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Order CRTC 2000-138
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Ottawa, 22 February 2000
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MTS Communications Inc. - Phase III/SRB manual update report
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Reference: 8654-M3-02/99
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The Commission approves the proposed revisions to the Phase III Manual, but does not accept MTS’s proposal regarding Section 3465 of the Canadian Institute of Chartered Accountants Handbook for regulatory purposes.
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1.
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On 31 March 1999, MTS Communications Inc. filed a Phase III/Split Rate Base (SRB) manual update report requesting approval of proposed revisions to its manual for the purpose of producing its 1998 Phase III/SRB results.
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2.
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In its application, MTS proposed various revisions to its revenues, investment and expenses as well as a modification to account for an unused tax loss and related income tax expense for regulatory purposes in accordance with the Canadian Institute of Chartered Accountants (CICA) handbook, Section 3465 as at 1 January 1998.
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3.
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Section 3465 requires that the benefit of an unused tax loss be recorded as an asset if an enterprise has a reasonable expectation that it can use the benefit in future periods. When a change in accounting policy is applied retroactively and prior years’ financial statements are not restated, the CICA handbook recommends reporting the impact of the changes by adjusting the opening balance of retained earnings. Consequently, this results in the recording of an annual income tax expense that otherwise would have been offset by the unused tax loss.
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4.
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The Commission notes that Section 3465 was issued in December 1997 to be applied for fiscal years beginning on or after 1 January 2000, but earlier adoption was encouraged.
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5.
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On the basis of its review, the Commission notes that all of MTS’s proposed revenue, investment and expense revisions are in compliance with previous Commission decisions and, with one exception, finds them reasonable and acceptable.
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6.
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The exception involves an omission of a new tariff, Operator Services (MTS Tariff 24006, Item 41) from the revenue section of its Phase III/SRB manual.
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7.
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No comments on these proposed revisions were filed by any interested party.
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8.
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The Commission notes that the revenues from this tariff are assigned to both the Utility and Competitive SRB segments. The Commission is of the view that MTS should include Tariff 24006, Item 41 in Section 2 Appendix A, Classification of Services and Associated Revenues of its Phase III/SRB manual.
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9.
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With respect to the proposed modification to account for an unused tax loss and related income tax expense for regulatory purposes in accordance with Section 3465 of the CICA handbook, by letter dated 23 July 1999, the Commission initiated a separate process to consider the appropriate regulatory accounting treatment.
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10.
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MTS stated that as a result of the company’s contribution to its employee pension plan, MTS has an unused tax loss which is currently used to offset income tax expense. This unused tax loss represents an asset having future economic benefits. MTS submitted that it would be appropriate to adopt Section 3465 as at 1 January 1998, for regulatory purposes, to record its unused tax loss as an asset with a corresponding credit to retained earnings.
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11.
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MTS further submitted that it was not proposing to adjust its rates for 1998 or 1999 as a result of the adoption of Section 3465 but that recording an annual income tax expense, in accordance with Section 3465, more appropriately reflects the consumption of this resource by the Utility segment customers.
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12.
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As a result of recording an annual income tax expense, MTS stated that, for regulatory purposes, there would be a negative impact on MTS’s Utility segment rate of return on equity (ROE).
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13.
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MTS submitted that although it proposed to adopt Section 3465 for regulatory purposes, its parent company, Manitoba Telecom Services Inc., had not adopted Section 3465 for external reporting purposes for 1998, and did not know whether it would adopt Section 3465 for 1999.
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14.
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The Consumers Association of Canada (Manitoba) and the Manitoba Society of Seniors (CAC/MSOS) filed comments on MTS’s proposal to adopt Section 3465 for regulatory purposes.
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15.
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CAC/MSOS stated that the central objective of this proceeding should be to ensure that Section 3465 is adopted in a manner that allows for the flow through of the full benefit of the Utility segment’s unused tax loss to Manitoba’s consumers.
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16.
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CAC/MSOS noted that the accounting approach proposed by MTS only makes provision for the recording of the deferred tax benefit and not for the provision of a deferred tax liability for flowing through the benefit to the consumers. CAC/MSOS submitted that this would result in an overstatement of MTS’s retained earnings and an understatement of its net income and ROE. In light of this negative impact on MTS’s financial results, CAC/MSOS submitted that MTS should be directed to record a deferred income tax liability for flowing through to consumers the benefit of the unused tax loss.
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17.
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CAC/MSOS further submitted that it would be incongruous to adopt a financial accounting standard for regulatory purposes before adopting it for external financial reporting purposes.
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18.
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CAC/MSOS concluded that the implementation of Section 3465 should have no impact on the Utility segment ROE, rates, or revenues while the deferred benefit and liability are amortized. To the extent that MTS claims that there is a negative impact on its Utility segment ROE as a result of the implementation of Section 3465, CAC/MSOS believed that this is likely to reflect an improper implementation of the Generally Accepted Accounting Principles (GAAP).
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19.
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In reply comments, MTS noted that CAC/MSOS was not opposed to the adoption of Section 3465 for regulatory purposes, but that its adoption required the creation of an offsetting deferred income tax liability to recognize that the benefit resulting from the unused tax loss allocated to the Utility segment flows through to the consumers.
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20.
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MTS stated that it was not opposed to reflecting the flow through of the benefit of the unused tax loss allocated to the Utility segment in its regulated income statements. However, rather than creating a deferred tax liability which would not comply with GAAP, MTS proposed to reflect this flow through in its Regulatory Income Statement as a regulatory adjustment which would be added to income after tax (at the statutory tax rate) to arrive at net income. MTS submitted that this would illustrate the amount of benefit resulting from the consumption of the unused tax loss by the Utility segment consumers during the year, thus satisfying CAC/MSOS’ concerns, while still demonstrating the amount of income tax expense that otherwise would have been applicable to the Utility segment in the absence of the tax benefit.
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21.
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Although the CAC/MSOS approach would have the same result on MTS's ROE as the approach to offset the impact of adopting Section 3465 through regulatory adjustments, the Commission agrees with MTS that this approach would not be in accordance with GAAP.
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22.
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The Commission notes that consumers currently receive the benefit of the unused tax loss, as MTS’s rates do not include a provision for income taxes.
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23.
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The Commission also notes that MTS is not opposed to adding a regulatory adjustment in order to reflect the flow through of the benefit in its Regulatory Income Statement. However, the Commission is of the view that in order to properly reflect the flow of the benefit to consumers in its Regulatory Financial Statements, MTS would also need to provide a regulatory adjustment for its common equity and average net investment base to offset the impact on the ROE of reporting the credit to retained earnings.
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24.
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Although early adoption was encouraged by the CICA, the Commission notes that MTS’s parent company has not adopted Section 3465 for external reporting purposes. The Commission considers that, since the adoption of Section 3465 is not mandatory for the years 1998 and 1999, to require MTS to report earnings that reflect the adoption of Section 3465 with an offsetting regulatory adjustment would only introduce unnecessary adjustments to SRB reporting.
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25.
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In light of the above, the Commission is of the view that it would serve no regulatory purpose to adopt Section 3465 for 1998 and 1999 with respect to the accounting for the benefit of the unused tax loss.
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26.
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The Commission notes that for the year 2000, MTS’s parent company must adopt the provisions of Section 3465 for external financial reporting to comply with the CICA handbook. However, in light of the regulatory adjustments that would be required to flow through the benefit of the unused tax loss to the subscribers and considering the estimated remaining amount of the unused tax loss, the Commission considers that it would not be appropriate in 2000 to adopt Section 3465 for regulatory purposes with respect to the accounting for the benefit of the unused tax loss.
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27.
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In light of the foregoing, the Commission:
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a) approves MTS’s proposed revenue, investment and expense revisions to its Phase III/SRB manual and directs the company to include Tariff 24006, Item 41 in the revenue section of its manual;
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b) denies MTS’s proposal to implement Section 3465 for regulatory purposes with respect to the benefit of the unused tax loss;
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c) directs MTS to file amended manual pages, which include all updates approved in this order that are relevant to the production of the company’s 1998 Phase III/SRB results, within 30 days of the date of this order; and
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d) directs MTS to file its 1998 SRB results reflecting the Commission’s determinations in this order coincident with the filing of the amended manual pages.
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Secretary General
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This document is available in alternative format upon request, and may also be viewed at the following Internet site: http://www.crtc.gc.ca
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