Alenco Comm v. FCC

IN THE UNITED STATES COURT OF APPEALS

FOR THE FIFTH CIRCUIT
_______________

m 98-60213
_______________

ALENCO COMMUNICATIONS, INC.;
AMANA SOCIETY SERVICE COMPANY;
ARROWHEAD COMMUNICATIONS CORPORATION;
AYERSVILLE TELEPHONE COMPANY;
BARAGA TELEPHONE COMPANY;
BARRY COUNTY TELEPHONE COMPANY;
BAY SPRINGS TELEPHONE COMPANY, INC.;
BENTLEYVILLE TELEPHONE COMPANY;
BENTON RIDGE TELEPHONE COMPANY;
BLOOMINGDALE HOME TELEPHONE COMPANY;
BLUE EARTH VALLEY TELEPHONE COMPANY;
BRUCE TELEPHONE COMPANY;
CASEY MUTUAL TELEPHONE COMPANY; CFW COMMUNICATIONS
COMPANY; CITIZENS TELEPHONE COMPANY OF KECKSBURG;
CITIZENS TELEPHONE COMPANY OF HAMMOND;
CITIZENS TELEPHONE CORPORATION;
CLEMENTS TELEPHONE COMPANY; CLIMAX TELEPHONE COMPANY;
COMMUNITY SERVICE TELEPHONE COMPANY;
CRAIGVILLE TELEPHONE COMPANY, INC.;
CROCKETT TELEPHONE COMPANY; DIXVILLE TELEPHONE COMPANY;
DOYLESTOWN TELEPHONE COMPANY;
DUNBARTON TELEPHONE COMPANY, INC.;
DUNKERTON TELEPHONE COOPERATIVE;
EAGLE VALLEY TELEPHONE COMPANY;
EASTON TELEPHONE COMPANY; ECKLES TELEPHONE COMPANY;
ELKHART TELEPHONE COMPANY;
EUSTIS TELEPHONE EXCHANGE;
FARMERS COOP TELEPHONE COMPANY;
FARMERS MUTUAL TELEPHONE COMPANY-OHIO;
 FARMERS MUTUAL TELEPHONE COMPANY-MINNESOTA;
FLAT ROCK MUTUAL TELEPHONE COMPANY;
FORT JENNINGS TELEPHONE COMPANY;
FRONTIER COMMUNICATIONS OF DEPUE;
GEETINGSVILLE TELEPHONE COMPANY, INC.;
GERVAIS TELEPHONE COMPANY;
GRACEBA TOTAL COMMUNICATIONS, INC.;
GRANADA TELEPHONE COMPANY;
GRANBY TELEPHONE & TELEGRAPH COMPANY-MASSACHUSETTS;
GULF TELEPHONE COMPANY; HARTINGTON TELEPHONE COMPANY;
HICKORY TELEPHONE COMPANY;
HINTON TELEPHONE COMPANY OF HINTON, OKLAHOMA, INC.; HOLLIS
TELEPHONE COMPANY;
HOME TELEPHONE COMPANY-NEBRASKA;
HOME TELEPHONE COMPANY-MINNESOTA;
HOT SPRINGS TELEPHONE COMPANY;
HUXLEY COOPERATIVE TELEPHONE COMPANY;
INDIANHEAD TELEPHONE COMPANY;
IRONTON TELEPHONE COMPANY;
JEFFERSON TELEPHONE COMPANY, INC.;
KADOKA TELEPHONE COMPANY; KALEVA TELEPHONE COMPANY;
KALIDA TELEPHONE COMPANY, INC.;
LAUREL HIGHLAND TELEPHONE COMPANY;
LIGONIER TELEPHONE COMPANY;
MANKATO CITIZENS TELEPHONE COMPANY;
MANTI TELEPHONE COMPANY;
MARIANNA & SCENERY HILL TELEPHONE COMPANY;
MARSEILLES TELEPHONE COMPANY;
MCCLURE TELEPHONE COMPANY;
MCDONOUGH TELEPHONE COOP, INC.; MEBTEL COMMUNICATIONS;
MERCHANTS & FARMERS TELEPHONE COMPANY;
METAMORA TELEPHONE COMPANY;
MID CENTURY TELEPHONE COOP, INC.;
MID COMMUNICATIONS TELEPHONE COMPANY;
MID-IOWA TELEPHONE COOP ASSOCIATION;
MIDDLE POINT HOME TELEPHONE COMPANY;
MIDSTATE TELEPHONE COMPANY-NORTH DAKOTA;

2
 MIDWEST TELEPHONE COMPANY;
MILES COOPERATIVE TELEPHONE ASSOCIATION;
MILLRY TELEPHONE COMPANY, INC.;
MINFORD TELEPHONE COMPANY, INC.;
MINNESOTA LAKE TELEPHONE COMPANY;
MT. ANGEL TELEPHONE COMPANY;
NATIONAL TELEPHONE OF ALABAMA, INC.;
NEW LISBON TELEPHONE COMPANY;
NORTH-EASTERN PENNSYLVANIA TELEPHONE COMPANY;
NORTH ENGLISH COOP TELEPHONE COMPANY;
NORTHWESTERN INDIANA TELEPHONE COMPANY, INC.;
NOVA TELEPHONE COMPANY; ODIN TELEPHONE EXCHANGE, INC.;
ORWELL TELEPHONE COMPANY; OSAKIS TELEPHONE COMPANY;
PALMERTON TELEPHONE COMPANY;
PANHANDLE TELEPHONE COOP, INC.;
PANORA COOPERATIVE TELEPHONE ASSOCIATION;
PATTERSONVILLE TELEPHONE COMPANY;
PENNSYLVANIA TELEPHONE COMPANY;
PEOPLES MUTUAL TELEPHONE COMPANY;
PEOPLES TELEPHONE COMPANY, INC.;
PIERCE TELEPHONE COMPANY, INC.;
PINE ISLAND TELEPHONE COMPANY; PINNACLE COMMUNICATIONS;
PRAIRIE GROVE TELEPHONE COMPANY;
PYMATUNING INDEPENDENT TELEPHONE COMPANY;
REDWOOD COUNTY TELEPHONE COMPANY;
ROANOKE TELEPHONE COMPANY, INC.;
ROBERTS COUNTY TELEPHONE COOP ASSOCIATION;
RONAN TELEPHONE COMPANY; SCHALLER TELEPHONE COMPANY;
SEARSBORO TELEPHONE COMPANY;
SHELL ROCK TELEPHONE COMPANY;
SOUTH CANAAN TELEPHONE COMPANY;
SOUTHERN MONTANA TELEPHONE COMPANY;
STATE LONG DISTANCE TELEPHONE COMPANY;
STATE TELEPHONE COMPANY;
STAYTON COOPERATIVE TELEPHONE COMPANY;
STOCKHOLM-STRANDBURG TELEPHONE COMPANY;
SUMMIT TELEPHONE COMPANY; SWAYZEE TELEPHONE COMPANY;

3
 SYCAMORE TELEPHONE COMPANY;
TRI COUNTY TELEPHONE COMPANY, INDIANA;
TRI-COUNTY TELEPHONE MEMBERSHIP CORPORATION;
VALLEY TELEPHONE COOPERATIVE, INC.;
VAN HORNE COOPERATIVE TELEPHONE COMPANY;
VENUS TELEPHONE CORPORATION;
VOLCANO TELEPHONE COMPANY;
WEST IOWA TELEPHONE COMPANY;
WEST LIBERTY TELEPHONE COMPANY;
WEST SIDE TELEPHONE COMPANY;
WEST SIDE TELEPHONE COMPANY-PENNSYLVANIA;
WEST TENNESSEE TELEPHONE COMPANY, INC.;
WESTERN TELEPHONE COMPANY-SOUTH DAKOTA;
WIKSTROM TELEPHONE COMPANY, INC.;
WILTON TELEPHONE COMPANY-NEW HAMPSHIRE;
YADKIN VALLEY TELEPHONE MEMBERSHIP CORPORATION;
YUKON-WALTZ TELEPHONE COMPANY;
and
UNITED STATES TELEPHONE ASSOCIATION,

Petitioners,

VERSUS

FEDERAL COMMUNICATIONS COMMISSION
and
UNITED STATES OF AMERICA,

Respondents.

_________________________

Petitions for Review of Orders
of the Federal Communications Commission
_________________________
January 25, 2000

4
Before SMITH, WIENER, and goal of federal telecommunications regulation
EMILIO M. GARZA, Circuit Judges. since the passage of the Communications Act
of 1934. Indeed, the FCC’s very purpose is
JERRY E. SMITH, Circuit Judge: “to make available, so far as possible, to all the
people of the United States . . . a rapid,
This is a consolidated challenge to two or- efficient, Nation-wide, and world-wide wire
ders of the Federal Communications Commis- and communication service with adequate
sion (the “FCC,” the “Commission,” or the facilities at reasonable charges.” 47 U.S.C. §
“agency”)1 promulgated to satisfy the twin 151 (as amended). See also Texas Office of
Congressional mandates articulated in the Tel- Pub. Util. Counsel v. FCC, 183 F.3d 393,
ecommunications Act of 1996 (the “Act”)2 of 405-06 & n.2 (5th Cir. 1999) (“TOPUC”),
providing universal telecommunications ser- petition for cert. filed (Dec. 23, 1999) (No.
vice in the United States and injecting 99-1072).
competition into the market for local telephone
service. PetitionersSSlocal telephone service Specifically, the Act requires that universal
providers who serve predominantly small service support be “explicit and sufficient,”
towns and rural areasSSchallenge the orders as 47 U.S.C. § 254(e), and it articulates several
inconsistent with the statutory requirements of guiding principles to govern universal
the Act; arbitrary and capricious in violation of serviceSSincluding, for example, that “access
the Administrative Procedure Act, 5 U.S.C. . . . be provided in all regions of the Nation . .
§ 706(2)(A); violative of the Takings Clause, . including low-income consumers and those in
U.S. CONST. amend. V; and in noncompliance rural, insular, and high cost areas,” that
with the Regulatory Flexibility Act, 5 U.S.C. services and rates be “reasonably comparable”
§ 604. Having jurisdiction to review the or- to those offered “in urban areas,” that “[a]ll
ders pursuant to 28 U.S.C. § 2342(1) and providers of telecommunications services . . .
47 U.S.C. § 402(a), we deny the petitions for make an equitable and nondiscriminatory con-
review. tribution to the preservation and advancement
of universal service,” and that universal service
I. THE STATUTORY MANDATES. support be “specific” and “predictable,” id.
Universal service has been a fundamental § 254(b)(2)-(5); Order ¶ 21. While the FCC is
required to obey statutory commands, the
guiding principles reflect congressional intent
1
In re: Federal-State Joint Board on Universal to delegate difficult policy choices to the
Serv.; Report and Order in CC Docket No. 96-45, Commission’s discretion. See TOPUC, 183
12 FCC Rcd. 8776 (1997) (“Order”); Fourth F.3d at 411-12.3
Order on Reconsideration in CC Docket
No. 96-45; Report and Order in CC Docket
Nos. 96-45, 96-262, 94-1, 91-213, 95-72, 13 FCC
3
Rcd. 5318 (1997); Errata, 13 FCC Rcd. 2372 The Act additionally states that “[i]t shall be
(1998) (“Fourth Reconsideration Order”). the policy of the United States to encourage the
provision of new technologies and services to the
2
Telecommunications Act of 1996, Pub. L. public.” 47 U.S.C. § 157(a). Cf. 47 U.S.C.
No. 104-104, 110 Stat. 56 (to be codified as § 254(b)(2) (providing that universal service pro-
amended in scattered sections of title 47, United grams be guided by principle of providing access to
States Code). (continued...)

5
(...continued)
advanced telecommunications and information ser-
vices in all regions). Petitioners argue that the
orders violate § 157(a).

Unlike the express statutory requirement of suf-
ficient support of universal service support im-
posed by 47 U.S.C. § 254(e), § 157(a) is merely a
broad statement of policy conferring substantial
discretion on the Commission to determine how
best to provide for new technologies and services.
To our knowledge, § 157(a) has never been used to
invalidate an FCC action. We conclude, therefore,
that a universal service program that satisfies the
specific statutory requirements of § 254(e)
necessarily satisfies the broad policy statement of
§ 157(a).

6
 Alongside the universal service mandate is has followed in making the transition from
the directive that local telephone markets be monopolistic to competitive universal service.
opened to competition. See 47 U.S.C. §§ 251- First, rates must be based not on historical,
253; AT&T Corp. v. Iowa Utils. Bd., 525 U.S. booked costs, but rather on forward-looking
366, 371; TOPUC, 183 F.3d at 406, 412. The costs. After all, market prices respond to cur-
FCC must see to it that both universal service rent costs; historical investments, by contrast,
and local competition are realized; one cannot are sunk costs and thus ignored.
be sacrificed in favor of the other. The
Commission therefore is responsible for [I]t is current and anticipated cost, rath-
making the changes necessary to its universal er than historical cost[,] that is relevant
service program to ensure that it survives in to business decisions to enter markets
the new world of competition.4 Because and price products. The business
Congress has conferred broad discretion on manager makes a decision to enter a
the agency to negotiate these dual mandates, new market by comparing anticipated
courts ought not lightly interfere with its additional revenues (at a particular
reasoned attempt to achieve both objectives. price) with anticipated additional costs.
See Chevron U.S.A., Inc. v. Natural Resources If the expected revenues cover all the
Defense Council, Inc., 467 U.S. 837, 842-44 costs caused by the new product, then a
(1984); 5 U.S.C. § 706(2)(A). rational business manager has sound
business reasons to enter the new
market. The historical costs associated
II. THE UNIVERSAL SERVICE ORDERS. with the plant already in place are
The orders under review make various essentially irrelevant to this decision
changes to universal service deemed necessary since those costs are ‘sunk’ and
achieve universal service within a competitive unavoidable and are unaffected by the
environment. We describe the general new production decision. This factor
principles guiding the Commission’s judgment, may be particularly significant in in-
then detail the provisions specifically at issue dustries such as telecommunications
in petitioners’ various challenges. which depend heavily on technological
innovation, and in which a firm’s ac-
A. COMMISSION PRINCIPLES. counting, or sunk, costs may have little
To analyze the purpose and effect of the relation to current pricing decisions.
FCC’s numerous regulatory changes to its uni-
versal service program, we find it useful first MCI Communications Corp. v. American Tel.
to articulate three principles the Commission & Tel. Corp., 708 F.2d 1081, 1116-17 (7th
Cir. 1983).5

4
See Order ¶¶ 1-4, 20 (stating that it “ensure[s]
5
that this system is sustainable in a competitive See also TOPUC, 183 F.3d at 407 (stating
marketplace, thus ensuring that universal service is that “the FCC decided to use the ‘forward-looking’
available at rates that are ‘just, unreasonable, and costs to calculate the relevant costs of a carrier
affordable’ for all Americans”). (continued...)

7
(...continued)
. . . . To encourage carriers to act efficiently, the
agency would base its calculation on the costs an
efficient carrier would incur (rather than the costs
the incumbent carriers historically have in-
curred)”).

8
 The FCC additionally defends the orders as
Second, the old regime of implicit reasonable interim regulations. The shift from
subsidiesSSthat is, “the manipulation of rates monopoly to competition is indeed dramatic.
for some customers to subsidize more Congress thus expressly contemplated that the
affordable rates for others”SSmust be phased Commission would adopt an incremental ap-
out and replaced with explicit universal service proach to retooling universal service for a
subsidiesSSgovernment grants that cause no world of competition.6 Because the
distortion to market pricesSSbecause a provisions under review are
competitive market can bear only the latter. merely transitional, our review
is especially deferential.7
TOPUC, 183 F.3d at 406.

For obvious reasons, this system of im-
plicit subsidies can work well only under
regulated conditions. In a competitive
environment, a carrier that tries to
subsidize below-cost rates to rural
customers with above-cost rates to
urban customers is vulnerable to a
6
competitor that offers at-cost rates to It requires the Commission to adopt rules
urban customers. Because opening local opening the local services market to competition
telephone markets to competition is a “within 6 months.” 47 U.S.C. § 251(d)(1). By
contrast, the Commission need only adopt rules
principal objective of the Act, Congress
establishing a “specific timetable for
recognized that the universal service
implementation” of universal service, and even
system of implicit subsidies would have then, it has “15 months” to do so. 47 U.S.C. §
to be re-examined. 254(a)(2). See also TOPUC, 183 F.3d at 436
(“By instructing the FCC to establish a ‘timetable
Id. Indeed, the Act requires that all universal for implementation’ by the statutory deadline,
service support be explicit. See 47 U.S.C. Congress assumed the implementation process
§ 254(e). would occur over a transition period after the
fifteen-month deadline.”).
Finally, the program must treat all market
7
participants equallySSfor example, subsidies See TOPUC, 183 F.3d at 437 (“Where the
must be portableSSso that the market, and not statutory language does not explicitly command
local or federal government regulators, otherwise, we defer to the agency’s reasonable
judgment about what will constitute ‘sufficient’
determines who shall compete for and deliver
support during the transition period from one uni-
services to customers. Again, this principle is
versal service system to another.”); id. at 440 n.85
made necessary not only by the economic re- (acknowledging that “we extend the FCC greater
alities of competitive markets but also by stat- discretion in deciding what will be ‘sufficient’
ute. See 47 U.S.C. § 214(e)(1) (requiring that during the transition period”); MCI Telecomm.
all “eligible telecommunications carrier[s] . . . Corp. v. FCC, 750 F.2d 135, 140 (D.C. Cir. 1984)
shall be eligible to receive universal service (noting that “substantial deference by courts is
support”). accorded to an agency when the issue concerns
interim relief”).

9
 B. PROVISIONS. First, they oppose various
Telephone service is jointly changes to the universal
provided by two sets of service support fund for high
carriers. Local exchange cost loops. Second, before
carriers (“LEC’s”) provide issuing the Order, the FCC
local telephone service in a allowed certain small,
given geographical calling area generally rural LEC’s to weight
through monopoly networks, or specially the amount of time
“exchanges,” each comprising a spent by their telephone
series of “local loops” al- switching equipment on
lowing for interconnection switching long distance calls,
within the exchange.8 Inter- for purposes of calculating the
exchange carriers (“IXC’s”) access charges those LEC’s may
provide long distance service collect from IXC’s. The Order
by connecting callers served by would eliminate this effective
different LEC’s; such service subsidy and replace it with a
is called “exchange access.”9 new, explicit support fund.

Petitioners are LEC’s serving 1. HIGH-COST LOOPS.
predominantly small towns and Rural LEC’s face special
rural areas.10 Intervenor Bell obstacles. The cost of
Atlantic, supporting the FCC providing telephone service
and opposing petitioners, is varies with population density,
also an LEC. Intervenor MCI is because dispersed populations
an IXC and also supports the require longer wires and permit
FCC. lesser economies in
installation, service, and
The FCC has established a maintenance. Also relevant are
number of universal service geographic characteristics, for
programs involving LEC’s and climate and certain types of
IXC’s. The Order implements a terrain make service calls and
myriad of amendments to bring repairs more costly. Rural
those programs into compliance areas where telephone customers
with competition in the LEC are dispersed and terrain is
market, but petitioners object unaccommodating are therefore
to amendments to two of them. the most expensive to serve.

To meet its historic mandate
8
of universal service, the FCC
See 47 U.S.C. § 153(26) (defining “local ex- has established a universal
change carrier”); 47 U.S.C. § 153(47) (defining service fund to subsidize high-
“telephone exchange service”). cost rural LEC’s to reduce the
9
rates they must charge their
See 47 U.S.C. § 153(16) (defining “exchange customers. An LEC is eligible
access”); 47 U.S.C. § 153(48) (defining “telephone for a subsidy if its operating
toll service”). expensesSSits “loop costs”SSare
fifteen percent or more above
10
See 47 U.S.C. § 153(37) (defining “rural the national average. Loop
telephone company”).

10
costs include the costs of the
depreciated cable, wire, and
circuit equipment used to
provide local service, the
depreciation and maintenance
expenses associated with that
local plant, and the corporate
operations expenses related to
the provision of local service.

“Corporate operations ex- that can be included in the
penses” include the costs loop cost calculation. The
incurred in formulating Order allows LEC’s to report
corporate policy, providing corporate operations expenses
overall administration and man- only up to 115% of the industry
agement, and hiring average for LEC’s of like size.
accountants, consultants, and See Order ¶¶ 283-285, 307.
lawyers to understand and
comply with FCC, state, and Third, the Order makes the
local regulations. To de- subsidy portable, following the
termine the amount of corporate customer who switches service
operations expense that is from one LEC to another.
properly chargeable to the pro- Petitioners claim that
vision of local service (and portability violates the
therefore included in total principle of predictable
loop costs for purposes of funding. See Order ¶ 311.
determining eligibility for a Fourth, beginning January 1,
subsidy), an LEC must reduce 2000, the Order imposes an
its total corporate operations annual inflation index on the
expenses to correspond to the loop cost eligibility
proportion of its entire plant benchmarkSSthe minimum amount a
that is local exchange plant. loop must cost to be awarded a
subsidySSreplacing the former
Petitioners object to a approach of recalculating a
variety of changes the Order fresh benchmark periodically,
effects to the administration based on updated estimates of
of the fund. First, they industry averages. See Order
oppose the continued imposition ¶¶ 300-301; 47 C.F.R. §
of a cap on growth in fund 36.622(d) (1997). Finally, the
expenditures, which cap limits Order disallows additional
total available support to the universal service support when
previous year’s level, adjusted a rural LEC acquires and
for growth in the number of upgrades another exchange, see
working loops. See Order Order ¶ 308, despite
¶ 302. Second, they object to petitioners’ claim that such
a new cap on the amount of mergers are efficient and
corporate operations expenses should be encouraged.

11
 The cumulative result of all those used to switch intrastate
these changes, petitioners say, calls.
is that the Commission has ren-
dered LEC’s unable to earn a Before the orders under
fair return and has discouraged review, the FCC allowed certain
future investment in small, generally rural LEC’s to
telecommunications, and thereby weight their DEM totals with a
has acted arbitrarily and “toll weighting factor,”
capriciously and has violated thereby providing LEC’s with a
the Act’s sufficient funding higher cost basis on which
requirement and the Takings their federal access charge
Clause. would be based. Petitioners
maintain that the practice of
2. SWITCHING COSTS. DEM weighting reflects the
IXC’s pay “access charges” to higher cost of switching a long
LEC’s for the right to have distance or “toll” call than
access to an LEC’s local that of switching a local call,
exchange to connect long- because certain network
distance calls to and from that functions required by inter-
exchange. Jurisdiction to exchange carriersSSsuch as
regulate access charges is equal access, intra-LATA toll
shared between federal and dialing parity, toll screening,
state governments. To toll blocking, Signaling System
implement rate-of-return reg- 7 (SS7), expanded carrier
ulation, state and federal identification codes, and 800
regulators must allocate the number portabilitySSrequire
costs of operating an LEC additional central processing
between the delivery of hardware and software.
intrastate, interexchange
telephone service (which is The FCC has long held,
regulated by state entities) however, that the disparity
and the provision of interstate between intrastate and
service (which is subject to interstate call switching is a
the FCC’s jurisdiction). To relic of old, electromechanical
determine how the allocations technology and that modern
are to be made, the agency has digital switching equipment
promulgated a number of cost largely eliminates the cost
separation rules. differential.11 Toll-weighting

The separation rules for
costs associated with 11
connecting callsSSa process As the Commission stated in 1987,
known as “switching”SSare based
on “dial equipment minutes of The Mountain States Telephone and
use” (“DEM’s”). Under the Telegraph Company, Northwestern Bell
rules, an LEC divides its total Telephone Company, Pacific Northwest Bell
DEM’s between those used to Telephone Company (US West), which
switch interstate calls and originally supported the use of weighted
(continued...)

12
continues today, not out of First, they claim the Order
adherence to principles of cost arbitrarily and capriciously
causationSSwhich provide that abandons cost-causation
costs be charged to the source principles. Second, because it
of the costSSbut rather to would be financed by all
provide an implicit subsidy for telecommunications carriers,
rural LEC’s.12 including small LEC’s such as
petitioners, the new fund con-
The Order replaces toll- stitutes an unlawful subsidy by
weighting with a new universal small LEC’s in favor of IXC’s
service fund (separate from the because it effectively saves
fund for high-cost loops). See IXC’s from having to pay for
Order ¶¶ 303-304. Petitioners the more expensive cost of
object for three reasons. switching their long-distance
calls. Finally, just as they
do with respect to the high-
cost loop fund, petitioners
object on the ground that
(...continued) portability violates the
DEM in its comments, changed its position principle of predictability and
to support measured DEM in reply the statutory command of
comments because it believes the ongoing sufficient funding.
process of replacing older technology with Specifically, they claim that
digital switches will eliminate the need for if just 25% of the revenue that
any toll weighting. We believe that modern the FCC has made portable is
digital switching equipment has greatly re- lost by a typical small LEC,
duced, if not eliminated, the additional cost the annual rate of return for
of toll switching. . . . [W]e believe that the interstate access service will,
need for toll weighting will continue to di- in many cases, fall to minus
minish and will eventually be eliminated as 10.53%.
the exchange carriers continue to replace
older technology equipment with digital III. COMMUNICATIONS ACT AND
switches. ADMINISTRATIVE PROCEDURE ACT
CHALLENGES.
In the Matter of Amendment of Part 67 of the Petitioners’ main challenge
is that the orders are
Commission’s Rules and Establishment of a Joint
inconsistent with the statutory
Board, Recommended Decision and Order in CC
mandates of the Act.
Docket No. 80-286, 2 FCC Rcd. 2551, ¶ 49
Therefore, they claim, the
(1987). See also In the Matter of MTS and WATS orders constitute arbitrary and
Market Structure, Amendments of Part 67 (New capricious regulation.
Part 36) of the Commission's Rules and
Establishment of a Federal-State Joint Board, A. STANDARD OF REVIEW.
Report and Order in CC Docket Nos. 78-72, Courts review agency conduct
80-286, 86-297, 2 FCC Rcd. 2639, ¶ 5 (1987). in two ways. First, we review
12
agency interpretation of their
See TOPUC, 183 F.3d at 425 (noting “the statutory authority under the
sorts of implicit subsidies currently used by the familiar Chevron two-step
FCC in its [DEM] weighting program”).

13
inquiry. See Chevron, 467 U.S. step-two, APA arbitrary and
at 842-44. capricious review is narrow and
deferential, requiring only
Under step one, where that the agency “articulate[] a
“Congress has directly spoken rational relationship between
to the precise question at the facts found and the choice
issue,” we must “give effect to made.” Harris, 19 F.3d at 1096
the unambiguously expressed (quoting Motor Vehicles Mfrs.
intent of Congress,” reversing Ass’n of the United States v.
an agency’s interpretation that State Farm Mut. Auto. Ins. Co.,
does not conform to the 463 U.S. 29, 43 (1983)).
statute’s plain meaning. Id. “[T]he agency’s decision need
at 842-43. Under step two, not be ideal.” Id. Moreover,
which addresses situations in our review here is especially
which the statute is either deferential, because the
silent or ambiguous, “the provisions under review are
question for the court is merely transitional, as
whether the agency’s answer is expressly contemplated by the
based on a permissible con- Act.13
struction of the statute.” Id.
at 843. We reverse only if the B. ANALYSIS.
agency’s construction is “ar- Petitioners assert two
bitrary, capricious or general themes. First, the
manifestly contrary to the challenges go directly to the
statute.” Id. at 844. If, on heart of FCC expertiseSSwhether
the other hand, the the Commission has sufficiently
interpretation “is based on a and explicitly supported
permissible construction of the universal service in an open,
statute,” we defer to the agen- competitive marketSSand thus
cy’s construction. must overcome substantial
judicial deference. Examining
In addition, the the Act through the lens of
Administrative Procedure Act Chevron, we note that Congress
(“APA”) empowers courts to obviously intended to rely
reverse agency action that is primarily on FCC discretion,
arbitrary and capricious. See and not vigorous judicial
5 U.S.C. § 706(2)(A); Harris v. review, to ensure satisfaction
United States, 19 F.3d 1090 of the Act’s dual mandates. As
(5th Cir. 1994). Chevron step- we noted in a prior challenge
two focuses on the agency’s to an FCC universal service
interpretation of its statutory regulation,
power, while APA arbitrary-and-
capricious review focuses on [t]o be sure, the FCC’s
the reasonableness of the reason for adopting this
agency’s decision-making methodology is not just to
process pursuant to that
interpretation. See TOPUC, 183
F.3d at 410. Like Chevron 13
See note 7, supra.

14
 preserve universal service. ensure sufficient funding of
Rather, it is also trying every local telephone provider
to encourage local as well.
competition . . . . As
long as it can reasonably Moreover, excessive funding
argue that the methodology may itself violate the
will provide sufficient sufficiency requirements of the
support for universal Act. Because universal service
service, however, it is is funded by a general pool
free, under the deference subsidized by all
we afford it under Chevron t e l e c o m m u n i c a t i o n s
step-two, to adopt a meth- providersSSand thus indirectly
odology that serves its by the customersSSexcess
other goal of encouraging subsidization in some cases may
local competition. detract from universal service
by causing rates unnecessarily
TOPUC, 183 F.3d at 412. to rise, thereby pricing some
Petitioners do not satisfy the consumers out of the market.
high evidentiary standard
necessary to establish that the 1. HIGH-COST LOOPS.
Commission acted arbitrarily Petitioners fail to show that
and capriciously when it the FCC’s various changes to
produced its interim rules. the universal service support
fund for high-cost loops
Second, petitioners’ unreasonably fails to provide
sufficiency challenge sufficient funding for
fundamentally misses the goal universal service or otherwise
of the Act. The Act does not constitutes an arbitrary and
guarantee all local telephone capricious regulation under the
service providers a sufficient Act. First, they object to
return on investment; quite to the agency’s continuation of a
the contrary, it is intended to cap on growth in the fund,
introduce competition into the adjusted only for changes in
market. Competition the total number of working
necessarily brings the risk loops. The cap’s track record,
that some telephone service however, reflects a reasonable
providers will be unable to balance between the
compete. The Act only promises Commission’s mandate to ensure
universal service, and that is sufficient support for
a goal that requires sufficient universal service and the need
funding of customers, not to combat wasteful spending.
providers. So long as there is The agency’s broad discretion
sufficient and competitively- to provide sufficient universal
neutral funding to enable all service funding includes the
customers to receive basic decision to impose cost
telecommunications services, controls to avoid excessive
the FCC has satisfied the Act expenditures that will detract
and is not further required to from universal service.

15
Petitioners do not show how the discretion to impose a cap
FCC has abused that discretion. rather than to undertake the
more costly alternative of
Second, petitioners object to intensive auditing.
the introduction of a cap on
the amount of corporate oper- Petitioners additionally
ations expenses that may be claim that the cap on review is
reported to determine excessively burdensome, driving
eligibility for high-cost loop interstate rates of return to
support. The Order limits 2.81% for rural LEC’s. Even
LEC’s to 115% of the industry assuming that this statistic
average for corporate proves that customers have
operations expenses accrued by failed to receive sufficient
carriers of like size. See universe service support, this
Order ¶¶ 283-285, 307. statistic is based on the
experience of only a single
Petitioners claim that providerSSthe Bay Springs
corporate operations expenses Telephone CompanySSand not a
are already capped and that statistically valid sample.
there is no need for a second Petitioners’ evidence therefore
cap.14 It is true that, even does not establish that the cap
before the Order, the amount of unreasonably fails to provide
reportable corporate operations sufficient service; at most it
expenses was determined by presents an anomaly that can be
multiplying an LEC’s total addressed by a request for a
corporate operations expenses waiver.15
by the percentage of its total
plant that is local exchange Moreover, the statistic
plant. This is no cap, ignores the Fourth
however, but rather a Reconsideration Order, in which
reasonable method of allocating the FCC responded to
costs. The proposed 115% rule petitioners’ concerns by, inter
is thus a wholly reasonable alia, establishing a minimum
exercise of the Commission’s cap of $300,000. See Fourth
legitimate power to combat Reconsideration Order ¶¶ 85-
abusive spending; absent the 109. Petitioners present no
proposed rule, the regulations evidence disputing the suf-
provide no incentive to keep ficiency of the currently
costs down. Moreover, given operative cap.
its legitimate cost concerns,
the agency was well within its Third, the order provides
that the universal service
subsidy be portable so that it
14 moves with the customer,
See Alltel Corp. v. FCC, 838 F.2d 551, 561
(D.C. Cir. 1988) (“A regulation perfectly
reasonable and appropriate in the face of a given
15
problem may be highly capricious if that problem See 47 C.F.R. § 1.3; Fourth Reconsideration
does not exist.”). Order ¶¶ 93, 102, 108.

16
rather than stay with the The methodology governing subsidy
incumbent LEC, whenever a disbursements is plainly stated and made
customer makes the decision to available to LEC’s. What petitioners seek is
switch local service providers.
not merely predictable funding mechanisms,
Petitioners claim that
portability violates the but predictable market outcomes. Indeed,
statutory principle of what they wish is protection from competition,
predictability, see 47 U.S.C. § the very antithesis of the Act.
254(b)(5), and the statutory
command of sufficient funding. To the extent petitioners argue that
Congress recognized the precarious
We reiterate that competitive positions of rural LEC’s, their
predictability is only a prin- concerns are addressed by 47 U.S.C. § 214(e),
ciple, not a statutory command. which empowers state commissions to regulate
To satisfy a countervailing
statutory principle, therefore, entry into rural markets.18 Furthermore,
the FCC may exercise reasoned portability is not only consistent with
discretion to ignore predictability, but also is dictated by principles
predictability. See TOPUC, 183 of competitive neutrality and the statutory
F.3d at 411-12. command that universal service support be
spent “only for the provision, maintenance,
Moreover, petitioners cannot and upgrading of facilities and services for
even show that portability which the [universal service] support is in-
violates sufficiency or tended.” 47 U.S.C. § 254(e).
predictability. The purpose of
universal service is to benefit
the customer, not the Fourth, rather than continue to determine
carrier.16 “Sufficient” the eligibility threshold for high-cost loop sup-
funding of the customer’s right port by recalculating the national average loop
to adequate telephone service cost, the FCC now simply will adjust the pre-
can be achieved regardless of viously-calculated national average by an an-
which carrier ultimately nual inflation index. Even assuming, as
receives the subsidy.17 petitioners contend, that inflation adjustments
to historical averages in fact would render
fewer LEC’s eligible for universal service
subsidies than would be the case under the
16
See, e.g., 47 U.S.C. § 254(b)(3) (stating that former approach, petitioners nevertheless fail
“Consumers in all regions of the Nation” shall to show how this interim approach is
receive comparable telephone service). unreasonable. Given the eventual transition
17
Petitioners estimate that the introduction of
competition will result in a loss of approximately
18
25% of the customer base. The FCC counters with See 47 U.S.C. § 254(e)(2) (“Before
historical trends that would predict market share designating an additional eligible
losses of only 3%. Because we conclude that the telecommunications carrier for an area served by a
sufficiency requirement is intended to benefit the rural telephone company, the State commission
customer, not the provider, we need not resolve this shall find that the designation is in the public
particular dispute. interest.”).

17
from historic cost to forward-looking cost, as they are not an issue for judicial review. For
required by competition, the FCC reasonably our purposes, a waiver provision is legitimate
concluded that the effort of collecting historic if the underlying rule is rational, see National
cost data no longer was justified. Rural Telecomm. Ass’n v. FCC, 988 F.2d 174,
181 (D.C. Cir. 1993), and cannot save a rule
Finally, petitioners claim that sales and that on its own has no rational basis, see Alltel
transfers of exchanges by rural providers are Corp, 838 F.2d at 561-62. We therefore can
efficient and ought to be encouraged and sub- uphold these amendments relating to the high-
sidized. The Order, by contrast, denies cost loop fund without addressing the wisdom
additional universal service support in cases in of allowing waivers.
which a rural LEC purchases another
exchange. 2. SWITCHING COSTS.
Petitioners also fail to show that the FCC’s
When the permanent rules for universal various changes to the treatment of switching
access within the context of local competition equipment costs unreasonably fail to provide
are in place, all exchanges will be governed by sufficient and explicit funding for universal ser-
uniform rules with respect to universal service vice or otherwise constitute an arbitrary and
support, without regard to the rural or non- capricious exercise of agency powers under
rural status of the LEC. In the interim, the Act. First, petitioners claim that the
however, the rules continue to treat rural and changes arbitrarily and capriciously abandon
other LEC’s differently, in recognition of the cost-causation principles. They insist on re-
continued greater need of rural LEC’s. The taining special weighting on the assumption
opportunity thus exists for gaming the that it is in fact more costly to switch long-
different universal service support regimes by distance calls than local calls. Therefore, un-
transferring ownership to a rural LEC. The der cost-causative principles, IXC’s should
FCC acted within its discretion to combat such pay higher access charges, because they are
gaming by keying regulatory treatment to an responsible for a greater proportion of
exchange’s original ownership status, without switching costs.
regard to any subsequent transfer in
ownership. As we have said, however, the Commission
has long abandoned this assumption. Instead,
The Commission argues that, as a last re- special weighting has been allowed to continue
sort, the availability of waivers cures its orders solely to provide an additional subsidy to rural
of any deficiency with respect to sufficiency LEC’s, an interest that would be equally
and predictability.19 Even if the waiver served by the new universal service support
provisions were debatable as a policy matter, fund. Indeed, the Order makes plain that the
new fund shall provide support “corresponding
in amount to that generated formerly by DEM
19
See 47 C.F.R. § 1.3 (general waiver provision weighting.” Order ¶ 303. Moreover, by
for all FCC regulations); Fourth Reconsideration mandating that all universal service support be
Order ¶ 38 (providing for waiver of indexed cap on “explicit,” 47 U.S.C. § 254(e) requires that
growth in high cost loop fund); Id. at ¶¶ 93, 102, this special weighting be eliminated.
108 (providing for waiver of cap on corporate
operations expenses).

18
 Petitioners’ second objection simply
misconstrues the requirement of “explicit”
funding. They argue that, because the new
fund would be financed by all
telecommunications carriers, including small
LEC’s such as petitioners, the new fund
constitutes an unlawful subsidy in favor for
IXC’s.

Again, petitioners rest their argument on
the same assumption deemed obsolete by the
FCCSSthat long-distance switching is more
costly than local switching. Even so, we made
clear in TOPUC that the implicit/explicit dis-
tinction turns on the difference between direct
subsidies from support funds and recovery
through access charges and rate structures.
“The statute provides little guidance on wheth-
er ‘explicit’ means ‘explicit to the consumer’
. . . or ‘explicit to the carrier’ . . . [but it] does
state, however, that all universal service
support should be ‘explicit.’ . . . By forcing
GTE to recover its universal service
contributions from its access charges, the
FCC’s interpretation maintains an implicit
subsidy for ILEC’s such as GTE.” 183 F.3d at
425.
(d). The Commission reasonably applied the
Petitioners thus misconstrue the meaning of principle of equitable and nondiscriminatory
the explicit funding requirement. The fact that contribution by requiring contributions from all
the fund is subsidized by contributions from all telecommunications providers.
telecommunications providers, including
LEC’s, does not make it an implicit subsidy Finally, petitioners object on the ground
under § 254(e), even if it effectively that portability violates the principle of
redistributes resources among predictability and the statutory command of
telecommunications providers. sufficient funding. Specifically, they claim
that, if just 25% of the revenue that the FCC
Moreover, § 254(b)(4) requires “[a]ll pro- has made portable is lost by a typical small
viders of telecommunications services [to] LEC, the annual rate of return for interstate
make an equitable and nondiscriminatory con- access service will, in many cases, fall to minus
tribution to the preservation and advancement 10.53%.
of universal service.” 47 U.S.C. § 254(b)(4)
(emphasis added); see also 47 U.S.C. § 254-

19
 As we have said, the Commission IV. TAKINGS CHALLENGE.
reasonably construed the predi ctability Notwithstanding the above analysis,
principle to require only predictable rules that petitioners request us to read the Act to avoid
govern distribution of the subsidies, and not to a violation of the Takings Clause. See Edward
require predictable funding amounts. Indeed, J. DeBartolo Corp. v. Florida Gulf Coast
to construe the predictability principle to Building & Constr. Trades Council, 485 U.S.
require the latter would amount to protection 568, 575 (1988). We see no reason to invoke
from competition and thereby would run the canon of avoidance, however, because we
contrary to one of the primary purposes of the are simply not presented with a constitutional
Act. violation.

Moreover, petitioners’ approach to the pre- The Fifth Amendment protects utilities
dictability principle would prohibit also the from regulations that are “so unjust as to be
current subsidy effect of weighting switching confiscatory.” Duquesne Light Co. v. Bar-
costs. Under the current plan, LEC’s receive asch, 488 U.S. 299, 307 (1989). Petitioners
the subsidy implicitly through access therefore must show that a regulation will
chargesSScosts that are realized only when “jeopardize the financial integrity of the
customers make telephone calls. The old sys- companies, either by leaving them insufficient
tem of implicit subsidies is no less portable operating capital or by impeding their ability to
than is the explicit subsidies contemplated by raise future capital,” or they must demonstrate
the new fund, for an LEC cannot assess access that the reduced subsidies “are inadequate to
charges against IXC’s for the costs of a compensate current equity holders for the risk
customer who has left that LEC for another associated with their investments under a mod-
provider. We therefore uphold the Order over ified prudent investment scheme.” Duquesne,
petitioners’ APA and Chevron challenges. 488 U.S. at 312.

It is not enough that a party merely
speculates that a government action will cause
it harm. Rather, a taking must “‘necessarily’
result from the regulatory actions.” TOPUC,
183 F.3d at 437 (citing United States v.
Riverside Bayview Homes, 474 U.S. 121, 128
n.5 (1985)). Such a showing cannot be made
here “until the administrative agency has
arrived at a final, definitive position regarding
how it will apply the regulations at issue to the
particular [property right] in question.”
Williamson County Regional Planning
Comm’n v. Hamilton Bank, 473 U.S. 172, 191
(1985).

At the very least, therefore, petitioners
must wait to experience the actual

20
consequences of the Order before a court may
even begin to consider whether the FCC has 5 U.S.C. § 604(a)(5). In 1996, Congress
effected a constitutional taking. Until it is provided for judicial review of agency
known what level of universal service funding compliance with the RFA. See 5 U.S.C. §
each petitioner will receive under the Order, 611(a)(1). We review only to determine
and under what circumstances the Commission whether an agency has made a “reasonable,
will grant a waiver, we cannot seriously good-faith effort” to carry out the mandate of
entertain a Takings Clause challenge. the RFA. Associated Fisheries, Inc. v. Daley,
127 F.3d 104, 114 (1st Cir. 1997).
Furthermore, petitioners do not present
credible evidence that the Order ever will Petitioners’ RFA argument amounts to little
cause the drastic consequences for rural LEC’s more than a redressing of its earlier Chevron
articulated in Duquesne. The mere fact that, and APA claims. The RFA is a procedural
“[f]or many rural carriers, universal service rather than substantive agency mandate, to be
support provides a large share of the carriers’ sure,20 but petitioners fail to articulate specific
revenues,” Order ¶ 294, is not enough to procedural flaws in the FCC’s promulgation of
establish that the orders constitute a taking. the orders. In fact, both orders are
The Fifth Amendment protects against takings; accompanied by substantial discussion and
it does not confer a constitutional right to gov- deliberation, including consideration and
ernment-subsidized profits. The Takings reasoned rejection of significant alternatives
Clause thus erects no barrier to our Chevron which, in the Commission’s judgment, would
and APA analysis. not have achieved with equivalent success its
twin statutory mandates of universal service
V. REGULATORY FLEXIBILITY ACT and local competition. The RFA requires no
CHALLENGE. more.21
Under the Regulatory Flexibility Act
(“RFA”), final agency rules must contain a Petitioners come closest to stating a merito-
“final regulatory flexibility analysis” (“FRFA”), rious procedural objection when they assert
5 U.S.C. § 604(a), which must include that the FCC failed either to undertake or to
present economic analysis. Even assuming
a description of the steps the agency has that that were so, the RFA plainly does not re-
taken to minimize the significant quire economic analysis, but mandates only
economic impact on small entities that the agency describe the steps it took “to
consistent with the stated objectives of
applicable statutes, including a statement 20
of the factual, policy, and legal reasons See Associated Fisheries, 127 F.3d at 114
for selecting the alternative adopted in (stating that “section 604 does not command an
agency to take specific substantive measures, but,
the final rule and why each one of the
rather, only to give explicit consideration to less
other significant alternatives to the rule onerous options”).
considered by the agency which affect
the impact on small entities was re- 21
See Associated Fisheries, 127 F.3d at 115
jected. (noting that “section 604 does not require that an
FRFA address every alternative, but only that it
address significant ones.”).

21
minimize the significant economic impact on competition in local markets. They do not
small entities consistent with the stated effect a cognizable, unconstitutional taking.
objectives of applicable statutes.” 5 U.S.C. § And they were promulgated in reasonable
604(a)(5). compliance with the requirements of the RFA.
We therefore DENY the petitions for review.
The RFA specifically requires “a statement
of the factual, policy, and legal reasons for se- Judge WIENER concurs in the judgment
lecting the alternative adopted in the final only.
rule.” Id. Nowhere does it require, however,
cost-benefit analysis or economic modeling.
Indeed, the RFA expressly states that, “[i]n
complying with [section 604], an agency may
provide either a quantifiable or numerical de-
scription of the effects of a proposed rule or
alternatives to the proposed rule, or more
general descriptive statements if quantification
is not practicable or reliable.” 5 U.S.C.
§ 607.22 We therefore conclude that the FCC
reasonably complied with the requirements of
the RFA.

CONCLUSION.
Petitioners’ various challenges fail because
they fundamentally misunderstand a primary
purpose of the Communications ActSSto her-
ald and realize a new era of competition in the
market for local telephone service while
continuing to pursue the goal of universal
service. They therefore confuse the
requirement of sufficient support for universal
service within a market in which telephone
service providers compete for customers,
which federal law mandates, with a guarantee
of economic success for all providers, a
guarantee that conflicts with competition.

The FCC interim orders are reasonably tai-
lored to achieving universal service and

22
See also Associated Fisheries, 127 F.3d
at 115 (“Section 604 prescribes the content of an
FRFA, but it does not demand a particular mode of
presentation.”).

22