estimated 42K DS1 Ports • Creates revenue shortfall of approximately $900M for rural rate-of-return carriers • Access Replacement Charge (ARC) • Assumes: • 180M ILEC and CLEC numbers • 150M wireless numbers • $900M equates to 23¢ per number per month

10. Key Elements of an ICC Solution • Bill and Keep is not in the public interest!!! • Rural carriers must maintain 3 revenue sources • A common ICC charging mechanism must be implemented • How to establish the common rate? • How to assure equity among the states? • Some “mechanism” must keep rural carriers whole • Avoid the current USF problems • Recovered in a sustainable manner • ICC mechanisms must evolve with markets and technology • When do we have to move away from MOU? • Should all carriers have to move at the same pace?

11. Rural Advocacy • Multiple voices • Mixed messages • We bring problems – not solutions • Who else supports our positions? • Not good at saying what we want • We need to do a better job of telling our story • Everything is so complicated! • What are our 3 to 5 “fight and die” principles?