Broadcasting Public Notice CRTC 2002-51

Ottawa, 3 September 2002

Cable inside wire fee

In this public notice, the Commission establishes a fee for the use of cable inside wire in multiple-unit dwellings (MUDs) pursuant to section 10(2) of the Broadcasting Distribution Regulations. The fee is based on the methodology set out in Call for comments - cable inside wire lease fee, Public Notice CRTC 2002-13, 8 March 2002, with certain modifications arising from the comments received pursuant to the public notice. Based on this methodology, the Commission considers that a fee of $0.52 per subscriber per month is a just and reasonable fee for the use of inside wire in MUDs.

Introduction

1. In Call for comments - cable inside wire lease fee, Public Notice CRTC 2002-13, 8 March 2002 (PN 2002-13), the Commission issued its preliminary view as to a just and reasonable fee for the use of inside wire in multiple unit dwellings (MUDs). The process that led to this preliminary view is detailed in PN 2002-13.

2. The Commission's preliminary view was based in part upon a methodology proposed by the Canadian Cable Television Association (CCTA) in a submission dated 17 May 2001. In its proposal, the CCTA recommended a national lease fee of $2.67 per subscriber per month for the use of inside wire in MUDs. The CCTA based its method of calculation on that used by the Commission to establish an access fee for exempt programming undertakings in Access rate for exempt programming undertakings, Public Notice CRTC 1997-35, 2 April 1997.

3. While the Commission agreed with the CCTA that the fee established should recover the costs of inside wire, the Commission did not accept certain aspects of the CCTA's accounting methodology. The Commission considered that the CCTA's calculations were based on a cost category containing all subscriber drop costs, instead of only those assets related to inside wire. In addition, the CCTA's methodology did not distinguish between inside wire costs in single unit dwellings (SUDs) and MUDs. The Commission also agreed with Bell ExpressVu Limited Partnership (ExpressVu) that the cable companies have already recovered at least part of the cost of the inside wire through subscriber installation charges and CAPEX rate increases. Taking these points into consideration, the Commission adjusted the CCTA's methodology and calculations in order to arrive at its preliminary view as to a fee for the use of inside wire in MUDs.

4. The Commission's preliminary view was that a single, nation-wide fee for the use of inside wire in all MUD suites, based on the unrecovered costs for MUD inside wire borne by incumbent broadcasting distribution undertakings (BDUs), would create the most appropriate balance between the interests of incumbents and new entrants. To calculate the amount of this unrecovered cost, the Commission used the aggregated total costs from the Category 5 "Subscriber Drop" item of the 2001 annual returns (the Subscriber Drop Category) of 67 cable systems throughout Canada. The Commission then applied the following adjustments to this total:

• a reduction of 75% so as to remove the portion of costs in the Subscriber Drop Category related to subscriber drops in SUDs. This reduction was intended to reflect both that 70% of Canadians live in SUDs and that the costs of installing and maintaining a subscriber drop are 30% higher in a SUD than in a MUD;
• a reduction of 50% to remove the portion of costs in the Subscriber Drop Category that are unrelated to the actual inside wire;
• a reduction of 25% to reflect installation revenue, from 1991 to 2000, used to recover subscriber drop costs;
• a reduction equal to 1% of total CAPEX revenue from 1991 to 2000 in order to reflect the amount of CAPEX revenue directed to recovery of subscriber drop costs; and
• an increase of 7% of pre-tax return on net fixed assets to reflect the financing costs of subscriber drop expenditures.

5. Based on these calculations, the Commission indicated its preliminary view that an appropriate fee for the use of inside wire in MUDs would be $0.44 per suite per month. The Commission invited interested parties to comment on this preliminary view.

General positions of the parties

6. In response to PN 2002-13, the Commission received comments from 15 parties, including two incumbent cable companies and their representatives, four new entrants, four MUD condominium organizations, and five customers.

7. Two parties - Vidéotron Ltée (Vidéotron) and TELUS Communications Inc. (TELUS) - proposed methodologies different from that used by the Commission to arrive at its preliminary view. Vidéotron proposed a method based on current replacement costs for inside wire rather than historical accounting information. It argued that historical accounting information that reflected only the unrecovered cost of inside wire would necessarily attribute a value to that wire that is lower than the replacement cost. Vidéotron suggested that, since any new entrant that rewires a MUD suite would incur the full cost of replacing that wire, it would be less expensive for new entrants to pay a fee for the use of existing wire based on accounting information rather than rewiring. It argued, therefore, that the Commission's use of historical accounting information creates a disincentive for new entrants to provide their own inside wire. Conversely, Vidéotron considered that a fee based on replacement costs would provide an incentive for new entrants to upgrade and re-wire MUD suites.

8. The new entrants argued that fees based on replacement costs would effectively subsidize the incumbent because such fees would ignore inside wire costs that have already been recovered and further, that they would result in the assignment of the same value to "old wire" as to "new wire". ExpressVu noted that few MUD residents are currently able to choose their BDU and that a higher fee for the use of inside wire would further entrench the incumbent's monopoly position in this market.

9. TELUS proposed that the Phase II costing methodology be used to calculate the fee. This costing methodology is currently used by the Commission to establish prices under the Telecommunications Act for various services and facilities offered by telecommunications service providers. TELUS based its support for this methodology on the premise that Phase II costing would provide a fee for the use of inside wire that is closest to its actual incremental cost. It also noted that this methodology is already in use by incumbent cable companies in the case of high speed cable Internet services, as established in Terms and rates approved for large cable carriers' higher speed access service, Telecom Order CRTC 2000-789, 21 August 2000 (Order 2000-789).

10. Novus Entertainment Inc. (Novus) objected to this methodology on the grounds that it would be overly complex and would lead to micro-management. The CCTA stated that a methodology similar to Phase II costing for establishing a fee for the use of inside wire had already been considered and rejected by the Cable Wiring working group of the CRTC Interconnection Steering Committee (CW-CISC) due to a lack of transparency.

11. In addition to these two alternative proposals, parties offered comments on various aspects of the methodology developed by the Commission in its preliminary view.

12. The CCTA argued that several of the inputs and assumptions made in the preliminary view were incorrect. According to the CCTA,

• there should be no reduction to remove non-inside wire costs from the Subscriber Drop Category related to MUDs, since this category contained only those costs associated with inside wire;
• the Commission's methodology should include the cost of equity financing in calculating financing costs. The CCTA proposed a financing cost of 16% based on a 50:50 split of debt and equity financing, a 9.4% cost of debt and a 13% after-tax cost of equity;
• there should be no reduction to take into account installation revenues since these revenues are based on cost recovery; and
• CAPEX revenue should not be used to reduce the fee for inside wire, since it is inseparable from basic service revenue and is necessary to maintain profitability.

13. After factoring in its recommended changes to the Commission's methodology, the CCTA calculated that the appropriate fee for the use of inside wire in MUDs should be $1.74 per suite per month.

14. ExpressVu, Cable VDN Inc. (Cable VDN) and Look Communications Inc. opposed the CCTA position and argued that the Commission's proposed fee of $0.44 per MUD suite per month is too high. With respect to the specific elements of the Commission's methodology, they recommended that the Commission retain or, in some cases, increase its reductions to the costs in the Subscriber Drop Category. In this regard, they indicated that there are additional types of revenue that could be used to further offset these costs, such as "extra outlet" charges. ExpressVu, in particular, argued that the Subscriber Drop Category contains, by definition, additional items not associated with inside wire, such as mouldings and fasteners used to cover the wire. It therefore maintained that a reduction to remove non-inside wire costs from the Subscriber Drop Category must be included in the calculation of the fee.

15. Novus, the Canadian Condominium Institute, the Condominium Home Owner's Association of British Columbia (CHOABC), the Condominium Cable Communications (C-3) Committee and Verričres I, II, III, IV and V all opposed the application of any fee for inside wire. Whereas Novus preferred a non-interference model in which inside wire could be used without charge, the other parties advocated ownership of the inside wire by building or unit owners.

16. Four of the five customers that participated in this proceeding generally expressed concerns that a fee for the use of inside wire in MUDs would result in increased cable television service charges. One customer indicated his support for the Commission's preliminary view.

The Commission's objectives and approach

17. In setting out its preliminary view in PN 2002-13, the Commission took into account a number of objectives. It sought to establish an inside wire fee for MUDs that would ensure that consumers enjoy the full benefits of competition in distribution, including the benefits of end-user choice, while the interests both of incumbents and of new entrants are taken into account. The Commission considered that a just and reasonable fee should not create inappropriate price incentives or disincentives that could impede the efficient delivery of programming using the most effective technologies available at a reasonable cost. Thus, the fee should not create a disincentive to upgrade the wire in older buildings. At the same time, it should not constitute a barrier to entry by competitors in MUDs.

18. The Commission also accepted the consensus recommendation of CW-CISC participants that the owners of inside wire should be permitted to recover the costs of inside wire that have not already been recovered. The Commission considered this recommendation to be a basic foundation for the determination of a just and reasonable fee for the use of MUD inside wire.

19. In addition, the Commission agreed with the consensus recommendation that, given the difficulty and cost of maintaining records with respect to the age of inside wire, there should be a single fee applicable to existing wire, new wire and rewires, thereby removing an unnecessary administrative burden from licensees.

20. In the Commission's view, no participant in the present proceeding has provided evidence that justifies departing from any of the objectives cited in the three preceding paragraphs. The Commission concludes, therefore, that these objectives should continue to serve as the primary foundation for the establishment of a just and reasonable fee for the use of inside wire in MUDs.

21. With respect to Vidéotron's proposal that the fee be based on replacement costs of inside wire, the Commission agrees with new entrants that this methodology does not take into account inside wire costs that have already been recovered. Further, it fails to allow for fluctuations in cost that have occurred over time and the difference in value between new wire and older wire that is closer to the end of its useful life. While this methodology would have the benefit of creating an incentive for new entrants to replace or upgrade inside wire, it would also provide incumbents with the opportunity to over recover costs. This over recovery of costs may, in the long term, create a disincentive for incumbents to upgrade or replace inside wire. In the Commission's view, the methodology proposed by Vidéotron fails to provide the balance of interests that is necessary in establishing a just and reasonable fee for the use of inside wire in MUDs.

22. The Commission considers that, unlike a costing methodology based on replacement costs, the Phase II costing methodology suggested by TELUS could be used both to recognize recovered costs and to value new and older wire correctly. The Phase II costing methodology, however, is a complex tool that is often used to establish a rate based on the partial use of several telecommunications facilities. In PN 2002-13, the Commission based its preliminary view on a simpler costing methodology that was accepted by most parties to the proceeding. The Commission, therefore, generally agrees with Novus that the level of complexity entailed by Phase II methodology is not necessary to arrive at an appropriate fee for use of inside wire in MUDs.

23. In light of the above, the Commission concludes that the overall thrust and approach of the costing methodology it used in developing its preliminary view is appropriate for the establishment of a just and reasonable fee for the use of inside wire in MUDs. However, following its review of the submissions in the current proceeding, the Commission considers that certain adjustments to the costing methodology set out in its preliminary view are appropriate. These adjustments and their effects are discussed below.

The Commission's determinations concerning costing methodology

Allocation of SUD and MUD costs in the Subscriber Drop Category

Preliminary view

24. In the context of CW-CISC discussions regarding an appropriate fee, the participants, including Commission staff, had requested that the CCTA or its member companies provide a detailed breakdown of the costs contained in the Subscriber Drop Category, as between inside wire and non-inside wire components and between SUDs and MUDs. This information, however, was not provided. Accordingly, in reaching its preliminary view, the Commission estimated that the costs of subscriber drops in SUDs generally exceed those in MUDs by 30%.

Argumentation

25. The CCTA, in its comments in response to PN 2002-13, did not dispute that the subscriber drop costs in SUDs are higher than in MUDs, but suggested that the difference in costs would not be as great as the Commission estimated. In support of its position, the CCTA filed cost estimates comparing SUDs and MUDs. According to the evidence submitted by the CCTA in the current proceeding, the average subscriber drop cost is only 14% higher in SUDS than in MUDs. Although several other interveners disputed the CCTA's calculations, they were unable to provide any evidence that would support their objections.

Determination

26. The Commission is satisfied that the evidence submitted by the CCTA reflects a more appropriate breakdown of the different costs of the subscriber drops in SUDs and MUDs. Accordingly, the Commission modifies its calculations to reflect a difference of 14% rather than 30% between SUD and MUD subscriber drop costs.

Non-inside wire costs included in the Subscriber Drop Category

Preliminary view

27. In its preliminary view, the Commission estimated that costs related to the inside wire for MUDs in the Subscriber Drop Category represent 50% of subscriber drop costs, with non-inside wire costs accounting for the other 50%.

28. The Broadcasting Distribution Regulations (the Regulations) define "subscriber drop", in section 45, as including elements that differ from those included in the definition of "inside wire". "Inside wire" includes wiring, outlets, splitters and faceplates employed from the "demarcation point" to a customer's terminal device. The "demarcation point" in MUDs is defined in section 1 of the Regulations as the point inside the dwelling at which the wire is diverted to the exclusive use and benefit of the subscriber. The "subscriber drop", on the other hand, includes inside wire as well as other equipment and facilities between the customer's terminal device and "the point at which services are diverted from the distribution system to a terminal device in the subscriber's residence for the exclusive use and benefit of the subscriber".

29. Prior to the introduction of the Regulations in 1997, there was no definition of inside wire. In New Regulatory Framework for Broadcasting Distributions Undertakings, Public Notice CRTC 1997-25, 11 March 1997, the Commission noted that several parties, including the CCTA and Rogers Cable Inc. (Rogers), urged the Commission to formulate a definition for inside wire which would distinguish it from the subscriber drop. The "inside wire" definition was intended to include the elements of the subscriber drop which would be used by a competing distributor to provide service to a customer, while excluding those elements to which the competitor either should not, or need not, have access.

30. In later proceedings, cable companies continued to maintain that the distinction between inside wire and the subscriber drop is necessary to exclude certain components of the subscriber drop, namely, those to which competitors should not, or need not, have access in order to provide service. For example, in its comments to the CW-CISC on 9 July 1998, the CCTA proposed that certain additional equipment be specifically excluded from the inside wire portion of the subscriber drop. In the same submission, the CCTA also enumerated several pieces of equipment in the Subscriber Drop Category that, in its view, were already excluded from the definition of inside wire.

31. In light of this regulatory history, in questions addressed to the CCTA with regard to its proposal of 17 May 2001, the Commission had requested that the CCTA provide a breakdown of the costs contained in the Subscriber Drop Category, as between SUDs and MUDs and between inside wire and non-inside wire. If accounting systems did not provide this itemization, the CCTA was asked to provide an appropriate methodology to allocate subscriber drop costs along the requested lines. The CCTA replied that "the accounting systems do not break down the subscriber drop assets in the sub-categories required". It neither provided the information nor the methodology requested.

Argumentation

32. In its submissions in response to PN 2002-13, the CCTA argued that the current treatment of the portion of the Subscriber Drop Category related to MUDs includes only those costs directly associated with inside wire. ExpressVu submitted that subscriber drop costs necessarily include at least some items, such as mouldings and fasteners, that are not included in the definition of inside wire. ExpressVu also noted that CCTA submissions to the CW-CISC have contained generalized breakdowns of subscriber drop costs that included capital costs for such items as "network design" and "other" which, it argued, should be allocated to the common elements of the cable infrastructure rather than to inside wire.

33. The CCTA also asserted that, under the current treatment, the Subscriber Drop Category contains only those costs associated with inside wire. The CCTA stated that this assertion was based on a polling of its members. However, it did not provide the Commission with evidence, such as pertinent accounting records or descriptions of costs, to support its assertion.

Determination

34. The Commission notes that, regardless of the current allocation of costs to the Subscriber Drop Category alleged by the CCTA, the methodology set out by the Commission in its preliminary view, as well as that proposed by the CCTA in its submission of May 2001, is based on the historical treatment of costs included in the Subscriber Drop Category over a period of 10 years beginning in 1991. In light of the above, the Commission concludes that the Subscriber Drop Category does contain costs not related to inside wire.

35. Given the above conclusion, the Commission must determine the appropriate proportion of the total Subscriber Drop Category that should be attributed to inside wire. Based on the record of the CW-CISC process, including the proposals filed and related submissions, the Commission applied its best judgment to formulate the preliminary view that costs related to inside wire for MUDs represent 50% of Subscriber Drop costs, with non-inside wire costs accounting for the other 50%. Parties, having full knowledge of this preliminary view, had an opportunity, in response to PN 2002-13, to provide clear factual support to challenge it. Since no party responding to PN 2002-13 has provided relevantevidence as to the breakdown of costs in this category as between inside wire and non-inside wire, the Commission maintains its view that it is reasonable to exclude 50% of the costs in the Subscriber Drop Category on the basis that they are not related to inside wire.

Financing costs

Preliminary view

36. The Commission estimated a cost of financing of 7% for investment in subscriber drops. In the Commission's view, the use of 7% was justified by the companies' actual treatment of inside wire costs for income tax purposes, which is to expense them in the year they are incurred, rather than to capitalize and depreciate them.

Argumentation

37. The CCTA argued that, while income tax policies affect the timing of cash flow, they do not affect the cost of debt or equity. The CCTA was also critical of what it viewed as the Commission's assumption that a cable company's capital structure is funded entirely by debt. The CCTA contended that capital funding is derived from equity financing as well, which requires a higher rate of return. The CCTA proposed a cost of a financing set at a pre-tax rate of 16%. This rate was derived from a combination of a 50-50 split between debt and equity financing, Rogers average cost of long-term debt, and the 13% after-tax cost of equity established in Order 2000-789 for third party Internet access.

Determination

38. In PN 2002-13, the Commission indicated its view that the tax treatment of capital costs for inside wire reduces the amount of debt required and, consequently, reduces the risk associated with investing in inside wire. The CCTA has not demonstrated any flaw in this proposition that would justify a modification to the Commission's methodology. Accordingly, the Commission rejects the CCTA's proposal to factor equity financing costs into the fee calculation.

39. The Commission believes, however, that it would be more appropriate to use the actual average cost of debt rather than the financing cost based on the Bank of Canada rate used in the preliminary view. According to information on long-term debt interest rates provided in the 2001 annual reports, the average cost of debt financing for Rogers, Shaw Communications Inc. (Shaw), Vidéotron and Cogeco Cable Systems Inc. (Cogeco) is approximately 9%. To reflect the actual average cost of debt, the Commission, therefore, increases the cost of financing included in the fee calculation from 7% to 9%.

Costs recovered through installation charges

Preliminary view

40. The Commission considered that a cable company could realize efficiencies in MUDs that would enable it to apply a portion of the revenue from installation charges to the recovery of a portion of the costs of inside wire. The Commission estimated that 25% of installation revenues could be used to recover MUD inside wire costs in this way.

Argumentation

41. The CCTA argued that cable companies have not gained cost savings from installations in MUDs. It also pointed out that installation charges are based on the cost of installation and do not generate additional revenue.

42. ExpressVu disagreed with the CCTA and contended that the Regulations allow cable companies to recover subscriber drop costs through installation charges. It also argued that the CCTA's references to current installation costs are misleading since these charges have dropped due to competition and were significantly higher at earlier points in the 10-year period being considered. Cable VDN supported ExpressVu's position and observed that cable companies still have effective monopolies in most MUDs. It argued that Vidéotron, in particular, has recently used its monopoly position in certain MUDs to increase its installation charges.

Determination

43. The Commission notes that the CCTA had previously indicated, as set out in PN 2002-13, that a portion of connection and reconnection charges were used to recover the costs of inside wire. In addition, the Commission remains of the view that cable companies can achieve efficiencies in MUDs that would enable them to apply a portion of revenue from installation charges to the recovery of costs of inside wire. Taking this into account, as well as the arguments raised by interveners, the Commission considers it reasonable that some portion of installation charges were used to recover the costs of inside wire. Since no party has provided detailed evidence regarding the actual portion of revenues that may be used to offset these costs, the Commission considers that 25% of installation charges is a reasonable proxy.

Costs recovered through CAPEX rate increases

Preliminary view

44. The Commission found that accelerated recovery of the costs of inside wire in MUDs in excess of annual depreciation and financing expenses was provided through CAPEX-related rate increases. Costs applied to the recovery of subscriber drop charges amount to 14% of average CAPEX rate increases in the sample studied, or about 2% of average basic service rates. However, CAPEX revenues also generated parallel increases in operating expenses, including those associated with increased Commission licence fees and the 50% contribution to the Canadian Production Fund. To take these increased expenses into account, the Commission applied 1% of basic service revenue as a reduction to inside wire costs.

Argumentation

45. The CCTA acknowledged that a portion of annual inside wire costs were recovered from CAPEX-related rate increases, but argued that CAPEX revenues should not be viewed as extra revenue that could be used to reduce the Net Book Value of the assets and depreciation expense. The CCTA maintained that CAPEX revenue is necessary to make a reasonable return on investment.

46. ExpressVu argued, however, that the CAPEX formula directly linked the amount of rate increases to the amount of capital expenditures, including subscriber drop costs. ExpressVu noted that cable companies could have raised the unregulated rates of discretionary tiers at any time to provide a greater rate of return, but instead chose to rely on basic rate increases based on CAPEX.

Determination

47. The Commission acknowledges that the objective of the CAPEX policy was to allow licensees to recover a portion of their capital expenditures. Under this policy, cable licensees were permitted to increase their basic service rate to offset investment in eligible capital expenditures. Since January 1998, cable licensees have been permitted to use the embedded CAPEX-related rate increases to help them recover a portion of their on-going investments in capital expenditures. For these reasons, the Commission accepts ExpressVu's argument that CAPEX rate increases are directly linked to capital expenditures.

48. For the purpose of determining a just and reasonable rate, the Commission's methodology measures the cost recovery on subscriber drops by applying a reasonable portion (50%) of the rate revenue generated by subscriber drops for CAPEX over a 10-year period against capital expenditures. Contrary to the CCTA's assertion, the Commission notes that the inclusion of a portion of CAPEX revenues in the Commission's methodology does not modify the treatment, from an accounting perspective, of the overall net Book Value of the assets and depreciation expenses or the overall return on investment. The Commission further notes that this methodology does not treat CAPEX rate increases as being separate from basic service revenue. Given the direct link between CAPEX revenue and subscriber drop costs, the Commission finds that it is appropriate to maintain its adjustment of the amount of the net fixed assets in the Subscriber Drop Costs category by 1% of direct subscriber basic revenue.

Conclusion

49. Taking into consideration the adjustments discussed above, the Commission considers that a fee of $0.52 per subscriber per month for the use of inside wire in MUDs constitutes a just and reasonable fee pursuant to section 10(2) of the Regulations. The Commission considers that for a licensee to charge a higher fee would generally constitute a breach of section 10(2) of the Regulations. The detailed calculations used to arrive at this fee are contained in Appendix 1 attached to this public notice.

50. The Commission may consider granting an exception to this approach, permitting a greater fee where a licensee clearly demonstrates, based on detailed evidence, that a particular circumstance warrants such an exception. For example, a possible exception may arise with respect to new entrants' inside wire if their historical costs are significantly different from those considered in this proceeding.

Implementation

51. In its preliminary view, the Commission agreed with the CW-CISC consensus that inside wire use be self-reported. The Commission further indicated its view that inside wire administration and reporting could use processes already developed for third party access to high speed Internet service. Under these processes, new entrants would provide reports to the four largest incumbent cable companies (Rogers, Shaw, Cogeco and Vidéotron) through their Customer Service Groups (CSGs). Reports made to other inside wire owners would be subject to a Non-Disclosure Agreement. The Commission confirms that these procedures are to be used as the basis for negotiating administrative and reporting procedures.

52. The Commission directs the CW-CISC to draft a specific set of administrative and reporting procedures that reflect the determinations reached in this public notice. The Commission expects the CW-CISC to ensure that the proposed procedures are submitted to the Commission by 3 March 2003.

Secretary General

This document is available in alternate format upon request and may also be examined at the following Internet site: http://www.crtc.gc.ca

Appendix 1

Date modified:

2002-09-03