ARCHIVED - Decision CRTC 2001-608

On 14 May 2001, Call-Net Enterprises Inc. on behalf of the members of the Coalition for Better Co-location (the coalition) requested the Commission to direct the incumbent local exchange carriers (ILECs or the respondents) to withdraw or delete clause 22.06 of the CRTC Interconnection Steering Committee (CISC) co-location working group (CLG) consensus report CLRE017 - Sub-licensing of co-location space (the consensus report) - and the accompanying schedule to the physical co-location agreement (COLA) entitled "Acknowledgment and Agreement" (the schedule), which were filed with the Commission by the CLG on 24 April 2001. The consensus report provides wording changes necessary to the COLA to permit sub-licensing of co-location spaces by interconnecting carriers (ICs). In a letter dated 25 June 2001, the coalition indicated that it did not want the entire schedule withdrawn or deleted, solely those provisions that purport to make the prospective sub-licensee jointly and severally liable for the IC's acts, breaches and defaults.

The coalition submitted that the "joint and several" liability clause should be eliminated because it:

a) discourages co-location space sub-licensing and defeats the very objective of the sub-licensing regime;

b) is inconsistent with legal and commercial practices;

c) is unfair to, and will impose undue hardship on, sub-licensees; and

d) is not necessary to protect the ILECs.

Background

On 17 July 2000, the coalition filed two Part VII applications dealing with various co-location issues. In addition, it filed a letter requesting that a series of CLG meetings be convened to resolve operational issues raised at the Commission's 7-8 June 2000 workshop on the interconnection and interoperation of telecommunications networks held in Hull, Québec.

Among the issues referred to the CLG was the request that the ILECs modify their COLAs to permit ICs to sub-lease floor space and associated facilities that ICs obtained through the ILECs' co-location tariffs. The CLG reached and approved a consensus on the sub-licensing of co-location space in ILEC central offices (COs), with the exception that the coalition strongly opposed the paragraph 22.06 clause that requires the IC and sub-licensee to be jointly and severally liable to the ILEC for any and all acts, breaches or other defaults of either the IC or the sub-licensee.

In order to reach consensus on all of the other proposed changes, the coalition agreed to allow the clause to remain in the consensus report on the understanding that the coalition would subsequently file a Part VII application requesting that the ILECs be ordered to remove the clause. On 25 May 2001, the Commission approved the consensus report.

The coalition's position

The coalition agreed that, as a matter of general law, and pursuant to the terms and conditions of the COLA, the IC is responsible and liable to the ILECs for the acts, breaches and defaults of the sub-licensee. However, the coalition objected to making the sub-licensee jointly and severally liable to the ILEC for the acts, breaches and defaults ("violations") of the IC.

The coalition's view on why a joint and several liability clause is unnecessary

According to the coalition, based on the record of the CLG discussions, the ILECs' justification for joint and several liability appears to be based on two main concerns which the coalition submits are unwarranted:

(a) to protect the ILECs against the sub-licensee's violations; and

(b) to ensure that ICs do not avoid their obligations under the COLA by setting up "wholly owned" subsidiaries as sub-licensees.

According to the coalition, the IC is primarily responsible under the COLA. Since this is a sub-license and not an assignment, the IC continues to be liable to the ILEC for all and any violations of the agreement by the sub-licensee. Furthermore, the COLA specifically provides that notwithstanding any sub-license of any part of the licensed area, the IC remains the customer of record and is solely responsible for any services and facilities and for the payment of same (article 22.07). In short, the IC is obligated to continue to provide the ILEC with required compensation ("make the ILEC whole") for its own violations and those by the sub-licensees as well. Accordingly, the ILEC is as completely protected as it was before the sub-license agreement.

The coalition stated that the ILECs have also expressed the concern that, if the sub-licensee is not made jointly and severally liable for the violations of the IC, an IC can set up a wholly owned subsidiary and sub-lease all its space to the subsidiary. If the sub-licensee (IC subsidiary) defaults or causes any damages in breach, the ILEC will be unable to proceed against the subsidiary directly. The coalition submitted that, since the parent IC continues to be legally and contractually liable for any violations of the subsidiary sub-licensee, there is no need to make the subsidiary jointly and severally liable. Nevertheless, the coalition indicated that it was willing to agree to an amendment that applies joint and several liability only to cases in which the IC sub-licenses to its wholly owned subsidiary.

ILECS want to minimize risk with joint and several liability clause

The ILECs expressed concern that there are no restrictions in the consensus report on the amount of space an IC can sub-license to a third party, be it an affiliate or otherwise. Furthermore, the ILECs are concerned that the Commission recently directed Bell Canada to allow a Type 1 co-locator which has exhausted the 20 square metre maximum space allotment to acquire additional Type 1 space, where available, in increments of one square metre. As a result, the ILECs find themselves in a situation where an IC may be in a position to acquire co-location space beyond the 20 square metre maximum, and then subsequently sub-license out some portion, or substantially all, of such space, to a sub-licensee. According to the ILECs, they have absolutely no control over the types of arrangements between an IC and one or more prospective sub-licensees, or how the operations and activities of the respective parties may or may not interrelate. The ILECs stated that their ability to protect themselves against risk should not be left to the mercy of arrangements between an IC and its sub-licensees over whom the ILEC has no control whatsoever.

Given the lack of any limitation on the amount of co-location space that may be sub-licensed by the IC, the ILECs are concerned that the level of activities undertaken by sub-licensees in the sub-licensed co-location space could be significant. The ILECs submitted that it is possible that the sub-licensing of co-location space by an IC might take place in conjunction with a company in a declining financial/asset position. In such a case without joint and several liability, the ILEC would be in a potentially higher risk position; the IC would be the party the ILECs would look to for redress in relation to not only the operations of the IC but also the new sub-licensee(s).

The ILECs pointed out that the ability to sub-license without joint and several liability would provide carriers with the ability to minimize risk by establishing arrangements whereby the IC operates as a form of shell company with few assets; a sub-licensee would have total operational control of the co-location arrangement. The ILECs want the protection of joint and several liability to ensure that they can continue assuming manageable risks.

The ILECs stated that it is not their intent to create undue hardship on the part of prospective sub-licensees of co-location space. According to the ILECs, the undertaking in relation to joint and several liability is prospective only, and does not apply to any defaults of any IC prior to the effective date of a sub-license. Furthermore, the IC and its sub-licensee can readily allocate any potential liability and possibly appropriate indemnification provisions between themselves pursuant to their contractual arrangements in relation to the sub-license of space. In the ILECs' view, if a sub-licensee of the IC considers that relying on such contractual provisions between itself and the IC will create undue hardship or lead to unnecessary financial risks, then asking the ILEC to rely only on the IC as the party with primary responsibility would have a similar impact on the ILEC.

According to the ILECs, if a prospective sub-licensee is not comfortable entering into a sub-license arrangement with the IC on the basis that it may be jointly and severally liable with the IC, then the sub-licensee can make its own co-location arrangements directly with the ILEC.

Finally, the ILECs stated that the sub-licensing arrangements set out in the consensus report will permit the IC and its sub-licensee to concurrently share and use the particular space. It is not unreasonable for the ILEC to consider either or both of them to be liable or have certain obligations under the co-location arrangement.

In reply, the coalition stated that the allegations with respect to increased level of risk are unfounded and grossly misleading. The allegations totally ignore all the other onerous pre-conditions that the respondents have placed on ICs and prospective sub-licensees under the new regime in order to eliminate any risks associated with sub-licensing. These pre-conditions ensure that the respondents have total control of the sub-licensing of their CO space, including:

(a) the respondents' prior written approval of the sub-licensee is an absolute requirement (22.04);

(b) corporate and operational information of the sub-licensee is required to be submitted in writing to the respondents before sub-license can take place (22.04);

(c) details of the sub-license arrangement, including amount of space, is to be supplied in writing to the respondents (22.04);

(d) the respondents reserve the right to demand additional information regarding the sub-licensee and the proposed arrangement (22.04);

(e) any sub-licensee must be a party otherwise entitled to obtain co-location as of right (22.05);

(f) the IC must provide written assurances that the equipment to be co-located by the sub-licensee complies with the COLA and tariff (22.05);

(g) it is the obligation of the IC to ensure that the sub-licensee complies and continues to comply with the provisions of the co-location tariff and the COLA (22.06);

(h) the IC remains the customer of record and remains solely responsible for payment for all services and facilities provided (22.07);

(i) the IC shall not charge rates in excess of which the IC is charged under the COLA or tariff for the co-location services (22.08); and

(j) termination of the IC's COLA, for any reasons whatsoever, also results in automatic termination of the sub-license arrangement, without recourse whatsoever (22.09).

According to the coalition, the respondents are more than protected by the provisions of the COLA and the amendments in the consensus report, against the risks, if any, that may arise as a result of a sub-license arrangement between an IC and a third party. The measures summarized in (a), (b), (c), (d), (e) and (f) above effectively provide the respondents with pre-approved means to eliminate or reject a risky sub-license proposal. The pre-conditions summarized in (g), (h), (i) and (j), as well as the comprehensive liability provisions of the COLA, effectively ensure that the respondents receive the required compensation from ("are made whole by") the IC if a risk does indeed materialize as a consequence of the sub-license arrangement.

The coalition submitted that the respondents are attempting to create additional insurance for their own normal business risks by forcing sub-licensees to guarantee the breaches and defaults of the IC. The coalition provided the following as an illustration: assume that, rather than sinking capital into brand new co-location spaces, Call-Net (or any of AT&T Canada, GT Group Telecom Services Corp. or Eastlink Limited) had decided to expand its local network footprint by negotiating to sub-license space in a couple of COs from, say, Riptide Networks Inc., AXXENT Corp. or C1.com, prior to the insolvency of these competitive local exchange carriers (CLECs). Call-Net would have had to convince its shareholders to underwrite the entire default risk of Riptide, AXXENT or C1.com for all their co-location arrangements with the respondents. In essence, the respondents want to be able to look to Call-Net, AT&T Canada, Group Telecom or Eastlink for redress regarding to the operations of Riptide, AXXENT or C1.com, simply because they have sub-licensed space from those companies. This, in the coalition's view, makes no commercial sense.

In the coalition's view, the respondents are trying to insure or shift to prospective sub-licensees a risk that they would have had to bear even in the absence of a sub-license arrangement. The risk exposure from the IC's default is not related in any way to, nor increased by, the sub-license arrangement and would have occurred without the sub-license arrangement. Any rates charged by C1.com would have been a straight flow-through to the respondents as C1.com would have been prohibited by article 22.08 of the amended COLA from charging the sub-licensee rates in excess of what C1.com was paying the respondents. As such, the sub-license arrangement does not expose the respondents to any greater financial or receivable exposure. As far as the respondents' risk exposure is concerned, the sum of the receivables from C1.com and the sub-licensee is exactly the same as the sum of the receivables from C1.com alone.

With respect to the respondents' contention that it is possible, in theory, for an IC to sub-license virtually the entire co-location space in a CO to a third party, the coalition stated that it is unlikely that the IC will use sub-licensing to achieve divestiture in practice. According to the coalition, an IC will most likely engage in divestiture of its co-location assets only if it is withdrawing totally or partially from the market, in which case it would be better off to make an outright assignment of the undesired co-location assets to the third-party and thereby totally absolve itself of its obligations under the COLA and the tariffs. If the IC sub-licenses 90% of the space, it remains obligated to the respondents for the entire space. On the contrary, in an outright assignment, the IC is completely absolved of future liability and the assignee becomes responsible.

Commission determination

The industry established sub-leasing co-location space as an efficient and financially viable means for competitors to co-locate without the need to use up additional central office space. An IC can recoup some of the costs associated with co-location. Sub-leasing allows service providers who are otherwise eligible but cannot afford the capital cost to co-locate. Service providers are also able to obtain co-location spaces in a CO where space is not available. Given current capital market conditions, many CLECs have had to retrench their network expansion plans and one of the few viable avenues to expand is to sub-lease space from an existing co-locator.

The ILECs do not dispute the fact that in certain situations, the ability to sub-license co-location space will have advantages such as those outlined in paragraph 21. However, they submit that restricting the ILECs' ability to recover costs (or damages) in the event of breach or default from only the IC, when the IC and its sub-licensees have derived commercial benefits from the sub-licensing arrangements is unfair.

In the Commission's view, the following concerns have been raised by the ILECs:

· where an IC wishes to sub-license its co-location space to third parties, the ILECs should be entitled to look to the IC and its sub-licensee in relation to the obligations and liabilities under the COLA and related tariffs;

· the ILEC is not in a position to know the particulars of any arrangements that have been made between the IC and sub-licensee; and

· the ILEC is unable to readily determine the origin of certain acts, or defaults, which may occur in relation to the co-location space in question.

In addition, in the Commission's view, these concerns are addressed by the conditions in the consensus report, and the terms and conditions of the COLA. These conditions ensure that the ILECs have total control of the sub-licensing of their CO space. For example, the ILEC can withhold consent of a sub-license arrangement until it receives a written agreement from the sub-licensee to adhere to and comply with all of the provisions of the existing COLA between the IC and the ILEC, as well as the related tariff. The conditions also provide the ILECs with a mechanism to obtain related details of sub-license arrangements.

The Commission notes the ILECs' concerns that an IC could pass the bulk of its co-location space onto the sub-licensee before it went into default. In such a case, the ILEC may not be able to recover the debt from the IC. However, with the demise of the IC, the sub-licensee who has acquired control of the co-location space would likely seek its own co-location arrangement. Thus, the sub-license would provide the ILEC with an advantage: the sub-licensee would likely assume a portion of the IC's co-location space, and therefore continue paying for co-location space that may have otherwise been lost. On the other hand, if the sub-licensee chose not to obtain its own co-location space, terminating its sub-license arrangement, the ILECs would again be in no worse a position than prior to the sub-lease. The IC was and continues to be primarily responsible to the ILEC for the co-location space regardless of a sub-lease arrangement and, accordingly, the ILEC is as completely protected as it was prior to the sub-license.

The Commission considers that the risk exposure resulting from the IC's default is not related in any way whatsoever to, nor increased by, the sub-license arrangement and would have occurred if there was no sub-license arrangement. The sub-licensee, the space to be sub-licensed, the rates charged and the equipment to be placed in the sub-licensed area will have been pre-approved by the respondents.

In the Commission's view, it is unlikely that ICs will seek to expand their co-location space beyond their needs for the simple purpose of sub-leasing to third parties, as there would be no financial gain in doing so. Specifically, the terms and conditions of sub-leasing co-location space prohibits the IC from charging the sub-licensee any rates and charges in excess of those to which the IC is subject to. In addition, should an IC propose to sub-license out an amount of space that the ILECs deem so large as to constitute a sham, there are sufficient provisions in the COLA amendments to enable the ILECs to deny approval of the proposed sub-license arrangement.

The Commission acknowledges the ILECs' concerns with the risk of having an IC set up a wholly owned subsidiary, then having that IC sub-lease all its spaces to the subsidiary. The Commission is of the view that since the parent IC continues to be legally and contractually liable, there is no need to make the subsidiary jointly and severally liable. However, the Commission notes that the coalition has indicated its willingness, on the record of this proceeding, to agree to an amendment that applies joint and several liability solely to cases in which the IC sub-licenses to its wholly owned subsidiary. Although the Commission considers that such an amendment is unnecessary, it has no strong objection to incorporating the amendment given that it satisfies one of the ILECs' main concerns and that the coalition is willing to abide by it.

The Commission is of the opinion that sufficient mechanisms already exist in the sub-license obligations to protect ILECs against a sub-licensee's breaches and defaults. The IC is the primary customer of record under the COLA, thus making the IC liable to the ILEC for all and any acts, breaches or defaults of the sub-licensee.

Given the above, the Commission considers that making sub-licensees jointly and severally liable for the IC's acts, breaches and defaults will create undue hardship and expose sub-licensees to unnecessary financial risks. For example, an arm's length sub-licensee who is leasing a few racks in the IC's co-location space for a fee of $2,000.00 per month could be liable in millions of dollars if the IC is in breach of the terms and conditions of the COLA. In actual fact, the sub-licensee would be forced to bear a higher financial risk than it would bear if it chose to apply, in its own right, for co-location. An assumption can be made that the financial risk would most certainly outweigh the benefits of sub-licensing and would defeat the very objectives of the sub-licensing regime agreed to by consensus in the CLG.

The Commission is of the view that joint and several liability will discourage sub-licensing and make access to co-location and competitive entry more difficult. CLECs and other prospective sub-licensees will be discouraged from sub-licensing space. At best, they will have to use more costly and less efficient alternatives such as physical or virtual co-location, and at worst, they will simply abandon the plan to enter or expand, as the case may be. In addition, the potential liability of the prospective CLEC sub-licensee for a third-party's unforeseeable financial obligations can only further diminish its attractiveness to investors in the capital market.

In light of the above, the Commission directs that:

· the attached Acknowledgment and Agreement schedule be amended accordingly.