ARCHIVED -  Transcript - Hull, QC - 2001/10/22

Transcripts

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bilingual as to their covers, the listing of the CRTC members

and staff attending the public hearings, and the Table of

Contents.

However, the aforementioned publication is the recorded

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Transcription

Afin de rencontrer les exigences de la Loi sur les langues

officielles, les procès-verbaux pour le Conseil seront

bilingues en ce qui a trait à la page couverture, la liste des

membres et du personnel du CRTC participant à l'audience

publique ainsi que la table des matières.

Toutefois, la publication susmentionnée est un compte rendu

textuel des délibérations et, en tant que tel, est enregistrée

et transcrite dans l'une ou l'autre des deux langues

officielles, compte tenu de la langue utilisée par le

participant à l'audience publique.

BEFORE / DEVANT:

ALSO PRESENT / AUSSI PRÉSENTS:

Hull, Quebec / Hull (Québec)

--- Upon resuming on Monday, October 22, 2001

at 0900 / L'audience reprend le lundi

22 octobre 2001 à 0900

21139 THE CHAIRPERSON: Order, please.

21140 Good morning, ladies and gentlemen and welcome back to our proceeding.

21141 Before I turn to the secretary to enter a number of responses to undertakings, are there any preliminary matters anyone wishes to raise?

21142 No? When you get a moment, Mr. Secretary.

--- Pause

21143 THE CHAIRPERSON: Oh, you want to wait a bit. Okay.

21144 All right. Then we will turn to the oral argument.

21145 The first party would be The Companies.

21146 Mr. Henry.

ARGUMENT / PLAIDOIRIE

21147 MR. HENRY: Thank you, Mr. Chairman.

21148 Let me start by saying that I think there is one fact on which I think there is unanimous agreement and that is that this proceeding is of fundamental importance to the industry and its stakeholders. Your decision can continue the journey we started four years ago of introducing local competition based on sound economics or it can stop us dead in our tracks and replace real competition with artificial competition. We urge you to choose the former course.

21149 What I will try to do this morning is summarize how our proposal will aid in the achievement of important public policy goals and why certain proposals of others would frustrate them.

21150 Your policies have been instrumental in making the telecommunications industry in Canada a success story and the price cap regime that will emerge from this proceeding can play a critical role in ensuring that we maintain that success. The best way to do this is to keep a firm eye on the public policy goals and allow market forces to do their work wherever possible.

21151 We must also be cognizant of the current economic environment. At the beginning of our last price cap period we were heading into extremely robust economic growth. But we must not map our future course by looking in the rear-view mirror. When we prepared our proposals in the spring we knew that the economy was softening, but things look much worse now.

21152 From a policy standpoint, you have heard us describe how the next regime should balance the policy goals of affordability, competition and investment.

21153 Turning first to affordability. It has been suggested by the consumer groups that the Commission's policy goal should not be limited to affordability, but rather the objective should be one of overall fairness to consumers. Mr. Chairman, we do not disagree. I suggest that when you examine the totality of our proposal it does measure up in terms of any reasonable standard of fairness. Here is why.

21154 First of all, an important element of fairness has to be that consumer rates remain affordable. The evidence in this hearing establishes that, by virtually any measure, the prices for basic local phone service in Canada are affordable and becoming more so. Not only do we have the second highest rate of telephone penetration in the world, at above 99 per cent, but the prices in Canada both for basic residence and business service are among the lowest in the world as measured by many studies.

21155 Canadian consumers and businesses get additional value compared to customers in other countries. They benefit not only from flat rate local calling, but also from large local calling areas. We should also recall that the proportion of disposable income spent on telephone services is small, even for the lowest income quintile, and is only 1.7 per cent overall.

21156 In the next regime, we are proposing to limit the increase in average basic local prices to the rate of inflation in all but the highest cost serving area. This will ensure that prices overall for basic local service are frozen in real terms. They will almost certainly decline relative to personal disposable income over the next several years. Prices will also remain below levels that are already determined to be just and reasonable for other Canadian telcos.

21157 As a result, we think the evidence is overwhelming that telephone rates in Canada are, and will remain, both fair and affordable under our proposal for all demographic groups.

21158 But an assessment of the overall fairness of our proposal should not be limited to prices. We have also proposed a residential service quality guarantee that will ensure that Canadians have the appropriate -- The Companies, rather, have the appropriate incentives to achieve the Commission's quality of service standards.

21159 Our package also includes detailed and extensive service improvement programs of particular importance to rural Canadians. They will ensure that the Commission's basic service objective is achieved on a virtually universal basis.

21160 The Companies have also indicated their willingness to cooperate and implement a consumer bill of rights to ensure that all consumers are aware of their rights and obligations.

21161 Mr. Chairman, we think our package measures up to any reasonable standard of fairness to consumers. In our view, forcing rates that are already low to go even lower, as proposed by some, can only discourage competitive entry which even in the residential market has already begun.

21162 The Companies have also proposed that discretionary services such as options and features continue to be uncapped and no party has suggested otherwise in this proceeding. The take rates for these services also demonstrate that they cannot be considered essential like the basic local service.

21163 Having said that, Mr. Chairman, an interesting question has been raised in this proceeding about whether customers should receive more billing detail regarding these services so that they are more aware of prices. That is a legitimate question and The Companies are willing to explore it further.

21164 The fairness discussion has led to the suggestions that there is a pool of excess ILEC earnings that should be distributed to various stakeholders. Mr. Chairman, this is simply not the case.

21165 First of all, as Drs. Taylor and Weisman have pointed out, a price cap regime should be judged or designed based on its ability to achieve specific policy goals and not on the level of earnings it produces.

21166 But quite apart from that policy principle, I must point out that there is no evidence in this proceeding to suggest that earnings have been excessive.

0905

21167 Some parties have suggested this is so since earnings have exceeded a benchmark return on equity determined in 1997.

21168 First of all, much of the company's past success is attributable to their own productivity efforts and an extraordinarily buoyant economy. For some companies the frozen contribution rate also was a factor.

21169 But, more importantly, as we look forward we see a starkly different picture. Mr. Talbot and even other parties have confirmed that the risk to investors in this industry is entirely different and much higher today than years ago. Mr. Talbot has pointed out this means required returns are higher in today's market.

21170 Furthermore, a combination of economic conditions, Commission decisions and increased competition, promise to increase substantially the financial challenges that the incumbents will face in the future.

21171 Take the economy. Real GDP growth over the 1998 to 2000 period averaged 4.5 per cent per year, while the lowest current Conference Board forecast for this year and next is 1.5 per cent and 1.2 per cent.

21172 What does this mean? We have estimated in our exhibits that a 1 per cent change in GDP growth has a $50 million impact on incumbent utility revenues. That means that the decline in GDP growth this year compared to previous years can be expected to take about $150 million out of ILEC utility revenue. This will continue to impact subsequent years as it affects the base to which future growth applies. To this will be added a further shortfall in 2002. Moreover, lower GDP growth also means lower productivity. So the incumbents will face a double penalty.

21173 The earnings that various parties have been bandying about also ignore the negative effects on the ILECs of Commission decisions already made but not yet reflected in financial results.

21174 For example, a contribution pool is currently expected to decline some $700 million next year. Other commissions that reprice various services provided to competitors will also produce ILEC revenues. Combined, these decisions will remove some $3 billion from the incumbent's utility revenues over the next four years.

21175 Finally, there is the impact of competition.

21176 The current year 2001 is very different than 1997. As shown in your monitoring report, competitors had already captured 10 per cent local business market share at the end of 2000 and in Bell's territory this figure is now about 15 per cent. In fact, competitors have achieved a market share of 23 per cent in the central core of major cities.

21177 As a result, competition can be expected to perform much of the role that a price cap formula performs. Again, this could amount to reductions to of hundreds of millions of dollars per year.

21178 In summary, Mr. Chairman, even if earnings were considered to be a relevant factor, which we believe they are not, the Commission need not fear that a pool of surplus funds is available to the ILECS.

21179 I would urge the Commission to reject the submissions, which I am sure you will hear following me, that the ILECs are awash with funds.

21180 Mr. Chairman, I believe this addresses the fairness issue so let me turn to the next objective, facilities-based competition in the local market.

21181 At the outset of this oral phase of this proceeding, you reiterated the Commission's continued commitment to this goal and you have heard from economists like Drs. Taylor and Weisman who have described the economic validity of your policies. You have also heard from a respected telecom industry investment analyst, Mr. Talbot, as to the value investors place on sound facilities-based entry. And you have heard from an entrant, Group Telecom, that is pursuing your objective of facilities-based entry with success and who has described the negative effects of any turning back from that policy.

21182 Local competition is, despite the current price cap plan and despite current economic conditions, nevertheless rolling out, in some areas quite rapidly. Understandably competition in the local residence market where the margins are smallest has not yet developed on a widespread basis. But even in this market, new technologies are already making inroads and we have heard how they will increasingly provide alternatives for consumers. For example, wireless service is becoming increasingly attractive as an alternative to wireline for many younger people and is substituting for second lines in a growing number of residences.

21183 In addition, cable companies like EastLink in PEI and Nova Scotia and AT&T and Cox in the U.S. are already offering local telephone service over their coax networks on a commercial scale. And, of course, voice over IP is a technology that is transforming our industry. Already, voice calls over the Internet, using either DSL or cable modem connections, are becoming common amongst certain segments of the population and will become more so given the calling technology incorporated in the new Windows XP software.

21184 We have provided in our Exhibit 72 an in-depth assessment of the current and future status of local telephony over cable networks. And we have heard evidence in this proceeding from Rogers itself that they hope to foll out commercial voice telephony over IP technology in about two years.

21185 The spread of competition from these new technologies will be faster or slower depending on the price at which conventional telephone services are offered. Some might argue that our pricing proposal, which amounts to a freeze in real terms, is insufficient to attract competition in this market.

21186 Ultimately, Mr. Chairman, this is a delicate balancing act and really a judgment call. We are comfortable that there are reasonable prospects for competition in the residence market in the coming years. While there is no doubt that if rates were higher than we are proposing, there could be more entry, we think our proposal balances the competing objectives.

0915

21187 At the same time, it seems to us that requiring residence rates to fall in real terms, either by freezing them or forcing them down, would send the wrong signal to the marketplace just as these technologies are beginning to take hold. Since options and features form an important part of the total customer purchase, it's important not to constrain their pricing so as not to impinge on the willingness of competitors to enter the residence market.

21188 That brings me, Mr. Chairman, to the proposals of AT&T and CallNet which have been put forward as means to promote local competition. AT&T's "non-discount approach" and CallNet's "non-radical approach" have been described by each in terms that are quite different.

21189 For example, AT&T proposes a 70 per cent reduction in the price of all utility segment services provided to CLECs and claims this is designed to promote facilities-based competition. CallNet, on the other hand, suggests that the Commission reprice to incremental cost a broad basket of services provided to carriers and suggests that the Commission's vision for facilities-based competition was unrealistic. Initially, CallNet attempted to leave the impression that its proposal would result in much more modest reductions than AT&T's proposal. However, it eventually became clear that CallNet's proposal would also result in massive discounts to a large basket of services in the order of 40 to 60 per cent.

21190 Mr. Chairman, it's our firm contention that implementation of either of these proposals would not only be a reversal of your policy to promote facilities-based entry but would also have disastrous financial consequences for the entire industry.

21191 You are being asked by these parties to solve through regulation what is really a debt load problem. You are being asked to do this at a time when, despite economic conditions, their EBITDA, which is to say the cash generated from their operations, is improving. These results should improve even more as a result of significant benefits that you have already provided through changes in the contribution regime and lower prices for various competitor services. These actions alone will transfer at least $320 million annually, or $1.3 billion over the next four years, from the ILECs to the competitors. But they are not satisfied with that. Mr. McLennan calls these decisions "a good small start."

21192 Mr. Chairman, in Decision 97-8 and subsequent proceedings you carefully assessed the nature of essential and near-essential facilities used by competitors and consistently followed a policy of pricing those services at cost plus a specified mark-up. But it has always been a fundamental pillar of your facilities-based policy to price non-essential services at retail rates. You rejected, for sound and still valid reasons, the notion of a mandated resale discount. The discounts proposed by AT&T and CallNet would treat the pricing of both essential and non-essential services identically and even more favourably than the current pricing treatment for essential facilities. This would have the perverse effect of making services not considered essential today appear to become essential since the incentive to build is destroyed.

21193 There is another particularly insidious feature of the proposals of AT&T and CallNet. They claim their proposals have been designed to promote local competition. Yet the services to which the proposed discounts would apply are used primarily by their long distance, data and Internet businesses. These market segments have been open to competition for many, many years.

21194 In fact, less than 10 per cent of the amounts spent by CallNet and AT&T on the services in their proposed competitor services basket are for essential and near-essential services used in their local exchange businesses. It seems clear that the intent and effect of their proposals would be to enhance their other businesses and potentially disrupt markets that have not even been examined in this proceeding.

21195 Furthermore, to the extent that these services would be used to provide local services, the effect would be to discourage facilities-based entry. In fact, with Centrex lines available at $6.30 per local per month under AT&T's proposal, it is hard to imagine that any CLEC would ever build any more local facilities. This is significantly below the costs established by the Commission for the loop alone. For all of these reasons, Mr. Chairman, we think it is clear that adoption of the CallNet or AT&T proposals would amount to dismantling the local competition framework. And they would also do great harm to the industry at large.

21196 AT&T's estimate of a $575 million annual impact on the ILECs, while large in and of itself, doesn't even come close to the real impact of their proposal. This figure represents only the direct impact of the discount provided to AT&T, CallNet and Group Telecom. It ignores the impact of the discount that would be afforded to other CLEC's. And more importantly, it ignores the artificial downward pricing that would inevitably occur in both the retail and wholesale markets. CallNet has not even attempted to justify or quantify, rather, the impact of its proposal, but there is no doubt it would have similarly huge impacts. When you work through these, it becomes clear that the impact on the ILECs of either proposal would be devastating.

9920

21197 I would point out that it is not just the ILECs that believe proposals such as these would result in a downward price spiral. Group Telecom has said the same thing. Group has also noted that the effect of the ILECs providing these discounts to CLECs would seriously harm its competitive wholesale business which it depends on to fund the expansion of its retail business.

21198 As a result, it is clear that implementation of either of these proposals would seriously harm the ILECs and others and seriously distort the competitive market dynamics. In fact, Group Telecom's evidence illustrates the danger of providing to competitors any level of discount off retail prices, or of expanding essential facilities pricing to embrace other services.

21199 It surely is not the Commission's intention to stop dead in their tracks those players that have been relying on the Commission's well-established policies.

21200 Questions have also been raised in this proceeding about the relative financial health of entrants and incumbents. Attention has been drawn to Figure 4.4 of your monitoring report which shows deteriorating net income for competitors in 2000 compared to 1999. In fact, this negative net income performance is primarily a function of non-operating items such as interest expense due to high debt loads. It should not be the Commission's job to manage anyone's debt load.

21201 Moreover, the most important financial measure for CLECs is operating results, as measured by EBITDA. In this regard, Figure 4.3 of your monitoring report shows a trend of improving EBITDA for the competitors through the year 2000 and these results, importantly, do not yet reflect your contribution and other decisions.

21202 The fact is that the current problems of some CLECs are not caused by the Commission or its policies. If you stray from competition based on sound economics, you risk damaging the entire industry and jeopardizing Canada's continued leadership in telecommunications.

21203 Mr. Chairman, this brings me to the third and final policy goal -- that is, to encourage investment.

21204 Substantial continuing investment is essential to maintain existing infrastructure. This investment is essential to meet demand for traditional services and it is essential to provide the next generation of services that Canadians want. Robust investment in telecommunications also underpins several priorities of the including economic growth and productivity, as well as the government's Innovation and Connecting Canadians agendas.

21205 Particularly in these uncertain economic times, it is important to ensure that money is not taken out of the industry though artificial means. To do so would fatally compromise the investment objective. Market forces should be allowed to do their work. The measures we have proposed to ensure fairness to our customers and the promotion of facilities-based entry should lay the foundation for the significant investments that will be required from this industry in the coming years.

21206 The proposals of AT&T and CallNet, on the other hand, would bleed revenue and investable funds from the telecommunications sector as a whole. By trading facilities-based competition for a resale model, they would undermine the very foundation for innovation.

21207 In closing, Mr. Chairman, the telecommunications industry in Canada is at a pivotal point and your decision in this proceeding will play a critical role in its future.

21208 For our part, we have proposed a package designed to ensure that consumers continue to get a fair deal. At the same time, our package promotes the Commission's objective of facilities-based competition and provides the incentive for continued strong investment. It is a proposal that will ensure Canada maintains its leadership in telecommunication.

21209 It is a fair deal for competitors too, with all essential and near-essential facilities being priced at cost plus a fixed mark-up and with retail rates not being forced down artificially.

21210 We reject the premise that the Commission's approach to promoting competition has failed and urge you to keep pursuing polices that have served Canadians so well.

21211 We wish you well, Mr. Chairman, in your deliberations and on behalf of, I'm sure, everybody in the room, I want to thank you and your fellow Commissioners, Commission counsel, Commission staff, the hearing secretary, for all the consideration you have shown to all the parties in this proceeding and for the opportunity, I might say, to participate in the traditional oral telecom proceeding which is a very rare event these days.

21212 Thank you, Mr. Chairman.

21213 THE CHAIRPERSON: Thank you, Mr. Henry.

21214 We will now turn to each of Aliant, MTS and SaskTel to allow them an opportunity for a few minutes to address aspects of the proposal that are unique to them.

21215 So we will turn to Mr. Stephen for Aliant.

ARGUMENT / PLAIDOIRIE

21216 MR. STEPHEN: Good day, Mr. Chairman and other Commissioners.

21217 During the next few minutes I will recap three issues that I wish to focus on in this final oral phase of the proceeding.

21218 First, I will talk about profit levels and more specifically return on equity or ROE and how it pertains to this proceeding.

21219 Secondly, I will review Aliant Telecom's specific price proposal as it relates to the next price-regulated period.

21220 Lastly, I will provide some comments on the current business environment and what it means for competitors and Aliant Telecom alike.

21221 I will now turn to the matter of profit levels and ROE.

21222 Mr. Chairman, it is Aliant's belief that the key to transiting from a highly regulated environment to a market-based environment is through regulation devolution.

21223 As part of this transference of regulation from a regulatory tribunal to market forces it is imperative that prices be established based on criteria that are free from historical control measures such as rate base and earnings regulation.

21224 As contained in our collective evidence, and reinforced by The Companies panels in cross-examination, we believe that prices should be based on the principles of affordability, development of facilities-based local competition and investment.

21225 However, I am a realist in this matter. I only have to look to the media and the politicians in the Atlantic region and to some of the questions asked of various parties during cross-examination to get a sense that Aliant's earnings may be of interest to some in this proceeding.

21226 Again, I implore the Commission to be guided by The Companies' criteria. Developing an understanding of earnings and, for that matter, earning trends or ROE trends is not a superficial exercise. A superficial approach would mask the underlying reasons for the results and mask the ability to use such information to predict the future.

21227 The Commission, in establishing the Public Notice for this proceeding, has steered away from earnings and ROE assessment and a detailed review of financial results. This direction is endorsed by Aliant. However, I have a sense that some people or parties are reacting to ROE numbers provided in some of the interrogatory responses and without understanding the context of the earnings and ROE.

21228 For example, a number of oral presentations made by the public on October 1st referred to the corporate financial earnings of Aliant. Those results have no particular relevance in that the Commission uses the split rate base methodology to measure an ILEC's ROE.

21229 In terms of split rate base results and the related utility returns, I again caution looking at the trend independent of understanding the drivers of Aliant's utility results. Specifically, the Atlantic telephone companies were significantly impacted by the contribution regime.

21230 For example, during the years 1998, 1999 and 2000 as toll minutes grew due to the introduction of toll plans featuring flat rates and/or large toll minutes allowances, so grew contribution revenue. This growth resulted in the "utility" segment earnings growth. In fact, the contribution element of the total utility earnings was significant.

21231 While utility results therefore rose, it is important to understand that the non-utility segment of the business paid a substantive amount of that to the utility side. In other words, the shareholder did not reap many of the benefits of the returns generated by the utility segment due to contribution costs in the non-utility segment.

21232 In sum, it is not a valid assumption that utility returns necessarily flow to the shareholder.

21233 The final point I would like to offer with respect to regulated utility results is the need to normalize for the CRTC's contribution and banding decisions which will radically reduce earnings in 2002 and beyond.

21234 In 2002, the reduction to Aliant's utility ROE, due to those decisions, is expected to be a minimum of 5 to 6 percentage points.

0930

21235 The second issue that I will talk about is our price proposal. Aliant Telecom has proposed that it should get certain pricing flexibility that is specific to its own situation. That said, apart from the adoption of the flexibility that could result in a $25 rate across the region for residential customers, our proposal is generally consistent with other ILECs.

21236 In brief, we are seeking the ability to recover inflation in the non-high cost areas and in the high cost areas we are seeking the ability to rebalance each year between subsidy and consumer prices on a fairly modest basis. Given the congruence in those elements of our proposal, my additional comments pertain to moving prices to $25.

21237 One of the more frustrating realities about rigid regulations is that they can inhibit efficiencies, inhibit normal business developments and retard simplicity. The structure of the rules is such that to gain uniformity across similar bands or rate groups across the Atlantic region is either not possible or would take many years. The options to achieve similar prices across similar bands can only be realistically achieved through this proceeding. I will review the options so that you get some sense of the rigidity of pricing models.

21238 We could in theory reduce prices in Nova Scotia and increase them elsewhere to achieve an average price. To do this, however, reduces prices further away from their costs in some bands in Nova Scotia, and it increases the subsidy requirement, which does not make sense nor is it consistent with Commission rulings.

21239 Alternatively, assuming that we are allowed to recover inflationary costs, we could increase the prices as per the yet to be determined rules, and perhaps in many years from now we could achieve price parity across the region. At issue is our ability to manage our prices so that we can charge similar customers similar prices across our serving territory. Generally other ILECs have been allowed to do this.

21240 To close on this issue I offer the following thoughts:

1. We are asking for a price which by all standards is all reasonable and affordable.

2. The comparability of prices across Canada indicates that a $25 rate is not unjust nor out of the ordinary for the service offered.

21241 In conclusion, I am asking that the regulatory pricing rules allow for some degree of accommodation so that Aliant Telecom can achieve better service levels and efficiencies.

21242 The final issue that I will raise is the current business environment. All commercial entities are under seige -- some to more or less extent than others -- but it is a reality. Competitive threats, declining prices and margins, financial uncertainties, capital market uncertainties and economic uncertainties characterize the environment.

21243 The economy is very clouded. It's unclear and increasingly becoming concerning. The fall in economic signals, fears of prolonged recession, and the current business and economic turmoil provide plenty of reason for regulatory caution.

21244 The health of our industry is very open to question. We know that many of the new entrants have had insufficient resources to weather the early stations of an economic downturn which started earlier this year. Of grave concern is a regressive regulatory pricing regime that flushes revenues out of the system and forces margins down due to regulatory fiat. Of equal concern is a regulatory regime that attempts to sustain or develop competition at the cost of the ILECs. Transferring the financial problems of the entrants to the incumbents is unsound policy. Such regulatory models, coupled with the general economic, state could undermine the health and sustainability of the industry.

21245 That concludes my comments, Mr. Chairman. Thank you.

21246 THE CHAIRPERSON: Thank you, Mr. Stephen.

21247 We will now turn to Mr. Bruckshaw for MTS.

ARGUMENT / PLAIDOIRIE

21248 MR. BRUCKSHAW: Good morning, Mr. Chairman.

21249 The position of MTS on issues within the scope of this proceeding is the same as that of The Companies.

21250 MTS' position and arguments are detailed in the common evidence and the common argument which has been or will be filed today on MTS' behalf by Bell Canada.

21251 There are, however, three company-specific areas that MTS wishes to take the opportunity to focus on this morning.

21252 These are, first, MTS' service improvement plan, including the reasons it should be approved by the Commission. Second, the question of quality of service in MTS in several remote communities that are served by satellite which MKO has raised in this proceeding, and, thirdly, the need for a solution and the proper treatment for MTS' Band D.

21253 Dealing first with MTS' service improvement program. Decision 99-16 directed companies to file service improvement plans using least-cost technology to meet the Commission's new basic service objective in this proceeding.

21254 MTS meets the Commission's new basic service objection almost everywhere in Manitoba. One exception that exists are communities that are currently served by MTS' analog microwave radio system. Another are the very few communities that are served by satellite.

21255 MTS' analog and subscriber radio and the underlying switching equipment that is part of this system is not capable of supporting low speed access to the Internet at local rates. MTS' SIP is designed to correct this.

21256 Mr. Chairman, MTS has proposed a major service improvement plan to upgrade its analog radio system and existing switching equipment in these communities to digital capability in order to meet the Commission's basic service objective requirements and to improve the reliability of the service MTS provides in these remove communities.

21257 The capital cost of this undertaking is close to $55 million. This is a very significant undertaking for MTS.

21258 We are upgrading a system that spans significant distances over areas that are sparsely populated and very difficult to access, where there are no roads and crews must be flown in. Equipment and facilities must be brought into these communities, in most cases over winter roads.

21259 As a result of the significant upgrades which MTS has proposed in its service improvement plan in this proceeding, 99.7 per cent of MTS' NAS will meet the Commission's basic service objective within the next price cap period. This would leave those few communities that are served by satellite without toll-free access to the Internet. These communities do, however, have access to the Internet via toll call at present.

21260 The Company has demonstrated that there is simply no economically feasible solution using current technology at the present time that will permit toll-free access to the Internet via current satellite technology. Accordingly, similar to other companies, these few communities are not included in MTS' SIP.

21261 Mr. Chairman, I would also note that residential customers in these communities pay only $20.30 for basic service that costs on average over $85 to provide. And, that presently through MTS these communities also have access to unlimited long distance calling under MTS' first rate plan for $17.95 a month, which can be used for both voice as well as Internet calling should they so desire.

21262 Mr. Chairman, MTS' analog radio system and related equipment must be upgraded without delay. Any delay would place quality of service to many communities in Northern Manitoba at risk going forward.

21263 The Commission is aware that much of the existing equipment and facilities is manufacture discontinued, is proving difficult to maintain and currently operating at capacity in several communities which has already impacted requests for service.

21264 Mr. Chairman, MTS has also identified that if granted the pricing flexibility it has requested, MTS, like other companies, is not seeking any additional cost recovery through its rates for SIP costs incurred in its high-cost or non-high cost bands.

21265 MKO has indicated that they wish to request that the Commission not approve and delay MTS' service improvement plan. The essence of MKO's complaint was that they were not consulted by MTS prior to the MTS' SIP being filed with the Commission, and underlying this concern appears to be a suggestion that MTS' SIP should include provision for access to high-speed rather than low speed Internet.

21266 Mr. Chairman, with all due respect to MKO, MTS disagrees.

21267 MTS submits that it is appropriate that MTS' SIP be approved by the Commission as filed for the following reasons.

21268 MTS' proposed upgrades are in 83 SIP communities. Not all of these communities are MKO communities. Upgrades of the facilities in one community in various cases directly effects improving service in other communities given the inherent nature of the microwave radio system that services large areas of Northern Manitoba.

21269 As I previously mentioned, the Commission is aware that much of the equipment requiring upgrade is manufacture discontinued, is difficult to maintain and in certain communities currently operating at capacity which has already impacted the ability to fulfil requests for service.

0940

21270 MTS' sip is considerably different than the SIP of other telephone companies in this proceeding. Other companies are eliminating party line service, revising existing rates to incorporate EAS charges or introducing service where no service previously existed. The upgrades proposed by MTS' SIP are to existing equipment and facilities.

21271 Consultations with customers are not generally undertaken by telephone companies when upgrading existing equipment and facilities. Provision of high-speed Internet access is not part of the basic service objective, nor is it an issue within the scope of this proceeding.

21272 Prior consultation by MTS with MKO first nations would not have altered MTS' SIP.

21273 Moreover, it should be noted the upgrade of existing facilities proposed by MTS' SIP will resolve concerns previously expressed by MKO in previous proceedings.

21274 In summary, Mr. Chairman, there is pressing need and every reason for MTS' SIP to be approved as filed.

21275 Mr. Chairman, that brings me to the second area: Quality of service.

21276 MKO has questioned quality of service provided to MTS' satellite communities.

21277 I do not propose spending much time on this topic.

21278 Mr. Chairman, I assure you that MTS has a long history of providing high quality services throughout Manitoba.

21279 MTS submits that no conclusions can be drawn concerning the overall quality of MTS' exchange services based on MKO's evidence in this proceeding.

21280 Mr. Smith, the author of MKO's 2001 survey of satellite communities, himself makes no claim to scientific accuracy of his survey. To this we can agree. Mr. Smith's survey results are, at best, anecdotal and are simply based on incomplete facts.

21281 For example, recent investigations, within the last several weeks, including on-site visits and personal interviews with users, as well as testing by MTS, have disclosed additional facts of which Mr. Smith was unaware.

21282 As already identified, in some cases, the "static" described by Mr. Smith and by some of those he interviewed has been due to poor quality customer-owned equipment and not MTS' network.

21283 In other cases, "dropped calls" were not the result of MTS' network, but users' lack of familiarity or inexperience in the use of their PBX equipment features.

21284 In yet other cases, "blocked calls" have not been the result of MTS' network, but rather the local administrator responsible for an agencies' service implementing call blocking to limit long distance calling, or to prevent unauthorized users from making long distance calls without an access number.

21285 As I identified two weeks ago, in efforts to ascertain to what extent unreported service problems exist in these satellite communities, and to correct such problems if any do exist, MTS has visited most of the communities and plans to visit the remainder this week, to re-verify the operations of its network equipment, meet with users, identify the source of problems or concerns, and to isolate and correct any problems that may exist.

21286 In addition, MTS also intends direct communications with the communities to ensure customers are aware of the importance and methods to contact MTS should they have any questions, concerns or any problems with their service in the future.

21287 The Company expects these efforts will resolve any problems in these communities.

21288 Mr. Chairman, I wish to assure you and this Commission that quality of service to satellite communities is not an issue which the Commission need consume any valuable time in this proceeding.

21289 I will now turn briefly, Mr. Chairman, to my final area of comment: The current situation and proper treatment of MTS' Band D.

21290 MTS has proposed the same constraints apply to its Band D as proposed for its high-cost bands.

21291 Realities associated with MTS' Band D need to be recognized by the Commission.

21292 MTS' Band D is significantly below cost and non-compensatory.

21293 Evidence in this proceeding demonstrates that MTS' Band D cost in some cases is similar to and in other cases higher than other companies' high-cost bands.

21294 To treat Band D similar to other non-high cost bands is inappropriate and would be unreasonable.

21295 MTS' proposal would limit any increases in Band D to $2.00, which is less than the current 10 per cent limit under the existing regime. Treatment of MTS' Band D in this manner would avoid customer confusion that might otherwise arise by different rates for different rural exchanges in Manitoba.

21296 Mr. Chairman, at current rates, there is little incentive for competitors to enter that market. It is therefore important that flexibility be provided to permit those rates to move closer to underlying costs in an orderly manner and to provide conditions necessary for the development of local competition in those areas.

21297 Should the Commission wish to treat MTS' Band D similar to other non-high-cost bands, the Commission should, in that case, exempt MTS' Band D from any revenue charge assessments under the new subsidy regime, given its Band D is non-compensatory yet not receiving the benefit of any subsidy from the national fund. It would seem inappropriate for revenues that do not recover their underlying cost in such circumstances to be taxed under the Commission's regime.

21298 Mr. Chairman, Commissioners, an elaboration of the issues I have addressed, together with the other requests of MTS, are contained in the common written argument of The Companies which will be or has been filed with the Commission secretary and served on all parties.

21299 That concludes my comments on behalf of MTS Communications Inc. this morning, Mr. Chairman.

21300 THE CHAIRPERSON: Thank you, Mr. Bruckshaw.

21301 We will turn now to Mr. Meldrum for SaskTel.

ARGUMENT / PLAIDOIRIE

21302 MR. MELDRUM: Good morning and thank you for the opportunity to speak on these issues of importance to the industry and Sasktel.

21303 One might very well ask why SaskTel returned to the hearing to present final argument, given that SaskTel is generally aligned with most of the proposals of the companies, little interest has been displayed in Saskatchewan by those competitors participating in this proceeding, and little interest has been displayed by Saskatchewan consumers in our pricing proposals.

21304 Despite the seeming lack of interest, this proceeding is very important to SaskTel and our customers.

21305 In addition, there are a number SaskTel and Saskatchewan-specific issues that have been raised through our separate supplementary submission and the interrogatory process.

21306 I would also note that section 7(a) and (b) of the Telecommunications Act state that policy objectives are to consider regional elements, both in terms of the development of the telecommunications system itself and the provision of reliable and affordable telecommunications services.

21307 The regional elements of this country present particular circumstances that influence the attainment of telecommunications policy goals. The Commission has a duty to make certain its decision will work for all parties in all regions of the country.

21308 To that end, I am here today to speak to the SaskTel-specific issues raised in this proceeding.

21309 I will also offer some comments on our perspective regarding the competitive issues that have been taking a dominant role in this proceeding.

21310 First of all, Saskatchewan-specific issues.

21311 I will stat with a discussion of SaskTel's specific proposal regarding local rates.

21312 SaskTel has proposed pricing constraints that are closely aligned with those of The Companies, while taking into consideration some issues unique to our marketplace.

21313 Firstly, there is the pace of local residential rate increases that have occurred in the recent past. These rates have increased by nearly 75 per cent over the last four years as our rates have been rebalanced and moved closer to cost.

21314 Secondly, there is the fact that Sasktel is one of the few companies that currently charges its customers for excess mileage and extended area service. Approximately 45 per cent of our rural residential customers pay excess mileage charges, bringing their basic monthly rate to as much as $26.50 per month. For those rural customers who also have extended area service, their existing monthly rate may be as high as $32 per month.

21315 Finally, there are the economic conditions facing our province. Farm incomes continue to fall in Saskatchewan and much of the province has experienced the worst drought in decades. Added to this is the current economic downturn. It is accepted that a recession is upon North America and even the optimists seem to be pessimistic.

21316 It is against that backdrop that we have proposed to continue to the rate freeze currently in place in Saskatchewan for 2002. In 2003, we propose to eliminate all excess mileage charges, at which time we would have the flexibility to introduce modest local rate increases.

21317 Thus, beginning in 2003, in non-high-cost areas, increases would average no more than the rate of inflation. Within high-cost areas, residential rates would go up by no more than $2.00 per month for each of 2003 through 2005, resulting in an ending rate of no more than $28 per month. For those customers charged for extended area service, the final rate would be no more than $33.50 per month.

21318 We believe that our local residential rate proposal in high-cost areas has achieved a balance between: the needs of our customers on the one hand; and the desire to move rates closer to cost in high-cost areas, so as to reduce the size of the national high cost fund.

21319 Were we to have been any more aggressive in our proposal for residential service in high-cost areas, we would likely have seen negative feedback similar to what we have heard from some other areas of the country, and had we proposed anything less those net payers into the national fund would have been very unhappy.

21320 Given the relative solitude being experienced from both sides of the debate, I would suggest that our local rate proposal is reasonable and should be approved.

21321 Before turning to business rates, I want to underscore that SaskTel's high-cost rate proposal has been made as part of our commitment to national policy goals. Any financial benefit to SaskTel of increasing rural residential rates is very small, since the subsidy that we draw from the fund decreases by an equal amount as the increased rates. The only financial benefit comes from SaskTel paying a marginally lower assessment into the high cost fund.

0950

21322 Turning to business rates in high-cost areas, single-line business customers currently pay a rate of only $28.50 per month. This rate is far below the associated cost and far below the rate currently charged in urban centres in Saskatchewan or elsewhere in Canada.

21323 We have proposed to implement explicit rate action designed to move these rates closer to cost and to isolate this service within a separate price cap basket.

21324 We view a separate basket and set increases as being necessary to effect proper pricing since placing such a below cost service in a broader basket would tend to skew the pricing of the other services in that basket.

21325 We also believe that eliminating the business subsidy is consistent with the policies of the CRTC and will lay the foundation for competitive entry in the future.

21326 Turning now to our SIP proposal.

21327 There are no unserved areas in Saskatchewan and as few as 200 residential customers who are underserved. Those underserved customers are widely dispersed throughout the farthest northern regions of Saskatchewan and, in our view, the only reasonable means of serving these customers is by satellite.

21328 Given these customers reside in the most remote, most dispersed of high-cost areas, it is not surprising the cost to serve these customers is exceptionally high on a per-customer basis. SaskTel has estimated the cost of serving these customers to require a subsidy of more than $6,000 per line per year versus an average subsidy of $450 per line per year for the rest of SaskTel's Band G customers, which would likely make these the most subsidized local services in Canada.

21329 Certainly it is the Commission's prerogative to reject SaskTel's SIP if the per-customer costs are considered to be excessive. In so doing, the Commission would need to acknowledge that a BSO standard of service cannot practically be extended to the hardest to reach Canadians, at least at this time.

21330 What should not be subject to choice or debate, however, is how the SIP programs proposed by SaskTel and other ILECs will be funded.

21331 It is our view that the national subsidy fund was established for the express purpose of providing subsidy support to those service providers extending and maintaining BSO level service in high-cost areas.

21332 Those portions of the SIP programs associated with high cost areas should therefore be added to the national subsidy requirement. To do otherwise is inconsistent with the very foundations upon which the national fund was established.

21333 SaskTel remains strongly supportive of the Commission's decision to establish a national revenue-based subsidy mechanism that targets subsidy support to high-cost areas. As was noted in your contribution reform decision:

"...a nationally-based mechanism would ensure competitive equity and more easily attain social policy objectives".

21334 We agree with the Commission's conclusion. Under the framework that has been put in place, residential customers in high-cost areas would be assured BSO level service at an affordable price.

21335 Service providers in high-cost areas would be appropriately compensated via the subsidy mechanism.

21336 Consistent with the Commission's conclusions, the portable nature of the subsidy, if properly maintained, would encourage competitors to enter high-cost areas in the longer term.

21337 The cost of attaining these social policy objectives is, of course, the revenue charge paid by all industry participants.

21338 As evidenced by the pricing proposal we have placed before the Commission, our company has supported the goal of increasing rates in high-cost areas in order to decrease the size of the national fund and thus the revenue charge.

21339 However, we are extremely concerned with some of the proposals placed before the Commission in this proceeding which, if approved, would result in what can only be described as arbitrary and non-economic reductions to the high-cost fund.

21340 For example, certain parties have proposed that a uniform national rate be established for residential service in high-cost areas, and that the subsidy fund be reduced by this approved rate regardless of whether the service provider could practically implement the national rate.

21341 Other parties have proposed that the subsidy fund be reduced by productivity offsets that far exceed what could be reasonably attained in high-cost areas or, even worse, that the fund be reduced by productivity gains expected to be achieved in other market segments.

21342 SaskTel urges the Commission to remain true to its high-cost decision, recognizing the longer term benefits of a sustainable subsidy mechanism that provides no more and no less than what is required to support affordable and quality service to high-cost areas, versus the proposal to reduce the fund simply for the purpose of reducing the amount of the levy, without regard to the original policy goals of the fund.

21343 This takes us to the last important issue where SaskTel has put forward a unique perspective, the issue of the productivity offset in high-cost areas.

21344 As part of our initial price cap submission on May 31st, we put forward the position that 0 per cent productivity offset should be applied within the annual subsidy recalculation. As discussed within our evidence, it is our view that the Phase 2 costs of residential service that will be used to calculate the subsidy requirement already incorporate very challenging productivity and revenue growth targets.

21345 Our initial position was not based on the productivity that could reasonably be achieved in high-cost areas, but rather simply the argument that productivity gains have already been taken into account in the banding decision. However, later work that we conducted in concert with Dr. George Hariton and that was filed at this hearing, identifies a number of factors limiting the opportunity for productivity gains in high-cost areas of Saskatchewan.

21346 These challenges include: rural depopulation, increasing costs of copper loops, and increasing maintenance costs.

21347 This analysis provides compelling argument that there is little, if any, opportunity to achieve overall productivity gains in high-cost areas with Saskatchewan's characteristics.

21348 A number of parties have acknowledged that, at a minimum, the opportunity to achieve productivity gains is less in high-cost than in non-high-cost areas. Unfortunately, no party has been able to reasonably quantify what the achievable productivity offset might be for these areas.

21349 As the Commissioners may be aware, the FCC recently established a 0 per cent productivity offset for rural telephone companies, based in part on their inability to calculate an achievable offset.

21350 Turning to our perspective in other issues in this proceeding.

21351 Many of the challenges to The Companies' price caps proposal seem to have been on the premise that there is little risk that The Companies won't be financially successful if their proposals are accepted.

21352 I can't speak for the other ILECs, but my personal view is that the economic outlook for SaskTel has changed considerably over the past six months. Continued drought, the impacts of the war on terrorism and the serious economic downturn in North America are all significant risks over the term of this price cap proposal, risks that we are prepared to absorb as part of our proposal.

21353 Yes, there are potential rewards, but there are also risks inherent in our proposals, a fact that should be kept in mind in your deliberations.

21354 Our views on local competition.

21355 CallNet and AT&T present the argument that local competition has failed to progress in Canada and implore the Commission to take actions which they claim will rectify this situation.

21356 While we are in agreement that these two competitors have made little if any inroads in local competition in Saskatchewan, we do not agree that this is a situation that dictates some remedial action by the Commission.

21357 It is our strong belief that, ultimately, SaskTel's major local competitors will be cable television companies and, to a lesser extent, the existing wireless carriers.

21358 It is notable that the two companies which we view to be SaskTel's strongest competitors, namely Shaw Communications and Access Communications, are not even participating in this proceeding. They both have very modern broadband networks in all of the major centres in Saskatchewan and, in our view, fully intend to compete in the local telephone business.

21359 It is clear that today they are focusing their energies on the high-speed internet market and doing very well at it, as shown in Table 4.7 of the Commission's report on the Status of Competition, When the time is ripe, they will leverage their successes in high-speed internet to offer IP-based local telephone service.

21360 In Saskatchewan it will likely be the cable companies that will become the full-fledged facilities-based competitors and it is our expectation that this will occur during this new price cap period.

21361 At times, the advances by EastLink Cable in Aliant territory have been trivialized by the competitors. While EastLink obviously chose not to wait for IP-based local telephone service, they have, in our opinion, garnered much success in both the residential and business markets that they have entered. It is a prime example of facilities-based local residential competition that is working and which can be easily duplicated elsewhere. No wonder attempts have been made to trivialize it.

21362 In our view, there are five distinct categories of competitors that will be competing for local service in the future. They are: the ILECs in their home territory; the ILEC affiliates competing outside of their home territory'; the wireless service providers; the cable companies; and the CLECs.

21363 Of these competitors, only the CLECs are saying they need subsidies to survive, and even they aren't unanimous in that request. Surely it is not up to the Commission to help some of the CLECs make their business case by changing the rules of competition, given that five competing business cases still exist to provide local telephone service.

21364 It is, in our opinion, far too early to say that local competition has failed in Canada and regulatory intervention is required. Both Bell Canada and TELUS are vigorously pursuing telecommunications opportunities in each other's traditional territories, and now even SaskTel has joined the fray with its purchase of RSL Communications which competes in British Columbia, Alberta, Ontario and Quebec.

21365 These competitors are no less competitors simply because they are ILECs in their traditional territory. The benefits of competition will still accrue to the Canadian public if, for example, it is Bell Nexxia or RSL that are successful in Alberta rather than CallNet.

21366 Not surprising, we have strong views on discounts to competitors.

21367 We are adamantly opposed to providing discounts or, as we prefer to call them, subsidies that will incent non-economic entry into our marketplace.

21368 When long distance competition was introduced to Saskatchewan, subsidies were not provided to competitors. The competitors still came, their business case presumably driven by the margins in long distance.

21369 We note that while there is no local competition in Saskatchewan today, the competitors have asked for a discount on the services that we currently provide to them. CallNet for example has proposed that competitors in Saskatchewan be provided with a discount of approximately $10 million per year for services that are not used for local competition one iota. The services are currently obtained from SaskTel to provide services such as private line, data and long distance. To scope this $10 million number for you, SaskTel's utility profit in the year 2000 was only $56 million.

21370 As a company we are at a loss as to why a subsidy should be provided to these competitors on services that are not used for local competition and that they have been purchasing from us for years. It is especially alarming given that for the foreseeable future neither of these companies is likely to make the investment required to offer their version of facilities-based competition in Saskatchewan.

21371 Finally, we question the extent to which the request for discounts is even consistent with federal government policy statements. The Government of Canada's convergence policy states that:

"It is Government policy to foster fair competition and an increased reliance on market forces in the provision of facilities, products and services."

21372 We do not believe that the proposals of CallNet and ATT are consistent with this policy statement, since discounts will not foster fair competition and will upset the market forces that currently exist between the five categories of facilities-based competitors.

21373 In closing, I would like to thank the Commission for your time and attention. I hope that I have given you some food for thought on Saskatchewan specific issues and I wish you the best in your deliberations.

21374 THE CHAIRPERSON: Thank you, Mr. Meldrum.

21375 We will now turn to TELUS, and once TELUS has completed we will take our morning break.

21376 Mr. Lowe.

ARGUMENT / PLAIDOIRIE

21377 MR. LOWE: Thank you, sir.

21378 Good morning

21379 Well, things have changed a great deal since we were here for the last price cap hearing. TELUS now appears before you as both an incumbent and as an entrant building facilities and entering new markets outside of Alberta and British Columbia.

21380 You are looking at an entirely different industry. Unlike last time, you are not looking at the possibility of competition: You are looking at actual competitive entry in all telecom markets.

21381 There is no more Stentor. ILECs are competing in each other's traditional territories, with other competitors both at home and in other geographic markets. You are looking at competition in retail markets and, very importantly, you are looking at vibrant wholesale competition.

21382 This is a remarkable transformation and you should take a great deal of satisfaction in knowing that it is your policies that have made this transformation possible.

21383 Now you find yourselves at a crossroads. You will have some vestiges of the past to deal with: the public utility obligation to serve, the regulatory just and reasonable rates standard, affordability issues and the regulatory bargain. You have rates that will require tariff regulation probably extending to the next price period. Finally, you have the remnants of a regulated rate structure with unsustainable implicit subsidies that cannot serve you well going forward into a world of competitive markets.

21384 Juxtaposed against the remnants of public utility regulation, you have competition rolling out and markets increasingly making decisions over prices, profits and quality which were once your exclusive domain.

21385 How you move the industry forward in this proceeding is critically important for Canada. How do you balance the temptation to hang on to past regulatory models with the need to ensure that competition -- real competition -- can evolve and grow? In this environment, how do you balance the interests of consumers, competitors and incumbents in a way that does not divert you from the Canadian telecommunications policy objectives?

21386 These were the issues we confronted too, when we set out to develop our proposals in this proceeding. We looked at where regulation has come from, where we are going and attempted to find the next logical step for the evolution of competition and regulation.

1005

21387 We didn't sit in the back room and come up with something for TELUS. We sought the advice from many people -- some of whom appeared at the hearing -- to come up with a sound principled framework to help you move industry forward.

21388 The TELUS proposal was built on the Commission's accommodative entry policies: interconnection, unbundling of essential and near-essential facilities, local number portability, collocations and the advances made by the industry in the CISC process you sponsor.

21389 We saw that the policies are working. Despite some hiccups along the way, we are confident that these polices will allow the industry to continue moving forward.

21390 You heard Mr. Towner talk about how wholesale competition affects the way his group delivers services to competitors, not just services where he experiences direct competition now. The foundation is strong and it is not just your policies that are contributing to the strength. Competition in the wholesale market is also contributing to ensure that your accommodative entry policies are working.

21391 We looked at the effect of the last price cap plan on retail rates. It is plain that the implicit subsidies in business rates were effectively removed through the pricing rules and X factor in that plan. While we certainly support the removal of implicit subsidies, it appears that the price cap plan forced rates in the business single-line and multi-line basket, as well as the other services baskets, to levels below competitive market levels.

21392 We also observed that but for the exogenous adjustments residential rates had not risen during the price cap period and remained below competitive market levels.

21393 These two factors led us to the conclusion that retail rates would have to rise if competitive markets are to be given a chance to hold.

21394 So how does the TELUS proposal deal with these issues and meet your needs?

21395 First, for residential customers it recognizes that consumers already have received huge benefits from long distance competition. Penetration rates for basic service have actually increased over the past few years and we believe that low long distance rates have contributed to these increased penetration rates.

21396 We were challenged to put evidence on the record on this point, not just about whether consumers who are using an average amount of long distance services were better off, but also whether customers at the median are better off. They are, both in rural and urban areas.

21397 Nevertheless, we wanted to have the flexibility to raise rates to competitive market levels in a measured way. We also wanted to make sure that we dealt with the affordability issue up front. So we have committed not to raise residential rates to any more than $35 over the price period.

21398 This $35 level is a judgment call. It is based on your decisions and supported by other parties in this proceedings as an affordable level of local rates.

21399 Of course, that doesn't mean the prices will necessarily get there. There are other influences.

21400 We know that competition in complementary services such as long distance, wireless and Internet services will have an effect on our pricing of basic residential services. Indeed, one of the main messages from TELUS' customers responding to the notice we sent out about this hearing was that they would switch long distance, wireless and Internet providers if we raised rates.

21401 But we did hear your concerns, Mr. Chairman, about just and reasonable rates and how that might compare to market prices.

21402 While we believe that market prices are just and reasonable, by definition, in response to an undertaking to Commission Counsel Moore we have offered an alternative for the regulation of residential rates based on a public utility just and reasonable rates standard.

21403 That standard would be measured by company-specific actual Phase 2 primary exchange service costs, plus a company-specific mark-up to allow for the recovery of fixed and common costs and embedded costs. This would mean that residential rates would not be allowed to rise above this company-specific cost level.

21404 While this alternative is unlikely to attract competitive entry as quickly as the $35 standard, it does satisfy the public utility just and reasonable standard and we still need to be careful about how we proceed because of the competitive choices consumers have for complementary services. In time, the costs of competitors will come down through their own productivity improvements and more competition will develop.

21405 So for single line business services, we considered your decision that consumers of these services in high-cost areas would no longer be eligible for a subsidy. Therefore, we have proposed a pricing rule similar to the rule for business pricing changes in the current price cap plan. Single line business rates would be allowed to rise by no more than 10 per cent per year over the price cap plan.

21406 Once again, we believe that competition for complementary services will have a significant effect on our pricing for these services. Business customers use long distance, wireless, data services and Internet. So even when there is no direct competition for services in this basket the power of choice will discipline our pricing. When there is competition in the geographic market, the upward pricing constraint for these services would be removed.

21407 We believe that the market is the band, but it could be larger or smaller and we would have to apply for the lifting of the upward pricing constraint on a market-by-market basis one year after entry in the geographic market.

21408 Of the remaining retail services, some would remain frozen, as they are today, and others would have no upward pricing constraint. All of these services are used by large sophisticated customers who also use services in the complementary markets. That competition alone is enough to discipline our pricing activity. For optional local services, we propose the same rules as are in place now with no upward pricing constraints.

21409 This leaves contribution in high-cost serving areas. It is the sum of contribution and the rates paid by residential customers that represents a fully rebalanced public utility just and reasonable rate in high-cost serving areas. This is where our proposed I minus X formula would apply. We have also stated in response to a Commission interrogatory that there should be no X factor if the Decision 2001-238 costs continue unchanged.

21410 I will not go deeply into the X factor calculation, except to say what many parties to this proceeding have acknowledged: The X factor must match the services in the basket.

21411 We believe that if competition is to be given a chance, the X factor must be set properly. It must reflect historical productivity trends for the services in the basket and, given the evidence of Bell's costs as they were revised, as well as the other work performed by Dr. Bernstein in the TELUS Quebec case, we believe it is time to move to company-specific X factors. The differences between companies and operating territories are just too great.

21412 As you should be aware, we are firmly of the view that an I minus X price cap formula should not be applied to the whole utility segment. But once again, whenever you apply the "X" it must apply to the services in the basket. A company-wide total productivity approach will simply prevent prices from reaching competitive levels and will deny the company any reasonable opportunity to recover its obligation to serve costs for the capped services.

21413 There is lots of evidence on the record to help you determine an appropriate X factor. There is Dr. Bernstein's marginal cost approach, there is evidence of the X factors chosen in the United States for local exchange companies. In addition, Dr. Bernstein has provided you with a top down approach that begins with the company-wide TFP and makes adjustments to account for the unusual toll minute growth in the last price cap period.

21414 We invite you to consider this evidence carefully. The size of the X factor and where you apply it can have a significant effect on the potential for competition to develop and the health of the entire industry.

21415 We urge you not to use the X factor as a tool to create deferral accounts, wipe out contribution requirements where they are needed, or even just move revenues around to perpetuate implicit subsidies.

21416 The day of public utility price cap plans is over. It is time to move forward with a price regulation plan that fits an environment of rapidly developing competition and the need to allow prices to move to market levels.

21417 This brings us to competitor services. As I said at the outset, your accommodative entry policies are working, including your long-standing policy for establishing rates for unbundled facilities using actual Phase 2 company-specific costs and mark-ups designed to allow an opportunity to recover fixed and common costs and embedded costs.

21418 As TELUS has said often in this proceeding, competitor services rates are the foundation of the whole pricing system. If they are too low facilities-based competition at both the retail and wholesale levels will be stifled as retail prices spiral downwards. They cannot be included in the same basket as any retail services or as a sub-basket of an overarching I minus X formula. They are different and require different treatment.

21419 We recognize the frustration with the current rules for changing competitor services. While we think they are still the right rules, we have said that a service-specific X factor for competitor services could be developed if necessary.

21420 But prices can't be too high either. We have no incentive to set our own prices too high and we do not want to pay prices that are too high. We want prices for essential facilities and near-essential facilities set at company-specific Phase 2 costs plus a mark-up. That is why we have called for an ILEC-by-ILEC audit of Phase 2 costs and mark-ups. Phase 2 costs are the underpinning of prices for competitor services and they are the underpinning of the new contribution mechanism.

21421 We must have company-specific costs. There is no room for national averages or national rates. The old Stentor settlement plan is no longer out there to smooth out the applications of national average costs and rates. There is not one ILEC. There are at least five ex-Stentor companies, depending on how you count them. Territories are different, densities are different, costs are different and competitors do not compete against one national ILEC, they compete at both the wholesale and retail levels against the costs of the individual ILECs in their individual operating territories.

21422 We also recognize that transparency is an important issue. That is why we are proposing that ILECs, competitors and consumers be permitted to send an independent representative to observe the audits along with CRTC staff experts, all of course under the protection of confidentiality agreements. The objective is to get consistency in Phase 2 costing methodology so that prices and subsidies can be properly set for each company. This proposal is more fully set out in our written argument.

21423 Turning for a moment to some of the other proposals, there is no justification for discounts of any kind, either through the manipulation of cost calculations or the explicit disallowance of elements of a mark-up. The whole notion was discredited in the cross-examination of AT&T and CallNet. It doesn't matter whether the discounts are 13 per cent, 20 per cent, 40 per cent, 60 per cent or 100 per cent, as CallNet seeks for loop service charges. And it doesn't matter what you call them: a discount is a discount.

21424 Discounts will get entrenched, they will drive retail prices down, create financial challenges for industry and strand the investment of companies like GT Group Telecom and TELUS' investments in Ontario, both of whom have relied upon the Commission's consistent application of its pricing policies. Discounts risk leaving you with a distorted and unhealthy industry when we next meet.

21425 We ask that you not be diverted from your objective of facilities-based competition by offering discounts.

21426 Mr. Chairman, we feel compelled to address a false impression that some parties have tried to perpetuate in this room and elsewhere and that is: There is no pot of gold to be doled out around the telecom table. Despite opportunities and even invitations to do so, neither competitors nor consumers cross-examined TELUS on its reported utilities segment earnings and the effect on TELUS of the contribution decisions.

21427 If there was a pot of gold, the competitors have already got it. Just by moving to a revenue charge they saved $187 million a year in 2001 and by moving to Phase 2 plus a mark-up calculation for contribution they save even more in 2002.

21428 In total, recent decisions amount to $325 million per year of benefits to entrants and there is no sign that they will stop coming back. They are already back in this proceeding. We urge you not to accede to their requests and open the door for more. Their mistakes in the market are their own responsibility.

21429 In closing, Mr. Chairman, we recognize that you have a very difficult task. That is not new to the Commission. When you transform an industry, you create new challenges that you have never had to consider before. We believe we have provided you with a framework to move forward to an even more competitive environment and to do so in a measured and orderly way.

21430 We commend the TELUS proposal for your consideration and wish you the best in your deliberations.

21431 I would like to thank you, Commissioners, for your attention and courtesy during the hearing, and also Commission staff and Commission counsel, Mr. Secretary, and the court reporters for some excellent transcripts during long hours.

21432 Thank you, sir.

21433 THE CHAIRPERSON: Thank you, Mr. Lowe.

21434 We will take our morning break now, then, for 15 minutes.

21435 We will return with ARC et al and then BCOAPO and then we will go to the teleconference.

--- Upon recessing at 1023 / Suspension à 1023

--- Upon resuming at 1040 / Reprise à 1040

21436 THE CHAIRPERSON: Ladies and gentlemen, before we return to ARC, I will have the secretary now enter a number of exhibits or responses to undertakings I guess they are.

21437 Mr. Secretary.

21438 MR. SPENCER: Thank you, Mr. Chairman.

21439 I have 14 documents.

21440 The first document is The Companies response to undertaking requested by Commissioner Cram, transcript reference, Volume 4, paragraphs 6948 and 6959 will be introduced as The Companies Exhibit No. 77.

EXHIBIT NO. THE COMPANIES 77: The Companies response to undertaking requested by Commissioner Cram, transcript reference Volume 4, paragraphs 6948 and 6959

21441 MR. SPENCER: The Companies response to undertaking requested by Commissioner McKendry, transcript reference, Volume 7, paragraphs 11371 and 11388 will be The Companies Exhibit No. 78.

EXHIBIT NO. THE COMPANIES 78: The Companies response to undertaking requested by Commissioner McKendry, transcript reference, Volume 7, paragraphs 11371 and 11388

21442 MR. SPENCER: The Companies response to undertaking requested by Commission counsel, Ms Moore, transcript reference, Volume 7, paragraph 12498 will be The Companies Exhibit No. 79.

EXHIBIT NO. THE COMPANIES 79: The Companies response to undertaking requested by Commission counsel, Ms Moore, transcript reference, Volume 7, paragraph 12498

21443 MR. SPENCER: The Companies response to CRTC Exhibit No. 27 will be The Companies Exhibit No. 80.

EXHIBIT NO. THE COMPANIES 80: The Companies response to CRTC Exhibit No. 27

21444 MR. SPENCER: The Companies response to CRTC Exhibit No. 33 will be The Companies Exhibit No. 81.

EXHIBIT NO. THE COMPANIES 81: The Companies response to CRTC Exhibit No. 33

21445 MR. SPENCER: The Companies response to CRTC Exhibit No. 38 will be The Companies Exhibit No. 82.

EXHIBIT NO. THE COMPANIES 82: The Companies response to CRTC Exhibit No. 38

21446 MR. SPENCER: Response to CRTC Exhibit No. 35 will be The Companies Exhibit No. 83.

EXHIBIT NO. THE COMPANIES 83: Response to CRTC Exhibit No. 35

21447 MR. SPENCER: We also have MTS response to undertaking requested by Commission counsel, Ms Moore, transcript reference, Volume 6, paragraph 1608 which will be MTS Exhibit No. 3.

EXHIBIT NO. MTS 3: MTS response to undertaking requested by Commission counsel, Ms Moore, transcript reference, Volume 6, paragraph 1608

21448 MR. SPENCER: AT&TC response to CRTC Exhibit No. 19 will be AT&TC Exhibit No. 28.

EXHIBIT NO. AT&TC 28: AT&TC response to CRTC Exhibit No. 19

21449 MR. SPENCER: AT&TC response to undertaking requested by The Companies, transcript reference, Volume 11, paragraph 17500 will be AT&TC Exhibit No. 29.

EXHIBIT NO. AT&TC 29: AT&TC response to undertaking requested by The Companies, transcript reference, Volume 11, paragraph 17500

21450 MR. SPENCER: Response to undertaking requested by The Companies, transcript reference, Volume 11, paragraph 18461 will be AT&TC Exhibit No. 30.

EXHIBIT NO. AT&TC 30: Response to undertaking requested by The Companies, transcript reference, Volume 11, paragraph 18461

21451 MR. SPENCER: The last one is AT&TC response to undertaking requested by Commission counsel, Ms Moore, transcript reference, Volume 12, paragraph 18716 which will be AT&TC Exhibit No. 31.

EXHIBIT NO. AT&TC 31: AT&TC response to undertaking requested by Commission counsel, Ms Moore, transcript reference, Volume 12, paragraph 18716

21452 MR. SPENCER: Thank you.

21453 THE CHAIRPERSON: Thank you, Mr. Secretary.

21454 So with that then, we will now turn to ARC et al.

21455 Ms Lawson and Mr. Van Koughnett.

ARGUMENT / PLAIDOIRIE

21456 MS LAWSON: Thank you, Mr. Chairman. Commissioners.

21457 Thank you very much for the opportunity to present the views of residential telephone consumers in this very important proceeding, the outcome of which will not only effect the development of competition in this industry, but will also determine whether Canadian rate payers, as well as shareholders and competitors, enjoy the benefits of the new regulatory framework that you have worked so hard to construct.

21458 ARC et al and BCOAPO et al have coordinated their arguments in this proceeding so as to avoid duplication. I'm going to begin by addressing the question of how you can best balance the interests of the various stakeholders under the new price cap regime.

21459 Mr. Van Koughnett will then address two key issues for us: the relevance of ILEC earnings under price caps and the appropriate approach to quality of service under price caps.

21460 Ms MacDonald will then focus on the important issues of market theory, consumer information and payphones.

21461 Mr. Chairman, Commissioners, before you start in on your deliberations, you need to decide what this proceeding is all about. Is it about maximizing shareholder value and fostering robust investment in Canadian ILECs as The Companies would have you believe? Is it about getting rid of regulation and relying on economic theory to protect consumers as TELUS would have you believe? Is it about giving competitors a boost so that they can roll out their services more quickly and in more places as AT&T and CallNet have proposed? Or is it about getting rid of contribution as Rogers suggests?

21462 Mr. Chairman, every single one of the industry proposals before you in this proceeding is patently self-serving. They all reflect a profit-maximizing mandate rather than a public interest mandate. Not surprisingly, the ILECs want to keep all the productivity gains from price caps to themselves, while CLECs want those gains to be funnelled their way. Neither of these approaches satisfies the Commission's primary mandate of ensuring just and reasonable rates. Neither will result in healthy, sustainable competition.

21463 As you have stated in this proceeding, the challenge before us is to balance the interest of the three main stakeholder groups: ILECs, CLECs and consumers. Balancing these three interests means ensuring on one hand that ILECs can earn a fair return on their utility rate base. On the other, that CLECs pay fair rates for the ILEC services they need and from the consumer perspective, that consumers pay fair rates for the ILEC services that they need.

21464 In other words, this proceeding is above all about fairness. Fairness for all stakeholders, not just shareholders.

21465 The Companies' notion of an iron triangle of objectives rightly reflects the importance of each of these three stakeholder interests. However, it wrongly characterizes the interests of consumers in this proceeding as affordability.

21466 Investment is another way of saying fair returns to ILECs. Competition is another way of saying fair rates to competitors. But affordability is not the same as fairness. Just because rates are affordable doesn't mean that they are fair. ILEC and CLEC attempts to have you focus on affordability are simply transparent tactics designed to deny consumers their fair share of the productivity gains from price cap regulation. You should not be fooled.

21467 The achievement of just and reasonable rates is surely the most central concern underlying price caps. Rates are not just and reasonable when they result in industry-wide excessive profits as they have over the past few years. They are not just and reasonable when they are established on the basis of consumer tolerance rather than on costs as the ILECs have proposed. They are not just and reasonable when they are maintained at artificially high levels in order to subsidize competition as proposed by some competitors.

21468 In order to ensure that rates are just and reasonable under the price cap regime, two conditions must be satisfied. First the going in rates should provide ILECs with a reasonable opportunity, but not more than a reasonable opportunity, to earn a fair return in the first year of the regime. Secondly, the price cap index should reflect the expected trend in target costs such that ILECs continue to be able to earn a fair return, but no more than a fair return in future years of the regime.

21469 Over the past four years, we have seen ILEC returns soar well above what any investor would consider a reasonable return, while consumers have faced ever-increasing rates and competitors have struggled to survive. Clearly something is wrong with the current price cap regime.

21470 Rates that produce sustained, supernormal returns across the industry cannot be considered just and reasonable. It's time to give something back to residential consumers.

21471 Mr. Chairman, we are at a turning point in Canadian telecommunications. No longer is local residential service subsidized outside of high cost areas. No longer do you have to worry about an unsustainable contribution regime for residential rates in high cost areas. No longer is there any justification for increasing basic residential rates in either urban or rural areas. In fact, the empirical evidence on the record of this proceeding clearly shows that overall revenues from residential local service in non-high cost areas are not only compensatory but highly profitable to the ILECs.

21472 Using the Commission's approved Phase 2 costs of primary exchange service for Bell Canada and allowing for the recovery of service improvement plan costs as well as a 15 per cent mark-up, Bell is making 100 per cent margin on its local residential service in non-high cost areas in 2001. Even using Bell's own new Phase 2 costs, the company is making a 40 per cent margin on these services.

21473 Looking forward, Mr. Chairman, what do we see? We see continued declining costs and continued opportunities for ILECs to increase revenues, even assuming that competitors are able to make inroads into the local residential market.

21474 The time has come to reflect these declining costs in rate reductions for already highly profitable local residential services. If expected productivity gains over the next price cap period are not reflected in residential rates, ILEC profits will simply continue to increase. This would be bad for consumers and bad for competition.

21475 Mr. Chairman, competition is a preferred means to an end. It is not an end in itself. The end is a healthy, efficient industry with low prices and high quality of service throughout the country. If competition merely leads to higher prices, less reliable service and customer confusion, it will have been a failure.

21476 Mr. Chairman, consumers have asked us to tell you that greater choice is not worth higher prices to them. It is your job to ensure that competition is allowed to develop where it is economic, at rates that meet public policy objectives, and at a pace that reflects the reality of this highly capital intensive, technology dependent industry.

21477 As Mr. Grieve has said himself, "facilities-based competition in telecommunications is, by its very nature, slow, expensive and risky." The public interest, Mr. Chairman, will not be served by efforts to prematurely kick start competition where it cannot be sustained in the long term.

21478 Mr. Chairman, Commissioners, you have a choice to make in this proceeding. You can take measures to ensure that residential rates are just and reasonable as costs continue to decline and you can take measures to ensure that residential subscribers receive continued high-quality service. Or you can establish a regime that puts CLEC and ILEC interests ahead of the interests of residential subscribers.

21479 Other stakeholders are calling for an unbalanced distribution of the benefits flowing from price cap regulation. At a time when declining costs and competition are supposed to be leading to lower rates, residential customers are counting on the Commission to do the right thing, to call a halt to basic rate increases and to start flowing some of the benefits of this new regulatory framework to residential consumers.

21480 Thank you, Mr. Chairman, Commissioners. I will pass the microphone over to Mr. Van Koughnett.

ARGUMENT / PLAIDOIRIE

21481 MR. Van KOUGHNETT: Thank you, Mr. Chairman.

21482 I'm pleased to have an opportunity to speak about ILEC earnings because it's something that concerned from the time that I was brought on the case, which as you know was quite late, September 18, and I was briefed at our local Starbucks by a very fluffy bearded economist who works for Bell Canada who shall remain nameless.

21483 And he explained to me that although originally when the price cap regime was first contemplated, not only in this jurisdiction but other jurisdictions, there had been some notion that it was tied to earnings but that I was yesterday's man to think that was still the case. The new regime was, he explained, the price cap regime should not at all focus on earnings.

21484 Well, you did not have the benefit of that particular conversation, Mr. Chairman, but we all enjoyed the benefit of speaking with and listening to Dr. Taylor who basically expressed the same view, suggesting that the Commissioners should exercise caution in looking at earnings.

21485 This troubled me greatly, but one morning, Mr. Chairman, I believe I woke up understanding how to reconcile the competing considerations that have been put before you on this topic. I think it is really quite simply.

21486 If you are absolutely confident, Mr. Chairman, that you set the correct productivity offset the first time round, then what Dr. Taylor says is absolutely correct, it would be profoundly wrong to look at the earnings of the ILECs. If you are confident that you did it right the first time, then it would flow that any above normal earnings by the ILECs would be because of their abilities to take full advantage of economies, to find new revenue streams. They have been brilliant and that is where the extra earnings come from.

21487 But, Mr. Chairman, how can you be confident that you chose the right productivity offset the first time around. Other jurisdictions, and this one too I submit, necessarily chose a conservative number as the productivity offset.

1055

21488 In fact, to use the nomenclature of this case the Commission had an incentive to choose a low number and that is because of the asymmetric consequences associated with choosing the wrong number.

21489 Let me explain. If you choose a low number all that happens is that we meet here today and we speak of high ILEC returns. If you choose too high a productivity offset figure for the first price cap regime the consequences are much worse. The ILEC returns are so low that the ILECs, operating in a very capital-intensive industry, are unable to attract capital on any reasonable terms. This would not be good for the country.

21490 So why is it that we find that in the U.K. and in the U.S. and here the productivity offset figure the first time around was too low? Because the commissions in question were responding to the incentive, and indeed the opportunity, to set a low figure.

21491 It is no great surprise, therefore, that one finds oneself in the position here today where the ILEC returns are high, the CLEC returns -- if any, mostly non-existent -- are extremely low, the total productivity factor numbers are high for the companies. Even the marginal cost approach of TELUS and The Companies shows that the productivity offset factor that was set the first time around was low.

21492 Oftel has moved from a low number to 7.5; FCC has moved from a low number to 6.5. It is no great surprise that in this jurisdiction parties such as ARC et al are suggesting that the Commission should revisit and look to a higher number.

21493 Fine. Why does one then focus one's attention on earnings? Because, Mr. Chairman, you are still the economic regulator you always were. Your job is just and reasonable rates. Section 27 of the Telecommunications Act has not changed, the jurisprudence from the Supreme Court of the United States and from the Supreme Court of Canada has not changed, the shareholders of the ILECs are entitled to a reasonable opportunity to earn a fair rate of return. That is because if you fulfil that part of your job you are achieving, as close as is possible, a simulation of competitive markets.

21494 In a fully competitive market the ILEC shareholders would achieve a rate of return comparable to industries in the unregulated sector. Dr. Taylor and I walked through in gory detail the equation, so to speak, by which rate base rate of return led the Commission inevitably to pay just and reasonable rates to a fair rate of return on average common equity for the ILECs.

21495 That is still applicable today. No one has suggested in developing the price cap methodology that rate base rate of return is out of the window. Quite the contrary, price cap methodology is meant to get to the same place as rate base rate of return with the one exception, of course, that it provides an incentive, for the first time, for the companies to act efficiently. But the ultimate result is supposed to be the same.

21496 Not only is it the case that your statutory duty is to achieve, for the ILEC shareholders, a reasonable opportunity to achieve a fair rate of return, but it is also the case that by focusing on earnings you also benefit customers, because by selecting, as one would in rate base rate of return, an opportunity for shareholders of the ILECs to achieve a fair rate of return, automatically it flows from the equation that declining costs mean declining prices for consumers.

21497 Not only is that true but it is also fair to the third constituency identified in the Public Notice, namely the CLECs, for it diminishes the size of the war chest that the ILECs have, according, therefore, an opportunity to the CLECs -- a level playing field, an opportunity to compete.

21498 In fact, one might argue that this Commission has an analogous duty to the CLECs that it does to the ILECs: to the CLECs a reasonable opportunity for the shareholders to earn a fair rate of return -- oh, sorry, to the ILECs; and to the CLECs an opportunity to compete on reasonable terms.

21499 So a focus on earnings, just as it was under rate base rate of return, is in fact key to this case, provided always that you are not supremely confident that you set the right TFP offset number the first time.

21500 I turn now to the issue of quality of service.

21501 There is one lesson we learned from price caps and that is that the ILECs respond to an incentive to lower costs. This is great, but it needs to be counterbalanced by an analogous incentive to permit the companies an incentive to adhere to the Commission's service quality standards.

21502 Under rate base rate of return regulation the Commission could, and did on occasion, set rates at the low end of a range in a rate case. There were two particular instances of that, 1981 and 1982 for BCTel. That mechanism, which in those instances stripped from BCTel 75 basis points and 50 basis points of the rate of return. That mechanism is gone and gone forever, Dr. Taylor and I agreed, you will recall.

21503 While the Commission has over the years developed extremely sophisticated measures for quality of service and yet now those measures are left a paper tiger. Mr. Park, on behalf of The Companies, admitted that in fact all that happens after the exception reports filed by The Companies after three months of poor service quality on a particular indicator, is an action plan as filed by the company and the company either pursues its action plan or it doesn't and if it does perhaps the indicator comes back into conformance with the Commission's standard and if it doesn't nothing happens.

21504 The best possible example, though, is TELUS Exhibit No. 14 which just rolled in last Friday. It was in response to Commission counsel, Ms Moore, seeking an explanation over and above the exception report filed by TELUS for four consecutive months of poor service quality on a particular indicator.

21505 The exception report stated:

"Organizational and symptom process changes." (As read)

21506 So Ms Moore said "tell me more". The exhibit that rolled in spent two pages talking about the needs of TELUS to meet its customers and to meet its customers demands, and to meet its customers demands means making changes in processes.

21507 Well, it is very difficult to disagree with any of the words on those two pages, Mr. Chairman. But what kind of a position does this leave the Commission in? In essence, the Commission just says "Fine".

21508 Now, quality of service results have been drifting somewhat lower, Mr. Park agreed, in Canada over the last couple of years, and the evidence of Ms Alexander filed in this proceeding on behalf of ARC et al also suggests that the same is true in the U.S.

21509 Now, I am not suggesting for a moment that this is caused by price caps, but I am saying that there is absolutely no disadvantage to putting a quality of service mechanism in place for this second price cap regime and there is quite a disadvantage to not doing so, and that is that all the quality of service indicators are left hanging out there without any particular means for enforcing them.

21510 This case, therefore, constitutes a perfect opportunity to improve the price cap regime by introducing a quality of service mechanism.

21511 Now, what of the design of the mechanism?

21512 To be honest, Mr. Chairman, there is only one thing that matters and that is the quantum, the amount that is at stake. Fortunately, The Companies in 1503 have stated correctly the balance. I spoke with Dr. Taylor about that topic, as you may recall.

21513 It has to be the case that the penalty is large enough that The Companies have an incentive to meet the quality of service standards rather than to just pay the penalty, as I pay a parking ticket, park where I wish sometimes.

21514 Now, The Companies have put at risk $27.5 million for Bell. You recall I spoke to Mr. Park. It is kind of hard, I think, Mr. Chairman, to evaluate that raw number. Mr. Park said that was 0.3 per cent on a rate of return.

21515 But as I mentioned to you, in the two Commission precedents that I was able to unearth -- and I was on both of those cases as you know, Mr. Chairman -- the Commission evaluated the penalty for BCTel for a continued failure to meet 4 and 5, respectively, indicators of the 23 indicators that were then in place at 0.5 per cent and 0.75 per cent, as I mentioned.

21516 It could be the case that the rate of return rather than the actual number of dollars provides the best basis for this Commission to act as a starting point for the maximum number of dollars to put at risk. I say that because of the fact that there are so many differences across the companies that this commission regulates, different tax rates, different debt equity ratios, different ratios of revenue to capital.

21517 Now, as it happens in this case, Mr. Chairman, AT&T has suggested 25 cents per NAS per indicator miss. The Companies suggested 5 cents. So that ratio of 5-to-1 suggested by AT&T would translate out, more or less, using Mr. Park's evidence, to 1.5 per cent on the rate of return as the maximum penalty from which one would start.

21518 Now, that is less than the State of Maine, that is less than the State of Vermont, but that may well be a good starting point for the Commission in this case.

21519 I hasten to say it is unlikely that the penalty would ever be that great. Based on the quality of service reports that have rolled into the Commission over the last quarter century, it is quite unlikely that The Companies are going to be down on every single indicator and therefore it is quite unlikely that such a penalty amount would make it impossible for The Companies to raise capital on reasonable terms.

21520 As for the rest of the mechanism, The Companies, and Ms Alexander testifying for us, agree that the penalty should be a one-time event, that it should be a line item credit that applies once the year's results are toted up to the subscribers or record for the previous year. This is simpler and probably fairer to the company and fairer to the subscribers than the mechanisms of having the Q factor go forward.

21521 In addition, parties, The Companies and Ms Alexander and ARC et al, agree that one should, insofar as is reasonable, parallel the Commission's current indicators. Two of the Commission's indicators currently do not have standards and the details as to whether those should apply to the scheme, and if so what the standards should be, we would advocate, should form part of a consumer rights proceeding which we would like to propose be an explicit follow-up item to this case. My learned colleague, Ms MacDonald, will expand on this concept in the latter portion of her argument.

21522 Thank you, Mr. Chairman.

ARGUMENT / PLAIDOIRIE

21523 MS MacDONALD: Good morning, Mr. Chairman, Commissioners.

21524 I am going to venture into the area of economic theory. I promise I will be short as I must say it is not my area of expertise.

21525 I was struck by something which Dr. Weisman stated when he was on the stand. He stated that where consumers are perfectly informed the market sets quality levels, the market sets prices and provides the consumer with an ideal outcome from the perspective of economic theory.

21526 Subsequently, Dr. Emerson had a discussion about the Nobel prize in economics and about the analysis of the problem of asymmetric information in competitive markets. Dr. Emerson agreed that markets don't work perfectly and part of the problem is that markets are typically characterized where one party on the market will have better information than those on the other.

21527 Putting this information together with TELUS' proposal of accommodative entry policy led me to believe that their theory is fundamentally flawed. I say that because Dr. Weisman's theory states that once accommodative entry policy is in place retail price regulation will only serve to distort the outcomes and instead TELUS rates should be allowed to rise to market levels, despite the fact that no market yet exists.

21528 Now, the basic problem with these arguments is that they do substitute the existence of policy for the existence of competition and that is another fundamental mistake. This is because theory rarely accords with the reality and the reality here of customer inertia and the irrational behaviour of customers doesn't accord with the theory of accommodative entry policy as postulated by Dr. Emerson.

1110

21529 Now, Dr. Emerson actually admitted that he is no expert in the area of customer inertia. Accordingly, it would be a folly to abandon the retail price regulations on the basis of this pure economic theory which hasn't taken into account the problems of customer inertia and customer irrational behaviour.

21530 Accommodative entry policies are essential for competition to be achieved. However, they cannot suffice for regulation before competition has matured to the point of providing adequate market disciplines.

21531 I then took that concept of consumer information and dealt with the topics that I had discussed with some of the witnesses in cross-examination. In the cross-examination, I believe that we proved that in the current system access to information is difficult to access on the part of the consumer. It is often in the control of the ILECs.

21532 Some of the examples that we had provided were to look through the introductory telephone pages. They are quite thick and unwieldy. If you want customer information, you have to flip through different sections. You have to cross reference as to ensure that you get all the information and sometimes and often you will end up phoning the company in order to get the information. If the information is in the hands of the company and not in the hands of the consumers, it's the companies that have the power in that relationship.

21533 In order to balance out the power, customers have to be given information on their rights. They have to be given information on how to complain when those rights are breached.

21534 One of the TELUS panels had stated that they prefer to have the discretion to deal with the customers on an individual basis and use that discretion on a case-by-case basis. We believe this is flawed from the perspective that customers will be getting different treatment in that scenario. Depending upon the customer service representative that you actually get, you may get one scenario as opposed to another. You may receive different information as opposed to another person.

21535 Some persons will have difficulty advocating their rights. They may be elderly, immigrants, disabled, poorly educated or lacking in economic power. For these reasons we say that the introductory pages are not sufficient in order to provide consumers with information on their rights.

21536 We also looked at the Terms of Service, and Bell's Terms of Service are now 15 years old and Barbara Alexander had examined them and reported that she found they were overly broad, were not in a consumer friendly format and didn't focus on key consumer rights.

21537 TELUS' Terms of Service, as you know, are written in plan language and customer research that they have undertaken and that they provided to us in an undertaking -- pardon me -- to Counsel Moore in an undertaking, show that people did actually prefer the plain language. However, the clarity notwithstanding, I believe that there is some problems with the fact that the General Terms of Service are different between some ILECs and others and I certainly had a concern that the balance of consumer rights and obligations on the part of the TELUS examples appears to be tipped in the favour of TELUS, particularly with regard to customer liability.

21538 We believe that effective consumer information can be achieved through the Terms of Service and in fact must be achieved through the Terms of Services that contains the contractual terms. However, we also say that there should be a new document outlining consumer rights. We profess that the document should be consumer friendly, written without technical terms and in a format which is easy to understand.

21539 We urge this Commission to initiate a consumer rights' proceeding to identify those consumer rights and to create a consumer bill of rights. Simultaneously in that proceeding, we would like the Commission to review the General Terms of Service with a view to ensuring that they are written in plain language, and as well to review the balance of rights and responsibilities between consumers and between the companies.

21540 Along with that, as suggested by Mr. Van Koughnett, you could establish the indicators for the two indicators which currently are not being reported on which includes community isolation outage frequency, consumer complaints and the soon to be implemented consumer -- customer complaints resolved. As well, during that proceeding, you could establish the relationship between these three indicators and the incentive mechanism. In our written evidence we will outline this in further detail.

21541 Finally, the issue of payphones has come up in this proceeding and it has provided our constituency with a great deal of concern. Payphones actually deal with two major subsets of people with low income. First, it deals with people that don't have telephone service at all, which from the information that came out on cross-examination there would be approximately 163 households, we don't know how many people that relates to, 163,000 households without phones, with over 60 -- just slightly over 60 per cent of those people relying on payphones.

21542 The other people that rely on payphones are low income people that will use a payphone as their dominant form of public communication. So these are people that can't afford the cell phone.

21543 From the information that we have heard in this hearing, both TELUS and Bell say that the payphone industry is in decline. That gives us great concern as to what is going to happen to that industry and from our point of view there is a balancing of public policy goals that needs to be addressed with the issues of affordability of the payphones on one side with having payphones at all.

21544 In Decision 98-8 the Commission had stated its intention to review the issue of public interest payphones in three years time, which actually is this year, from that and considering Bell's evaluation of the possibilities for the future and the viability of the payphone service and the seriousness of the matter for our consumer groups, we urge the Commission to initiate that review in this issue with all the ILECs.

21545 These are our submissions. Thank you very much for the opportunity to make them.

21546 THE CHAIRPERSON: Thank you, Ms MacDonald, Mr. Van Koughnett, Ms Lawson.

21547 Now, I believe, Mr. Secretary, we are ready to go to the phones.

21548 MR. SPENCER: Yes, we have Mr. Wachowich on line, Mr. Chairman.

21549 THE CHAIRPERSON: Good morning, Mr. Wachowich.

21550 Mr. Wachowich, are you there?

21551 Mr. Wachowich, are you there?

21552 Mr. Wachowich.

21553 Mr. Wachowich, are you there now?

21554 MR. WACHOWICH: Good morning.

21555 THE CHAIRPERSON: Good morning. Please proceed.

ARGUMENT / PLAIDOIRIE

21556 MR. WACHOWICH: Thank you.

21557 Good morning, everyone. The Consumers Association of Canada Alberta or CAC Alta. as it is often referred to welcomes the opportunity to participate in the proceedings leading to the second generation of the price cap regime.

21558 This proceeding will accomplish much. Chief amongst the outcomes is the rates paid by residential customers of local telephone service commencing January of 2002. In order to shed a little light on how we approach this proceeding we have answered a few questions.

21559 Firstly, who is the CAC Alberta? It has been acknowledged that there is a three part relationship or triangle of customer, ILEC and CLEC. The Consumers Association of Canada is an advocate for consumers and germane to this process we advocate on behalf of the residential customers of local telephone service within Alberta.

21560 What will be accomplished by Public Notice 2001-37? Fundamentally it's going to be the regulatory regime for the following among other things. But it's customer rates for local telephone service. It's compensation to the provider of the local telephone service and it's the rules governing the opportunity to enter the market and provide 3A in exchange for 3B, that is service in exchange for rates.

21561 Where this is happening is all across Canada, not just one part of the country. So it's important for more than just one part of the country. It is important for all Canadians as 30 million plus citizens of Canada. Clearly implicit from the penetration rates of local telephone service is confirmation that most individuals utilize local telephone service in some fashion.

21562 The next question we answered was when and we might add for how long? Commencing from January 1st 2002 at the expiration of price cap 1 and the duration of price -- or term of price cap 2 is extremely important. CAC Alta. submits it's important because the significance of the decision flowing from this can make any CRTC processes following price cap 2 more challenging or less challenging.

21563 Hard choices may be the result if the wrong decision or decisions are made in this process.

21564 We turn, then, to the "Why" of this.

21565 There is a requirement for a fair and balanced regulatory rate setting mechanism recognizing the realities of the industry and the replacement of rate of return regulation.

21566 Local telephone service as an industry may be experiencing changes, but clearly it is undergoing a regulatory transition. We submit it would be preferable to have a solution if this regulatory transition doesn't get us to where we want to be.

21567 What will we do if it doesn't work? Is there a rescue plan? This is one of the hard choices referred to above.

21568 At the very least we have to be able to say to each of the three stakeholder classes, the ILECs, the CLECs and customers: You were treated fairly.

21569 So we come to the question of "How"?

21570 In the submission of CAC Alta. this ties back to what and why. What are we here to do and, very importantly, what are we here to make sure we don't do? How do we achieve the balance of interests?

21571 We submit that where local telephone service is three, four or five years hence is decided by what we do today. We must find the point within the triangle that achieves the proper and fair balance, not just for where we have been but for where we are going and how we will get there.

21572 CAC Alta. is concerned that we don't have a real good picture of what is important to the average consumer of local telephone service. We know that like anything else individuals pay a fee for price is important. Prices are very easily tracked and compared.

21573 Quality of service is likely the second key variable. It is our submission that quality is important, but is more subjective than price.

21574 Maybe price and quality are all there is to it for most local service customers. The parties who advocate on behalf of these many customers can and do put a more developed intervention forward, but perhaps it all comes back to price and quality.

21575 CAC Alta. is mindful of the changes in this industry since the last time the price caps were established by the CRTC. We submit the most important change over the last four years to customers is that price has steadily increased. I might add that as a result of this ILEC returns have increased as well.

21576 A significant change has occurred in the area normally occupied by the ILEC's. In particular, as TELUS has stated, it participates in this second generation of price caps both as an incumbent provider of local telephone services as well as an entrant in various markets. The importance of this change to the position of companies such as TELUS, BELL and others, cannot be overstated. It is the submission of the CAC Alta, that this does much to change the balance of important issues before the regulator.

21577 Further we point out that this while this is a change that has not caught the attention of the average customer, it should be very much on the minds of the CRTC. Few parties appear in dual roles before the regulator and even fewer do it with such candour.

21578 The question that we seek an answer to is: What real, tangible and understandable benefits can we show that have been provided to consumers of residential local service from or during price cap 1?

21579 In a simple answer: There are none. None that are real or tangible or understandable enough to justify the price increases to customers, the returns to the ILECs and the hardship to some of the CLECs.

21580 It appears that residential consumers taking local telephone service will have to be satisfied with the promise that they will be better off in a yet to be developed competitive market place. A market place that remains the key goal of the price cap regime.

21581 We appreciate that with changes from regulation to competition there is a transition period to get there, to competition. It is during this transition period that we submit residential customers are exposed to local telephone rates that are higher than necessary and rates that have not successfully promoted competition within the residential sector of this industry.

21582 In price cap 1 customers have not received any benefits beyond the productivity offset and stretch factor -- or the minus 4.5 per cent factored into the price cap formula. This is notwithstanding those benefits above the productivity and stretch factor amounts have been realized.

21583 Benefits above the offsetting 4.5 per cent have been captured by the ILEC's and passed on to their shareholders or retained by the phone companies. Respectively these show up in abnormally high ILEC returns accomplished during price cap 1 or are held and hidden in the incumbents ability to meet and beat competition.

21584 It is our submission that the true "poor cousin" of this three-party relationship is the customer. We submit that of the three points of the triangle --Customer, CLEC and ILEC -- the one that has been least advantaged and likely disadvantaged the most by the price cap regime is the customer.

21585 This is so because the residential customers are not discretionary users of local telephone service and it is aggravated by the fact that they have no choice of an identical alternative services. Rates for residential local telephone service have gone up and customers have had to pay the increased price.

21586 Further, we submit that the residential customer has the most to lose in price cap 2. The residential customer taking local service has seen little if any change in basic service beyond price increases. The residential customers taking local service have seen their rates for that service rise already over price cap 1 and now see applications by local service providers that seek further increases.

21587 The tempering of the proposal is that competition may arrive to put downward pressure on these rates. That promise has been used before and in 2001 it holds little if anything for residential customers in Alberta.

21588 CAC Alta. views the proposals of the CLECs and ILECs as fundamentally unfair. Customers should not be expected to underwrite either competition for the CLECs or excessive profits to the ILECs, and especially not underwrite any combination of the two.

21589 Customers of local residential telephone service should share in the many benefits occurring in this industry which could be used to lower rates without the caveat that prices will have to go up first before the benefits and maybe lower rates can be delivered. This has to be more than a distant promise or expectation. Clearly price caps can no longer be at customers expense.

21590 In our submission there a need for further enhancement -- rather, the question has to be asked: Is there a need for further enhancement of accommodative entry policies?

21591 TELUS as an ILEC in this instance proposes that only efficiently competitive entrance will be supported by their proposal. We are left to assume that TELUS as a "CLEC" agrees.

21592 The position of CAC Alta. is that again whatever accommodative entry is or becomes it cannot be a justification for higher rates.

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21593 TELUS proposes that $35 -- based on the $34.42 per the Telebec rates -- will be the cap and should establish prices at a competitive or market level.

21594 CAC Alta. sees this another way, as charging up to that amount tested at which the customer will continue to pay for local telephone services. It is the submission of CAC Alta. that the TELUS proposal will only squeeze the maximum amount of dollars from the most captive customers, those taking residential local service from the incumbent telephone provider. To adopt the TELUS proposal would, in our submission, create the proverbial "license to print money" for the ILEC telephone provider.

21595 It is the submission of CAC Alta. that rates simply can and should be frozen at or slightly below current levels. Customers will clearly understand this. The CLECS already appear to be attempting to compete at current rates. The ILECS are financially sound and have captured efficiencies in price cap 1. This proposal carries no harm.

21596 While some may respond to this proposal and say there is no logic or justification for it, we anticipate that and pre-reply with we are doing something here where there is a departure from the rules we know and the rate of return regulation steeped in justification and logic.

21597 This unsupported statement is the other side of the coin of the uncertain claim being made: "wait for competition" to lower prices. Neither "this proposal carries no harm " nor "competition may come and lower prices" can be proven with certainty in this industry.

21598 So what if we fail to "get there" in price caps 2? What if we don't get the supposed benefits of competition in the local residential telephone market?

21599 We submit this is further reason to ease off the accelerator now and additionally to check the term of price cap 2. We submit a slight reduction or rate freeze, and implementing the proposals contained the evidence of ARC et al and the City of Calgary, can best accomplish this. This proposal allows that customers have a more valued role than underwriting the cost of this experiment. That customers have a need for benefits, are deserving of them and that passing on some of those benefits to customers is evidence of the regulator recognizing the value of the customer within the industry.

21600 We submit that the CRTC must not follow the proposal of the ILEC's as to do so will only compound the problems or type of problems that are evident retrospectively in price cap 1.

21601 We submit that in fairness to all parts of the three parties of stakeholders, weighing all that is before it the CRTC must follow the route proposed by ARC et al and Calgary. To do this will show that the residential customer is fairly considered and is being given a real value.

21602 Thank you Mr. Chairman, Members and staff.

21603 THE CHAIRPERSON: Thank you, Mr. Wachowich.

21604 We will now turn to the City of Calgary.

21605 Mr. Inlow.

21606 Mr. Inlow, are you there?

ARGUMENT / PLAIDOIRIE

21607 MR. INLOW: Yes, I am, Mr. Chairman. I am on a speaker phone, if the quality doesn't sound as well I am happy to go to a handset.

21608 THE CHAIRPERSON: We can hear you if you just speak clearly and speak loudly.

21609 MR. INLOW: All right.

21610 Thank you, Mr. Chairman, Members of the Panel.

21611 I am sure at the end of a proceeding of this magnitude the concept of regulatory burden must take on a very personal meaning to the Members of the Commission Panel, faced, as they are, with an impressive expanse of evidence, interrogatories and cross-examination transcripts.

21612 Speaking for myself, I am grateful to the Commission to be relieved of the burden of two less long airplane flights to Ottawa.

21613 My remarks this morning are not structured so much to cover all the evidentiary and policy issues as the allotted time may allow as it is to bring to your attention and hopefully foster your particular interest in certain issues we consider of significant public interest.

21614 I would like to highlight four of these. One is, are there changes in market structure that should cause the Commission to lighten its regulatory grip.

21615 Secondly, how should the Commission learn from the first price cap experience?

21616 Third, how should the Commission respond to the TELUS proposal for residential service rate increases over the next five years?

21617 Finally, how should the Commission rebalance the price cap structure to benefit all stakeholders while maintaining its fundamental incentive properties?

21618 To return with respect to what changes we may have seen in the marketplace.

21619 The Commission's own reports indicate that over the first price cap period competition has only achieved a 4 per cent overall grip in the market and less than 1 per cent in the local residential market.

21620 What does this mean to the Commission?

21621 In our submission, it means that the market will not discipline prices. The threat of taking other services to competitors is not credible, in our view.

21622 The accommodative entry policies that have been put in place by the Commission, do not create actual competition. The research that has been done by the Commission indicates in fact that that competition has not materialized.

21623 Finally, with this lack of discipline, we submit that there is no particular adverse result to an incumbent from trading quality of service for higher profits.

21624 Price cap regime was designed to simulate competition, but we submit that ILECs have less risk than in competitive markets because of the benefit of their monopoly status continuing to a considerable extent.

21625 The advantages that this monopoly provides are significant.

21626 One, they have economies of scale that may not allow competitors to duplicate their cost structures over a smaller customer base.

21627 The Commission is aware that the position taken by the incumbents is that if the other factors of productivity other than the monopoly backbone are available at competitive prices, then competition will materialize.

21628 In our submission, that is no guarantee because of the large customer base enjoyed by ILECs that competitors will be able to duplicate those costs and in the absence of being able to do so we think it is unlikely that competition will materialize.

21629 Secondly, ILECs have a larger customer base over which to spread the risk of pricing flexibility and to achieve earnings in some areas to make up for competitive responses in certain segments of their market.

21630 So, in summary, we suggest that prices must still be constrained to protect consumers.

21631 It is important to note that ILECs are bound to act in their shareholders best interests and unless they are specifically constrained it is to be expected that they will do so.

21632 How is the Commission to learn from its price cap experience over the last four years?

21633 In our view, the ILECs seek to inhibit the learning experience by using certain theoretical constructs about the price cap regime. It is tantamount to saying to the Commission: If you review earnings or review prices relative to cost, then you are abandoning price cap and returning to some form of rate based rate of return.

21634 In our view, competitive markets do link prices and costs. In fact, in the long run they tend to merge.

21635 ILECs also urge that the Commission to adopt a longer price cap period because of its experience with the price cap regime.

21636 In our view, this experience needs to be more than simply to have observed what unfolded. We suggest that the Commission cannot inform itself without an analysis of what happened in the first period, that historical information has always been fundamental to forward forecasts.

21637 We submit that the Commission should view this opportunity as one in the nature of recontracting of a multi-party contract where the parties have the experience to express to the Commission their views of how the contract in the first period turned out for their respective interests and what their expectations are to improve that contract in the second period. We submit that this is not simply an option to renew the price cap regime on the same terms and conditions.

21638 One of the other challenges that faces the Commission is that there are alternate explanations to observed outcomes. So the Commission, in our view, needs to examine, analyze and draw conclusions about this.

21639 I want to just draw three examples to the attention of the Commission.

21640 One is, looking at the observed return on equity achieved by the incumbents.

21641 There is a theoretical question about whether those were achieved as a result of superior performance or whether the X factor was too low.

21642 We would invite the Commission to look at those returns in the context of an 11 per cent going-in rate and to appreciate that by the year 2000 all the ILECs were at least 3 per cent above that amount and most of them were more than 5.5 per cent above that.

21643 The second one is the persistent metaphor of the low-hanging fruit in the context of productivity.

21644 The sense that is put forward to the Commission in our view by the ILEC is that there are some easy returns on productivity in the early part of the price cap period, but they become progressively more difficult.

21645 We suggest that the evidence is to the contrary. In the evidence of Todd and Matwichuk, of the seven ILECs that reported return on equity in all four years only one ILEC, in one year, did not have progressively higher rates from the previous year.

21646 Thirdly, even if there were an agreement on what normal earnings are, there are alternate explanations to say that the earning is not above normal, that it simply can be explained as an expected variance around the norm.

21647 Again we would invite the Commission to consider that the risk-free premium has declined over the last four years, to the extent, as represented by long term government bonds, of approximately 100 basis points.

1140

21648 We also think that it is informative that other regulators have implicitly handled this issue in the context of an earnings sharing mechanism. I don't raise this at this point to necessarily urge the Commission to consider earnings sharing, but to look at other regulatory jurisdictions who provide what have been described as dead zones around the target return. These have generally been approximately in the 200 basis points range.

21649 We would suggest that those are implicitly regulatory decisions which say that the regulator is prepared to accept as a normal tolerance somewhere in the range of 200 basis points around the norm, and that to the extent that the earnings vary more broadly around the norm than that, that earnings mechanism would kick in to mitigate those results.

21650 I suggest that is an appropriate approach for the Commission to take in this instance in examining the actual rates of return achieved by the incumbents in determining the fundamental question of whether these are normal returns, returns by superior performance, or whether in fact the X factor was set too low.

21651 Now, I would like to turn to the TELUS proposal respecting residential rates. We note that TELUS has been careful to say they are not proposing a rate increase in the sense of indicating that a specific rate increase will take place at a specific time. We submit that there has been a significant lack of supporting information with respect to this proposal, but a number of factors need to be examined.

21652 First, in our view, this is a pure increase in revenue. I submit it has been established that there are in fact no significant associated costs with this revenue and in the context of having a virtual monopoly in the residential sector of the market there is unlikely to be any significant loss of customers as a result of raising rates.

21653 This price increase has also been put forward as a method to promote entry by competitors, even though, in our view, price control remains firmly fixed in TELUS' hands to be able to respond with price changes to actual competitive entry or even impending competitive entries.

21654 We suggest that the Commission needs to look at the relative benefit of such an increase to the incumbent versus the other stakeholders in a price cap regime. In this particular case, where we see competitors having less than 1 per cent of the market, it is reasonably self-evident that the revenues achieved by a rate increase will go overwhelmingly to the incumbent.

21655 From the point of view of the customer, we would submit that there has basically been no enhancement of service in return for an increase in the rates charged. Therefore, we submit it is reasonable to conclude that this additional revenue, which in fact would constitute basically pure profit in the absence of associated higher costs, is either going to provide a treasure chest to the incumbent to inhibit further competitive entry or, as has been suggested in some of the material that TELUS has put out to investors, it is likely to go to fund its interests in the competitive sector. Wireless is obviously one of those competitive endeavours. We submit that neither of those is an appropriate result for the Commission to contemplate under price cap.

21656 Now, the increase in rates has been justified on the basis of the word "affordable" and an assertion that increased rates would be affordable now and into the future.

21657 We submit that TELUS has provided no relative market analysis of its own customers and there has been considerable discussion about some of the data that has been relied upon, particularly the Yankee Group study and its inherent shortcomings.

21658 We would invite the Commission to consider what affordable means in the context of a virtual monopoly in the residential market. We submit that this amounts to nothing more than saying: What are people prepared to pay that is less than what their next best option is, which in fact in a monopoly essentially does not exist.

21659 There is certainly no underlying cost justification and we would submit that penetration rates being high relates more to the essential nature of these services than to price elasticity. We have certainly see no evidence put forward to the Commission indicating that price elasticity studies have been done on TELUS' own customers.

21660 But to return to a broader perspective, if in fact there were a competitive market in existence which price cap seeks to simulate, how credible would it be that one player making in the range of 20 to 25 per cent return on equity could raise prices in the face of actual potential competitive response?

21661 We urge the Commission not to allow the concept of a market or affordable price where no market in fact exists. In our view, it is tantamount to taking all constraints off a monopoly provider in terms of price.

21662 Finally, what can the Commission do to re-balance the outcomes under the first price cap regime?

21663 There is a fundamental thesis that price cap is capable of making all stakeholders better off, being the incumbent, the competitors and the customers.

21664 We submit that the results have been very different from that. It appears that the incumbents have prospered, that the competitors have spilled a lot of their own blood on the market floor and that, with respect to customers, they have not seen any decrease in prices notwithstanding productivity gains that have been achieved.

21665 We submit that the evidence points to a credible need for a higher X factor. There needs to be a more confined basket structure so ILECs cannot fund battles on competitive fronts with monopoly revenues elsewhere.

21666 We would submit that the structure of competition is such that it can still be exploited by incumbents and, finally, there is a need to put explicit quality factors in place.

21667 Mr. Chairman, we have complete faith in the Commission and staff to explore all the issues raised in final and reply argument.

21668 I wish to thank you for your patience and assistance throughout these proceedings. I particularly appreciate the opportunity to present this submission from Calgary, in light of the Commission's generous allowance for oral argument by telephone and realizing the panel has made a significant effort to return to the hearing room for the benefit of all the parties to make oral argument.

21669 Thank you, Mr. Chairman.

21670 THE CHAIRPERSON: Thank you, Mr. Inlow, for your presentation and particularly for your latter comments.

21671 We will now turn to MKO and Mr. Byron Williams.

21672 Mr. Williams, are you there?

21673 MR. WILLIAMS: Yes, I am.

21674 Is this Mr. Chairman?

21675 THE CHAIRPERSON: Yes. Please proceed.

ARGUMENT / PLAIDOIRIE

21676 MR. WILLIAMS: Okay.

21677 Good morning, Mr. Chairman and members of the Panel.

21678 I have often heard it said that to be a good advocate you have to walk a mile in your client's shoes. I have to tell you it feels a little strange to be making an argument to a panel I cannot see whose expressions I cannot read. With no disrespect intended, you start to wonder if you are really being heard. While I certainly can't claim to walk in the shoes of my clients, that is how I suspect they feel in the context of this proceeding.

21679 In a hearing about grand visions for a national regulatory framework, it is very easy to overlook a few small communities lying at or beyond the economic periphery of most of Canada.

21680 In the general clamour raised by the competing voices of competitors, telcos and urban residential consumers, it is no doubt difficult to hear the words of First Nations in northern Manitoba, especially over the crackle and echo of their telephone lines.

21681 Amidst reams of evidence and interrogatories devoted to highbrow theories of competition, efficient pricing and just and reasonable rates it is not hard to lose sight of the mundane anecdotes of a few nurses, Band officials and ordinary citizens struggling against the indifference and apathy of a telephone company which clearly has bigger fish to fry. This no doubt is what MTS is counting on.

21682 In this proceeding MTS has presented a service improvement plan, or SIP, which is flawed in its assumptions, conception and design. In the absence of substantive consultation with the MKO First Nations, MTS is seeking to impose a S-I-P, or SIP, which falls far short even of the company's own impoverished vision of reliable, high-quality service.

21683 The SIP presented by MTS will not deliver the Commission's basic service objectives to all Manitoba First Nations. More fundamentally, it will not ensure that the MKO First Nations will benefit from the promise of a reasonable level of reliable, high-quality service, a promise which forms the true substance of the basic service objective.

21684 Members of the Panel, in the short course of this proceeding the Commission has heard a bewildering and ever-shifting tale with respect to the status of telecommunications service in Manitoba's north.

21685 At various times it has been told by MTS that: a) the company does not need to consult with the MKO communities because MTS is well aware of the nature and extent of service quality issues.

21686 The Commission has been told that there are no quality of service issues in the MKO communities which are served by the Anik E-1 satellite. Then of course, the Commission was told that these communities are no longer served by the Anik E-1 satellite, but that the company was not even aware of this fact until four or five months after the change took place.

21687 Then the Commission was told that notwithstanding the company's early assertions there were problems in terms of quality of service to the community served by satellite. Of course, the company claimed these were solved as of September 13, 2001.

21688 Then again on October the 8th, 2001 the Commission was told that there were still problems in these communities but that the company is determined to identify and fix them.

21689 Indeed, we are told at this very moment MTS technicians are visiting all six MKO communities which are served by satellite doing what they said they did not need to do, seeking the input of these communities into service difficulties and limitations. No doubt, the company will soon be providing the Commission with its assurance that the problems have once again been solved for now and forever.

21690 In the course of this proceeding the company has indicated that a significant factor underlining its ignorance of service problems in these communities lies in the inaccessibility of the complaints process to the MKO First Nations due to a variety of cultural, linguistic and informational barriers. The company has also confirmed that these same limitations may also handicap the identification, isolation and resolution of quality of service issues for the 20 MKO First Nations which are not served by satellite.

21691 Despite these limitations, however, MTS insists that no further examination of the issue of quality of service is needed with regard to the communities not served by satellite. The company remains confident that its service improvement plan will address existing deficiencies in terms of the service to these communities.

21692 Over the same period of time during this proceeding, the Commission has been advised that, unlike other telcos, MTS does not need to consult with stakeholders like MKO in terms of its proposed solutions to the level and quality of telecommunications service in the north. It has been told that MTS has the solutions well in hand.

21693 At the same time, the Commission has been told that the basic service objective will not be achieved for the communities served by satellite because toll-free access to the Internet would not be economic for a telephone company acting on its own.

21694 The Commission has also been told that options for a higher quality of service to the non-satellite communities are not on the table because they would not be economic for the company acting on its own.

21695 MTS has told the Commission that in the course of this proceeding it simply assumed that funding for the service improvement plan would be borne by the company. It has indicated that it never considered giving First Nations the option of exploring supplemental sources of funding designed to either achieve the basic service objective for satellite communities or to build a stronger platform for the delivery of high-speed broadband capability to the non-satellites.

1155

21696 Despite the failure to achieve the BSO for the satellite communities, or to build the preferable platform for services to the non-satellite communities, MTS insists that consultation with the MKO First Nations would be unnecessary and not meaningful.

21697 This is not a pretty picture. It is a story of ignorance, lost opportunities and of a noble vision compromised by indifference. Over two years since Decision 99-16 was issued, and over five years since MKO first brought its concerns about low quality of service to the Commission, MTS technicians are only now scrambling over northern Manitoba trying to determine why the communities served by satellite do not have access to a reasonable quality of service.

21698 Years have been wasted and lost, years in which the Dene First Nation, such as Tadoule Lake and Lac Brochet could have been exploring the subject of supplemental funding for toll-free access to the Internet in the context of their reconciliation and renewal negotiations with the federal government.

21699 Years have been lost, years in which the MKO First Nations could have been seeking partnership agreements with the federal or provincial government in order to supplement the funding available from MTS, agreements similar to those they already operate in terms of economic development, justice issues and child family services, agreements which might have wavered supplemental funding in order for them to place fibre-optics technology or at least to bring greater capacity to the company's proposed digital solution.

21700 MTS insists that SIP achieves the letter of the basic service objective as set out in Decision 99-16, but from the perspective of MKO precious time has been lost. Not enough has been accomplished and too much remains to be done.

21701 Put at its simplest, the dispute between MTS and MKO in the context of the company's service improvement plan is really about two competing visions of the basic service objectives set out by the Commission in Decision 99-16.

21702 From the company's perspective the BSO represents nothing more than a simple shopping list of services, a list which it must minimally comply with in order to ensure eligibility for the high-cost serving area fund.

21703 MTS has chosen not to look beyond the veil of the Commission's basic service objective. It is not willing to look past the form of the listed services found in paragraph 24 of Decision 99-16, to look at the substantive objective of a reasonable level of reliable, high-quality services.

21704 Simply put, for MTS "close' is good enough. Achievement of the basic service objective, in form if not in substance, in most if not all MKO First Nations, should be, from its perspective, enough to ensure it qualifies for the high-cost fund.

21705 To the MKO First Nations the basic service objective is much more than a mere shopping list of services. It is a practical expression of the objective of a reasonable level of reliable, high quality service. From their perspective, the MKO perspective, the BSO must be read in light of the commitment to high quality services found in the Act and the objectives of providing a reasonable level of service of the same basic level as that enjoyed by all Canadians, an objective which was set out in Decision 99-16.

21706 Essential to the MKO decision is the recognition that in enumerating the characteristics of the DSO the Commission did not intend for standards of telephone service with respect to other characteristics, such as problems with noise and circuit availability, to be ignored. MKO realized that reliable, high-quality service is a lifeblood of the BSO. The basic service objective is meaningless unless the underlying system is properly provisioned and functioning.

21707 As even MTS agrees, it is not unreasonable for the MKO First Nations to expect static-free, echo-free, readily available telecommunications services both to the north and to southern communities, and to expect that as a consequence of this proceeding, because in the absence of these characteristics achievements of the enumerated characteristics of the BSO will merely be an achievement in theory, not reality. It will be nothing more than a sterile list-making exercise.

21708 To the MKO First Nations the process of consultation essential to the realization of a reasonable level of reliable high-quality service -- as MTS has acknowledged in the context of southern communities, consultation is essential to the effective delivery of important service improvements. As Mr. Bruckshaw said on behalf of MTS, it is not something that we can just come up with on our own, sort of sitting in our offices, you really have to go out and engage the customer in that process.

21709 From the perspective of the MKO First Nations the opportunity presented by the service improvement plan should be about more than doing the bare minimum. It should be about creating an opportunity to build for the future and to meet community needs.

21710 As set out in paragraphs 39 and 43 of Decision 99-16, the development of the service improvement plan was intended to do much more than meet some static, ever constant basic service objectives. Its purpose was to engage the community in a process designed to consider all relevant options and to seek all available resources in order to meet community needs.

21711 In assessing the MTS proposal it must be recalled that the company bears the onus of establishing that its SIP will achieve the letter and intent of the basic service objective. Near assertions will not suffice.

21712 In order to test the company's assertions MKO would suggest the following five criteria:

21713 1) MTS must establish that it has fully considered, assessed and understood the service needs and service limitations in the MKO communities;

21714 2) MTS must establish that it has fully explored all options to address the problems recognizing available resources, the needs of the communities and the underlying objectives of the basic service objective;

21715 3) MTS' proposal must meet the strict letter of the BSO as set out in paragraph 24 of Decision 99-16 or demonstrate that it has done all that is reasonable to meet that objective;

21716 4) the proposal should ensure that the underlying infrastructure is in place to ensure that the regulatory objective is met in substance as well as in form;

21717 5) the company must demonstrate that the means chosen are the most appropriate to achieve the spirit and intent of the basic service objective, given available resources, the needs of the community and its underlying objectives of the regulator.

21718 Sadly, from the perspective of MKO, the company has failed to discharge this onus. As set out above, it is readily apparent that MTS has failed to overcome the first hurdle of establishing that it truly comprehends service issues and service needs.

21719 As the company readily admits, in terms of the satellite communities it simply does not know exactly what is going on. As Mr. Bruckshaw explained, the problem may be in the phone, it may be in the customer's home, it may be in the distribution, we may even have some problems in our system.

21720 There is also no reason to believe that the company has accurately assessed the limitations in terms of service for the non-satellite communities.

21721 Just as importantly, it is also clear that MTS has failed to establish that it has done all that is reasonably necessary to achieve the basic service objective. Its failure to consult and to explore other funding alternatives has left MKO communities in an untenable position.

21722 For the communities served by satellite the basic service objective will simply not be achieved. For those which are not served by satellite they have been denied the opportunity to explore options which could have delivered a more acceptable level of service in terms of data, speed and quality.

21723 From the perspective of MKO, at the heart of the failure of the company's SIP lies a pinch of ignorance coupled with a touch of indifference. MTS simply has not grasped the depth of the quality of service problem in northern Manitoba, nor has it been willing to explore or understand the positive role that MKO First Nations or MKO itself may play in seeking out additional resources to make the regulatory objective a reality.

21724 In the end, MTS has contented itself with doing a little bit less than the bare minimum that a formalistic reading of Decision 99-16 would suggest. It has not gone beyond the form of the decision to its substance.

21725 For these reasons, MKO is recommending that the Commission defer approval of the MTS SIP beyond the expenditures proposed for the coming 2002 year.

21726 It is asking instead that MTS be directed to participate in a consultative committee with MKO designed to achieve two separate but complementary objectives.

21727 The first is to bridge the communications gap that exists about present service levels.

21728 The second objective is to report back to the Commission within a year regarding the expected service levels in the future and how they can be achieved.

21729 At the first stage of its work the proposed committee would be required to audit the present service levels in all 26 MKO First Nations, not just the six served by satellite. Its objective would be to ensure that present provisioning is up to standard.

21730 The second stage would ensure that at a minimum the basic service objective is met in a timely manner.

21731 However, it also would allow for the consideration of other options, additional service options and levels if these can be achieved at mutually satisfactory terms. In other words, the consultative committee would be encouraged to examine possible additional sources of funding for capital and ongoing expenses to help give the SIP a better chance at meeting the current and future needs of the remote and isolated communities.

21732 Members of the Panel, from the perspective of MKO this hearing is about whether the statutory obligation of providing affordable, high-quality services to all regions of Canada can be fulfilled or whether it will remain a mere and frail chimera, a mere vision honoured more with lip service than by practice.

21733 On two previous occasions over the last five years MKO First Nations have come before the CRTC because they needed its help. On each occasion the CRTC has delivered. On their behalf I am once again asking the CRTC to ensure that the concerns of the MKO First Nations are not lost in the consideration of grander schemes.

21734 Thank you, Mr. Chairman.

21735 Those are my comments, and I think I did it in 19 minutes.

21736 THE CHAIRPERSON: Yes, about that.

21737 Thank you, Mr. Williams.

21738 MR. WILLIAMS: Okay.

21739 THE CHAIRPERSON: We appreciate that and let me assure you except for yourself, Mr. Inlow and Mr. Wachowich the rest of the parties that you saw here in the room over three weeks are sitting here listening attentively, including all the Commissioners and the staff.

21740 MR. WILLIAMS: Thank you, Mr. Chairman.

21741 THE CHAIRPERSON: We will take our lunch break now.

21742 I am wondering -- it is a few minutes after noon. I wonder whether anyone would have a problem if we reconvened at 1:00? No?

21743 Then we will reconvene at 1:00, at which point we will hear from Mr. Ryan of AT&T Canada.

--- Upon recessing at 1209 / Suspension à 1209

--- Upon resuming at 1303 / L'audience reprend à 1303

21744 THE CHAIRPERSON: Order please, ladies and gentlemen.

21745 Mr. Secretary, I believe you have another couple of exhibits to register.

21746 MR. SPENCER: Yes, I have two more exhibits, Mr. Chairman.

21747 The first one is "AT&TC response to CRTC Exhibit No. 37", which will be AT&TC Exhibit No. 32:

EXHIBIT NO. AT&TC 32: AT&TC response to CRTC Exhibit No. 37

21748 MR. SPENCER: "AT&TC response to CRTC Exhibit No. 40", which will be identified as AT&TC Exhibit No. 33:

EXHIBIT NO. AT&TC 33: AT&TC response to CRTC Exhibit No. 40

21749 MR. SPENCER: Thank you.

21750 THE CHAIRPERSON: Thank you, Mr. Secretary.

21751 So then we will return to the order for final argument, and the next party being AT&T Canada.

21752 Mr. Ryan.

--- Pause

ARGUMENT / PLAIDOIRIE

21753 MR. RYAN: Mr. Chairman, Commissioners:

21754 I hope among the documents you have before you are two of ours. And these that I am referring to are the "Outline of Oral Argument of AT&T" and the documents to be referred to in Oral argument by me this afternoon.

21755 The Commission indicated in Public Notice 2001-37 that one of the purposes of this proceeding is to consider whether the existing regulatory regime balances the interests of what the Commission referred to in the Public Notice as "the three main stakeholder groups" -- that is the consumers, the ILECs and the CLECs.

21756 It will be abundantly clear to you at this stage of the proceeding, having reviewed the written evidence and having listened to a few weeks of cross-examination on that evidence, that the current price cap regime does not achieve the balance that the Commission wanted to achieve when it established the regime in 1997.

21757 The result is that the fostering of competition, which was one of the explicit objectives of the Commission when it established the price cap regime, has not occurred.

21758 The first five documents in the booklet of documents that I have had passed up to you provide what I suggest is a vivid picture of where we are and where we have fallen short to date.

21759 The first document is similar to the chart from the Commission's monitoring report on competition, which Commissioner Cram referred to on a few occasions during the oral proceeding. The difference is that it includes data for the whole price cap period, not just two years.

21760 The second and third documents are two charts which show market loss by the incumbents; page 2 for business market and page 3 for the residence market. These are both based on data provided by the incumbents, as of 2000.

21761 The fifth document is a table which provides data on quality of service, and that is taken from the evidence filed by AT&T in this proceeding and based, in turn, on interrogatory responses filed by The Companies.

21762 Mr. Chairman, these documents each tell the same story from a different perspective. The story is about how the ILECs have been able to exert the market power which their dominance of the market gives them to increase revenues and minimize market share loss, to the detriment of both competitors and consumers.

21763 While ILEC revenues grow, the competitors who survive are suffering losses which increase year by year. Consumers, in the meantime, who have few competitive alternatives available to them, suffer declining quality of service.

21764 The ILECs' success is not due to superior performance in the marketplace. It is instead the product of the significant advantages that the ILECs derive from their position as incumbents. First, their ubiquitous networks, which were largely installed and paid for under the essentially risk-free rate base rate of return regime, and second, the 100 per cent market share that they held as they entered this competitive phase.

21765 The investment required to mount a credible challenge to the ILECs is immense. The $2 billion that AT&T Canada has spent in recent years allows it to address 4 per cent of the market. Despite this expenditure, the reality is that AT&T Canada continues to rely heavily upon ILECs and ILEC facilities to reach its customers.

21766 AT&T Canada still depends upon ILEC facilities, at least in part, to serve about 70 per cent of its customers.

21767 The facilities that AT&T Canada uses are not only the so-called "essential" and "near-essential" facilities. About 95 per cent of AT&T Canada's expenditures on ILEC facilities is for facilities that are classed "non-essential."; 95 per cent.

21768 And that brings me to the nub of the problem: How can CLECs profitably compete with ILECs while they spend so heavily upon ILEC retail facilities and, at the same time, continue to invest in their own networks?

21769 Competition can survive and become sustainable only if the CLECs have access to the facilities and services that they require to provide their services at costs similar to the costs that the ILECs themselves incur, that is, on a competitively neutral basis.

21770 We are therefore asking the Commission to take the policy decision that CLECs should have access to the full range of ILEC facilities and services that they require on a basis that ensures that competitive neutrality.

21771 Mr. Chairman, if you are persuaded that the adoption of a policy of competitive neutrality is in the public interest, a practical issues remains, and that is: How to fix the prices for ILEC services and facilities so that CLECs have access to those services and facilities on cost based terms.

21772 It will be evident to you from our evidence and from our cross-examination, in particular of Mr. Hariton, that we have serious misgivings about Phase 2 and its ability to provide, on its own, an accurate picture of the relevant costs. I will say more in a moment about our concerns about Phase 2.

21773 First, let me describe for you again the AT&T proposal:

21774 As Ms Muir explained during cross-examination, we have addressed the costing issue by developing what bas been referred to as the "self-supply" model.

21775 Under that approach, AT&T Canada estimated the costs that AT&T Canada would incur if it were to provide all of its services over its own network. We believe that set of costs is a good proxy for the costs that an ILEC such as Bell incurs in providing its own services.

21776 The model indicates that if AT&T Canada had the required facilities in place, as the ILECs do, it could have self-supplied the services it gets from the ILECs for about 70 per cent less than it is currently paying the ILECs for those same services.

21777 If the AT&T model is correct, it implies that the alternate cost measure available, that is, Phase 2, gives a very distorted picture of ILEC costs, and for a variety of reasons, we believe that this is indeed the case.

21778 The fundamental problem is that Phase 2 studies are conducted in isolation, on a service-specific basis. The studies are not conducted for groups of services that rely on shared facilities and shared inputs.

21779 In addition, as Mr. Lazzarato put it when he was testifying, Phase 2 is not wall-to-wall. The fact is that Phase 2 was designed to estimate the incremental cost of introducing an individual service.

21780 One consequence is that it does not allow for estimation of costs from a system-wide perspective.

21781 ln addition, it is plain that Phase 2 surfers from a number of internal weaknesses as a tool for pricing competitor services. I will not dwell on these -- not individually, but l have listed them in the outline that I referred to at the beginning of my submissions.

21782 These weaknesses are as follows: Phase 2 results are not reconcilable with the company's financial statements. They are not audited. Phase 2 is very judgment dependent. Phase 2 is about estimating forward-looking costs and, inevitably, depends upon judgment in a way that Phase 3, which deals with historic costs, does not.

21783 One consequence of this is that it is difficult to formulate rules in a Phase 2 world that would prevent a ILEC from giving into a natural bias to overstate the costs that should be borne by a competitor. This is a point that Ms Muir elaborated on in answer to a question from Commissioner Langford.

21784 This problem is exacerbated by the fact that Phase 2 forecasts are not tracked to actuals. Moreover, Phase 2 studies have different vintages; some are quite dated. In an industry which experiences declining costs, that too imparts an upward bias to Phase 2 results.

21785 Finally, Phase 2 results not available for many existing services.

21786 Mr. Chairman, our concerns are not merely theoretical. When the costs used to justify 800 database charges were reviewed by the Commission, for example, it was found that demand had been under forecast, with the result that unit costs bad been overstated by a factor of 2.

21787 You cut the charges for that service in half. But that only occurred after AT&T Canada had filed an application calling for a re-examination of the issue, which was opposed by the ILECs.

21788 Let me refer also to the ongoing saga over local loop charges, because it provides an example of how the ILECs' control of the Phase 2 process can be used tactically by them.

21789 Decision 2001-238 resulted in large reductions to local loop prices. That proceeding was conducted over a period of about 14 months. You will recall that following the decision, Bell filed a new loop study. It transpires that study, which Mr. Hariton candidly admitted had been under consideration since 1991, was launched shortly after the process leading to the decision had begun.

21790 At no time during that proceeding did Bell reveal that this study was underway. The results were not revealed until after your decision was released, with an unfavourable result for the telephone companies.

21791 Would that study have ever been undertaken if the Commission had not commenced a proceeding examining loop costs? Would the fact that a study was underway, or what the results were, ever have been revealed if it had not been in Bell's interest to do so?

21792 I leave you to consider those questions and how your answers impact your level of confidence in Phase 2 and the Phase 2 process as a mechanism for the costing of competitors' services.

--- Pause

21793 MR. RYAN: I want next to say something about the ILEC proposals.

21794 The fact of the matter is that the ILECs do not offer you a way forward. Their suggestion that prices for retail services should be allowed to rise would only aggravate the imbalance between stakeholders that exists at the present time.

21795 It is clear how the ILECs would benefit from their proposal. They would accelerate their revenue growth. But their proposals offer nothing to consumers except the hope that under this price umbrella, competitors may be encouraged to enter and provide them with an alternative to the ILECs.

21796 But by definition, if entry occurs at all, it will be at a new, higher price point. It would be understandable if consumers did not think that this solution leaves them better off.

21797 Moreover, there is every reason to doubt that new entry would in fact occur. For competitors, the ILEC proposal is a poisoned chalice.

21798 The proposed price increases seem to offer the prospect of improved margins. But there is no guarantee that, once prices have been raised, ILECs will not selectively lower them when and where a competitor appears, thereby thwarting successful entry.

21799 In our view, the only way to address the margin issue successfully is to deal with the underlying cost issue directly. If the cost issue is addressed, margins will improve and entry will be possible without artificial price increases.

21800 A word next about the TELUS variant of the ILEC plan. Under that plan prices would not be constrained by the rate of inflation, as they would under the Companies' plan. TELUS would allow prices to rise to an undefined "market rate".

21801 Mr. Chairman, as a general matter, TELUS is long on theory and short on practical advice, and this is a good example: When asked by Commissioner Colville what that "market rate" for local service might be, TELUS had no answer. Moreover, no one on the TELUS panel seemed particularly troubled by that fact. I doubt that the Commission will be so complacent.

21802 Let me turn next to the matter of the so-called new competitors. If one thing has become clear during the oral portion of this proceeding, it is that the notion that there are significant competitors out there who can step into the shoes of AT&T Canada and CallNet is illusory.

21803 One company that the ILECs have promoted as an emerging alternative to AT&T Canada and CallNet is Group Telecom. But it is clear that Group Telecom is not immune from the difficulties facing other competitors.

21804 Its stock price has fallen from an issue price of about $20 to $1.50 in 18 months. Its earnings growth stopped in the last quarter and at least three investment houses, including one that is affiliated with one of its major investors, has downgraded the company's stock.

21805 The company says that its capital spending will be only $150-175 million annually from this point forward, about half of what it has been up until now. Whether that reduction is part of the company's original plan, as Mr. Shoemaker suggested in his testimony, or is a consequence of the company's current financial situation, is perhaps beside the point.

21806 It is clear that Group Telecom, which has a market share of about 1 per cent at present, will not be increasing that share significantly if it is not intending to spend significant capital.

21807 So, what about the cable companies?

21808 EastLink is an interesting operation which appears to have had success in capturing market share in its operating territory, but with only 15,000 customers, and no ambitions outside of its territory, it is going to remain a niche player.

21809 As for RCI, Mr. Watt has told you that RCI has no plans to offer telephone service before 2003-2005, and there is no indication that Shaw will ever offer telephone service. As Mr. Nicholson put it during his testimony:

"Shaw has made a clear strategic decision not to engage in the telephony business." (As read)

21810 That leaves TELUS and Bell Intrigna to be considered. Bell Intrigna apparently has about 900 customers, according to MTS' annual report for 2000. Although Bell Intrigna is one of the companies that Mr. Talbot cautiously described as "making progress" in his testimony, on October 9 UBS Warburg downgraded MTS' stock precisely because of MTS' exposure to Bell Intrigna.

21811 And I give you, in Document 7 in the bundle of documents, a document I referred to during my cross-examination. In that document, UBS Warburg has raised questions about the potential for the Bell Intrigna operation as a consequence of the resignation earlier this month of the CEO and what are described in the document as "new revelations about operational challenges"

21812 As for TELUS Integrated and its successor company, well, they are a bit of a mystery. TELUS has not made public its customer numbers, but we at AT&T Canada doubt that it has any more than, say, 600 customers. That would give us, between the two ILECs, about 1500 customers in all.

21813 In response to a question by Commissioner Williams, Dr. Taylor said the following:

"...if the entire system were to fail ... and the only CLEC left standing was TELUS' CLEC and Bell's CLEC out of region -- I'm not saying that would happen, but in that very, very worst case, that's still not bad."

21814 We beg to differ. If you were to accept that scenario as a possible outcome, you would be accepting a return to the market structure that existed prior to Decision 97-9: a world divided between the two regional monopolies. I suggest that Dr. Taylor would be one of the few economists who would see such a duopoly as an acceptable outcome. We submit that it would mark the failure of the policies you endorsed in Decision 97-9. We are confident that it is an outcome that you would reject.

21815 Mr. Chairman, CallNet has also put a proposal forward. While we agree with much of what CallNet has said in this proceeding, we cannot agree with its proposed solution to the extent that it relies upon Phase 2. As we have already explained, Phase 2 is an inappropriate tool for costing competitor services.

21816 Moreover, stemming from its reliance on Phase 2, there are a number of practical difficulties associated with implementation of the CallNet plan that became apparent in the cross-examination of CallNet by Mr. Kidd. These are detailed in our written argument we are filing this afternoon.

21817 I will pass over a few points including in my outline, Mr. Chairman, in turn, directly to our conclusion.

21818 Have no doubt about it, Mr. Chairman, what is at stake in this proceeding is the survival of competition.

21819 This proceeding offers the opportunity to correct the imbalances that have became apparent since Decision 97-9.

21820 The biggest shortcoming of the new regime is its failure to foster competition. The cause of that failure is the lack of competitive neutrality as between ILEC and CLEC which stems from the cost advantages that the ILEC has inherited as a result of its former monopoly status.

21821 The way to address this issue is to approve the FBC rate as proposed by AT&T Canada. At this stage, and in light of the competitors' financial positions, half measures will not suffice. AT&T Canada's proposal will allow for the more rapid and widespread development of competition in both business and residential markets.

21822 The impact of the proposal on the ILECs will not be difficult for them to absorb. We estimate that the financial impact on ILECs as a group will be in the order of $500 to 600 million in 2002. To put that figure in perspective, ILECs can be expected to go into the next price cap period with revenues in the order of $1.1 to 1.3 billion in excess of their 1997 allowed rate of return of 11 per cent. This surplus includes the impact of the changes to the contribution regime, often referred to by TELUS and The Companies. We detail the calculation from which we derive these figures in our written argument.

21823 We suggest that the working of the AT&T Canada proposal would be one of the matters that the Commission look at again as part of its review of the next price cap.

21824 When we get to that point, how will we measure our success or lack of it? If the AT&T Canada plan has been successful there should be more than two financially viable competitors in the market, in addition to the ILECs themselves.

21825 CLECs should be continuing to invest in new facilities to improve their ability to serve customers entirely on-net. It is difficult to set a target number, because if the competitors are successful in attracting new customers it will be a challenge to build the facilities required to serve them fast enough to permit continuous improvement in the on-net figure.

21826 Mr. McLennan said in evidence, though, that he would like to be able to increase the percentage of AT&T Canada customers served on net to 50 per cent.

21827 Before we can start down that road, however, we are looking to the Commission for an initiative that will correct the imbalances which exist in the present model and put the ILECs and the CLECs on an equal footing in respect of costs.

21828 The proposal we have advanced, Mr. Chairman, which has as its object the creation of conditions of competitive neutrality, will accomplish that.

21829 That concludes my comments, Mr. Chairman, except for one point: We do not agree with Mr. Henry on every point. We do, however, without hesitation, endorse the words of thanks he extended to the Commission staff in his remarks this morning.

21830 Thank you.

21831 THE CHAIRPERSON: Thank you, Mr. Ryan.

21832 The next party, then, will be CallNet.

21833 Mr. Koch.

ARGUMENT / PLAIDOIRIE

21834 MR. KOCH: Thank you, Mr. Chairman.

21835 Good afternoon, Commissioners.

21836 The Commission appears to face a difficult dilemma: How to protect consumers while promoting competition, all in a situation where competitors have made only limited inroads into the incumbents' monopoly.

21837 CallNet is offering a solution to this dilemma that is aimed at promoting broad-based competition. Broad-based competition is competition that allows all Canadians to taste the benefits of lower prices, increased innovation and choice. The policies of the Commission and the government cannot be fulfilled by competition that is restricted to business customers located in downtown cores.

21838 The problem facing the commission is nor difficult to articulate: Local exchange competition is not healthy and is limited both geographically and demographically. Competition appears to be healthier in the long distance market, but this will not be sustainable without significant progress in the local market.

21839 Telecommunications markets have evolved. The long distance and local markets are no longer discrete. Sprint Canada does nor compete with Bell Canada's long distance offering. It competes with the complete bundle of telecommunications services purchased by consumers.

21840 The Commission established a regulatory framework for long distance competition in 1992 and local competition in 1997. Since then, a lot has been learned about the challenges of introducing competition and local exchange competition in particular.

21841 The first challenge to competition is the immense capital requirements of this industry. These requirements exist regardless of the entry strategy chosen by a competitor. However, they are particularly formidable for an entrant, like CallNet, pursuing a strategy for broad-based entry, including entry into the residential market. The economics of serving residential customers and business customers in areas with lesser density are significantly different than those of serving business customers in downtown areas.

21842 One lesson we have learned the hard way is that it will be necessary for competitors to rely significantly on network elements obtained from ILECs for the foreseeable future. In the meantime, by building a customer base, competitors can develop the scale necessary to make construction of their own networks economic.

21843 The second major challenge facing new entrants lies in the advantages of incumbency enjoyed by the ILECs. These include the fact that the incumbents possess ubiquitous, largely depreciated networks. However, they do not stop there.

21844 The incumbents start with 100 per cent of the customers and if they had their druthers, they would quite naturally like to keep it that way.

21845 As competitors, they have the normal incentives to engage in aggressive win-back and other strategies. However, their customer base also provides them with a unique opportunity: to engage in anti-competitive strategies with no cost to them.

21846 Given the flexibility to do so, they are able to defend their market share by targeting price reductions to areas and customers with competitive options, and they can pay for these price reductions by raising prices for areas and customers without competitive options.

21847 The ILECs also benefit from customer inertia. Starting with all of the customers, they do not have to concern themselves with the transaction and customer acquisition costs which competitors face. Competitors must win market share one customer at a time.

21848 The service charge incurred by a competitor to transfer a loop may not seem large when viewed in isolation. However, given the churn rate and win-back strategies faced by entrants, any additional acquisition cost can in fact frustrate a competitor's entry. This problem is particularly acute in the residence market, where relatively low monthly revenues are generated from individual customers.

21849 The ILECs like to talk about efficiency. Don't let them tell you that they compete with competitors strictly based on their relative efficiencies. Unless the advantages enjoyed by the incumbents are addressed, a new entrant's efficiency is no match for an incumbent's head start.

1335

21850 Remember, asymmetrical regulation -- rules that apply only to the ILECs -- make sense in a marketplace were the ILECs enjoy asymmetrical advantages.

21851 Now, despite the problems facing competition, the general state of the telecommunications industry in Canada holds a lot of opportunity. Canadians enjoy near universal penetration and reasonably good quality of service over all. Canada's ILECs have prospered under the current price cap regime, achieving rates of return in excess of 20 per cent.

21852 Consumers have benefited too, although business customers have experienced the largest decline in their communications costs.

21853 Therefore, while the Commission does face a difficult quandary as to the best way to make competition a reality, it happily does not face an immediate need to bring prices down, nor does it face a problem of maintaining the viability of the incumbents or their ability to provide universal service of a sufficiently high quality to all Canadians.

21854 Having detailed the problems and opportunities facing the Commission, I turn now to solutions.

21855 Before discussing specific solutions, it is useful to say a few words about risk.

21856 Don't be deluded into thinking there is such a thing as a risk-free solution. Like the proverbial "free-lunch", there is no such I thing as a risk-free solution, or at least there is no risk-free solution worth implementing.

21857 The greatest risk associated with some of the solutions being advanced in this proceeding is that they will simply fail to bring about competition.

21858 The three major stakeholder groups, incumbents, consumers and competitors, have each offered radically different solutions to the Commission. Unlike those offered by consumers and competitors, however, the incumbents' solution does not even acknowledge the existence of a problem.

21859 The incumbents choose to interpret the limited inroads made by competitors as the natural progression of competition. This is not a credible response.

21860 Moreover, this response offers no solution for expanding competition beyond its existing limited footprint where the economics of building a competitive network are dramatically different.

21861 For the residence market, the incumbents merely offer speculation that one of their by now familiar "silver bullets", cable and wireless, will do the job. This isn't an impossible scenario. However, these silver bullets are like speculative stocks, they are a bonus if they work out, but they may take longer to pay returns than first anticipated, and you sure don't want to be relying on them in the meantime.

21862 To the extent that the ILECs admit of a problem with local competition, they put it down entirely to the level of retail rates. One of the greatest fallacies regarding the ILECs' proposals is that they will solve this problem.

21863 With the exception of high-cost serving areas, the fact is that the ILECs are not proposing that rates go either up or down. They are merely proposing that they be given the flexibility to raise or lower rates as they see fit in order to respond to competition. Make no mistake, therefore, greater pricing flexibility for the ILECs is not a pro-competitive measure, it is a measure to benefit their own shareholders.

21864 The ILECs agree that the price they charge to competitors for inputs is important. In fact, they rest their arguments for deregulation of retail rates almost entirely on the regulation of these input or wholesale prices. In effect, they argue that because these so-called "accommodative entry policies" provide new entrants with access to their facilities at incremental cost plus a mark-up, either entry will occur, or the mere threat of entry will discipline their behaviour in the retail market.

21865 This is where theory and practice so famously depart. To begin with, the ILECs' arguments assume an infallibility in the costing methodology applied to these inputs and they ignore the fact that even the mantra of "incremental cost plus mark-up" is meant to be a proxy for a market rate.

21866 Second, the "accommodative entry policy" argument assumes that the theory of contestability -- a great theory if it works -- does in fact work. Remember this theory: that the mere fear of entry will discipline the ILECs behaviour? Well, Bell Canada couldn't have been all that frightened of Sprint Canada's entry into the residential market to have raised its rates for optional local services by 60 per cent.

21867 The third leg of the ILECs' proposal is that a productivity offset only be applied to their primary exchange services in high-cost areas. By way of example, under the first price cap regime a productivity factor was applied to approximately $1.5 billion dollars of TELUS' revenues annually. By contrast, if TELUS' proposal is accepted by the Commission, annual revenues of only $222 million will be subject to the offset.

21868 In all, the ILECs' proposals would yield productivity gains of only $26 million annually. You heard me: $26 million. It is possible to win more than that in the lottery.

21869 It is important to bear in mind that the ILECs are not proposing to limit the application of an offset to high-cost areas because these are the only areas in which they expect productivity improvements. Rather, this was their solution to the problem that using productivity gains to drive down retail rates would further dampen the incentive for competitive entry.

21870 CallNet agrees that mandatory retail rate reductions are not in the public interest. However, the ILECs' solution -- to keep all of the money -- seems too convenient, to say the least.

21871 The problem with the ILECs' solutions for the lack of competition is that they are all premised on the abundance of competition. In other words, in the face of hard evidence to the contrary, the ILECs assume away the problem itself. The ILECs' solutions are likely to lead to less competition not more. In the meantime, there will be virtually no discipline either competitive or regulatory on their retail pricing.

21872 The result will be an even greater transfer of wealth from consumers to the ILECs' shareholders than that which occurred under the first price cap regime.

21873 The consumer groups have proposed a conventional price cap regime that will continue to apply the ILECs' productivity gains to drive down rates. However, they propose to draw on productivity gains from services not subject to the price cap itself. CallNet shares the consumer groups' views of how to establish the X factor, including their recommendation that the ILECs' productivity across a broader set of services than those subject to the cap be drawn upon to serve the public interest.

21874 CallNet also agrees with these parties that real competition is in the public interest. However, where we depart is on how to get there.

21875 The consumer groups have largely given up on competition in the residential market. If implemented, their proposals to continue driving down rates through regulation may effectively preclude these consumers from ever tasting the benefits of competition. They will also entrench permanent price cap regulation of the ILECs.

21876 CallNet's solution is to make the changes necessary to bring about broad-based competition. The aim of CallNet's proposal is to ensure that real competition, not merely the threat of competition -- not perpetual regulation and not merely competition in the downtown core of Canada's largest cities -- will ultimately deliver the greatest benefits for consumers in terms of price, quality, innovation and choice.

21877 CallNet is therefore proposing that the inputs competitors require from the ILECs be priced at the ILECs' real incremental cost of providing the service.

21878 This proceeding has emphasized the extent to which the application of the Phase 2 costing methodology is an art as opposed to a science. Accordingly, when reviewing the ILECs' costing information, the Commission must satisfy itself that the costs being presented are the ILECs' true incremental costs. CallNet's solution recognizes the importance of competitors' access to key ILEC inputs at reasonable prices, founded on real costs.

21879 This solution is consistent with the Commission's pragmatic and dynamic approach to economic efficiency. The commission has recognized the importance of competitors' building their customer base in order to make investments in their own facilities economic.

21880 This was the pragmatic rationale that motivated the Commission at the outset of local competition to go beyond the mandatory unbundling of only "essential facilities". This was also the pragmatic rationale that motivated the Commission, once it w as clear that competition had not made significant progress, to remove the sunset period on this arrangement.

21881 What CallNet is now asking you do is to recognize, with the benefit of yet further experience, that the public interest goal of broad-based competition will not be met without making adjustments to the pricing of a broader range of inputs used by facilities-based competitors.

21882 In recognition of the fact that CLECs compete with the ILECs' based on a bundle of local, long distance and data services, CallNet is asking that facilities used to provide all elements of the bundle be priced according to its proposal. Given the evolution of the market, limiting this pricing to those facilities used exclusively in the provision of local access would be totally ineffective to promoting competition.

21883 CallNet's proposals for broad-based competition do not stop with the pricing of ILECs inputs. CallNet is also proposing a variety of measures aimed specifically at overcoming the challenges faced by competitors in the residential market. These include the weighting of charges which a CLEC most pay to an ILEC to transfer a customer's loop. They also include the application of a price floor to the ILECs' promotions in this market.

21884 Customer acquisition costs represent CallNet's largest category of expenditure. This makes CallNet particularly vulnerable to the incumbent's promotions and win-back strategies.

21885 CallNet is not asking for customer balloting or divestiture of the local loop. Rather, it is requesting modest but meaningful measures to try to level the playing field between providers who start with all of the customers and providers who start with none.

21886 Consumers will be the major beneficiaries under CallNet's proposal. CallNet, and hopefully others, will aggressively roll-out service to a much broader market of customers who will have choice in their entire bundle of services for the very first time.

21887 CallNet recognizes, however, that competition will not be extended to everyone at the same rate. To compensate for this, CallNet has designed the tag-along mechanism to ensure that all consumers are able to taste some of the benefits of competition, if only on a virtual basis, and protect both consumers and competitors from the ILECs' targeted pricing strategies.

21888 CallNet's solution is not risk-free. No solution offering real rewards could ever be. But the risks associated with trying CallNet's solution are not great. We fully expect that the ILECs will parade an exhaustive list of economic demons before you in order to dissuade you from implementing our solution. In our written argument we have anticipated these arguments and dealt with them.

21889 Don't be swayed by these familiar tactics. You have heard the doomsday scenarios before and none of them have transpired. You have taken pragmatic steps before to encourage competition and the sky hasn't fallen in.

21890 Moreover, resist the notion that any risks associated with real solutions cannot be addressed if and when they arise. Risks are just that, they are risks. They can be managed, as the companies' own expert witness, Dr. Taylor, acknowledged.

21891 CallNet's solution recognizes that competition should not be the exclusive preserve of business customers located in urban areas. CallNet's solution does not rely upon speculation, nor does it rely on abstract theories such as contestability or accommodative entry policies.

21892 Finally, CallNet's solution does not rely on perpetual regulation. CallNet's solution relies on the realities facing competitors trying to match their efficiencies with the incumbents' head start. It relies on the Commission's and the government's faith in competition.

21893 Finally, it relies on a plan that requires CallNet to make a massive investment in competition while other major stakeholders make a modest investment to promote the public interest.

21894 Unlike a speculative investment in "silver bullets", CallNet's promise is that this investment -- your investment, Commissioners -- will bring about real results.

21895 I want to thank you for your attention today and for your attention throughout the hearing and wish you good luck in your deliberations.

21896 Thank you.

21897 THE CHAIRPERSON: Thank you, Mr. Koch.

21898 That takes us now to GT Group Telecom.

21899 Mr. Fabes and Ms Gilfillan.

ARGUMENT / PLAIDOIRIE

21900 MR. FABES: Good afternoon, Mr. Chairman, Members of the Commission and Commission staff.

21901 My name is Robert Fabes. I am Senior Vice-President and General Counsel with GT Group Telecom. With me today is Fiona Gilfillan, our Vice-President, Regulatory Affairs.

21902 Group Telecom welcomes the opportunity that has been provided by Public Notice 2001-37 to review the existing price cap regime and to establish the regulatory framework that will apply in 2002 and future years.

21903 La Commission reconnaît depuis quelque temps déjà que les intérêts des consommateurs sont et seront mieux servis par le développement de la concurrence.

21904 Le Canada est un des nombreux pays dans le monde qui défend ce principe et qui l'applique à son secteur des télécommunications. La Commission a joué un rôle déterminant dans cette démarche et prenant, depuis les deux dernières décennies, plusieurs décisions importantes qui ont contribué à progressivement démanteler les barrières du monopole.

21905 Ces mesures ont aussi permis à la Commission de remarquer qu'une augmentation de la concurrence amenait invariablement des bénéfices économiques et sociaux aux Canadiens et qu'elle est, donc, d'intérêt public.

21906 Je crois que nous pouvons affirmer qu'aucun individu présent ici aujourd'hui ne conteste la politique fixée par le gouvernement et la Commission à savoir que la concurrence est dans l'intérêt de tous. Je suggère même que personne ne dispute le fait que la concurrence locale ait manqué à sa réalisation comparativement aux objectifs anticipés lors des débuts du régime de plafonnement des prix.

21907 One year ago, in connection with Public Notice 99-6: Review of Contribution Collection Mechanism and Related Issues, we informed the Commission of Group Telecom's plans to become the leading telecommunications service provider to Canadian businesses, institutions and other telecommunications carriers and service providers. Since that time, Group Telecom has become Canada's largest independent, facilities-based telecommunications provider, with a national fibre-optic network linked by over 372,000 strand kilometres of fibre-optics.

1350

21908 Group Telecom's unique backbone architecture is built with technologies such as Gigabit Ethernet for delivery of enhanced network performance and a unique suite of services that truly differentiates us from our competitors.

21909 Group Telecom now operates in 60 cities in 17 markets across nine provinces with metropolitan local networks from Victoria, British Columbia to St. John's, Newfoundland.

21910 In July of last year, we reported to the Commission that we served over 3,000 customers and had over 20,000 access lines. That number has grown to over 13,500 customers and 85,000 access lines. Seventy-eight per cent of those access lines are located on our own network and, as we move forward, Group Telecom expects to provision 90 per cent of all new customer access lines on our network.

21911 Much has been made of the fact that many other "new entrants" have ceased operations or have filed for protection under Canadian insolvency laws.

21912 In our view, market consolidation is inevitable in the evolution that occurs when a market is opened up to competition. We saw the same type of market consolidation in the early days of long distance competition.

21913 The competitive market is a great arbiter of the success or failure of various entry strategies. Some parties have pointed to the market shakeout as evidence that something needs to be done. We see it as evidence that the Commission and the market are largely operating as they should.

21914 Group Telecom now appears before you as one of only three entrants actively participating in this proceeding and I would like to suggest that we at Group Telecom are in a position to provide a particularly important perspective on the issues under consideration.

21915 While I do not want to suggest that Group Telecom has some magic formula for success, it is also true that we do have a business plan that we are willing to put to the test in the market without asking for handouts, either in the form of massive price subsidies or in the form of price increases in quasi-monopoly markets. Group Telecom is here to ask you for the opportunity to test our business plan on a level playing field.

21916 Like the Commission, we also recognized the fundamental importance of facilities-based competition. Group Telecom owns and controls its fibre and other network components, allowing us to lead with our data products, a market segment that is growing much faster and has higher margins that other services.

21917 Our facilities-based strategy allowed Group Telecom to secure the financing necessary to achieve this goal. Group Telecom's business plan remains fully funded with over $600 million in current liquidity. We will continue to focus on controlling our costs and invest our capital in high return on-network opportunities to ensure we make progress throughout this current economic slowdown.

21918 In our written final argument in this proceeding, we will provide our detailed recommendations regarding the appropriate approach to be taken in constructing the Commission's next price cap regime.

21919 However, in our oral arguments to you today, we would like to focus on three main issues.

21920 Number one: The appropriate framework for local competition.

21921 Number two: The impact of the structure of the price cap regime on local competition.

21922 Then my colleague, Fiona Gilfillan who will address our third point: Group Telecom's specific proposals for the elimination of barriers to facilities-based entry.

21923 I would now like to turn my attention to the first and most fundamental issue before you in this proceeding.

21924 Mr. Chairman, it is Group Telecom's position in this proceeding that the framework for competition does not require significant changes. Although there are other parties to this proceeding who have proposed alternative models for competition, in our view, it is only with facilities-based competition over competing networks that Canada will derive the full benefits of genuine competition.

21925 Facilities-based competition provides an incentive for all LECs to continually upgrade the capacity and capability of their networks and to introduce new technologies and services to the marketplace. Only with facilities-based competition will entrants have the ability to differentiate themselves and to provide innovative service offerings and improved levels of service quality.

21926 The creation of separate networks increases the supply of facilities, driving down prices and improving the availability of facilities for advanced communication services, such as high-speed access. It is only with facilities-based competition that end-users are truly provided with choice, including choice in infrastructure and choice in services.

21927 Despite all of these critically important benefits, however, it is abundantly clear that facilities-based competition has not advanced as quickly as previously anticipated. In fact, it was the slow rate of growth of facilities-based competition in the local market which underlay the Commission's recent decision to extend indefinitely the period during which the availability and pricing of near-essential facilities would be mandated.

21928 However, this does not mean that the existing regime requires fundamental changes. CallNet, for instance, has argued that the Commission's vision for and implementation of facilities-based competition was unrealistic. CallNet states that a new approach is urgently required, one that accepts and accommodates the fact that new entrants will, for the foreseeable future, require significant use of a comprehensive suite of ILEC services to compete.

21929 CallNet has also suggested that the Commission's current framework provides an artificial inducement for facilities-based entry.

21930 We at Group Telecom strongly disagree with this proposition. The Commission has unbundled and priced essential and near-essential facilities at cost-based rates. In the case of essential facilities, there is no time limitation on the mandated pricing and unbundling that has been ordered by the Commission. In the case of near-essential facilities, as I mentioned earlier, the Commission has extended the sunset period until there are sufficient alternate facilities. There are no limitations on resale. Carriers are free to use whatever retail or unbundled services that they wish to supplement their own network.

21931 Group Telecom believes that the current competitive framework provides balanced incentives for entrants to provide service by means of their own facilities or through the use of facilities and services from the ILECs. The current framework is neutral with respect to a CLEC's decision to build versus lease facilities. Accordingly, it is left to entrants and the marketplace to determine the optimal strategy for entry and the optimal combination of leased and owned facilities.

21932 This is as it should be. Not all strategies and not all players can and will be successful. However, this is the very essence of competition.

21933 Is it true that entrants are reliant on ILEC facilities? Yes, but entrants are only truly reliant on "essential" and "near-essential" facilities, and this reliance will continue for the foreseeable future.

21934 However, unlike some of the other participants in this proceeding, Group Telecom's strategy is to reduce its reliance on ILEC-supplied facilities wherever and whenever possible.

21935 By contrast, it is the strategy of AT&T and CallNet to reduce the price of all ILEC facilities and services which are used by competitors, regardless of the fact that some of these facilities and services do not constitute essential or near-essential facilities. This strategy will perpetuate and foster reliance on ILEC-supplied facilities.

21936 Group Telecom believes that its facilities-based strategy is essential, not only to its success but to the development of sustainable competition. A framework that provides an economic opportunity for facilities-based entry is the only option. Group Telecom is firmly of the view that the Commission's current competitive framework is sound.

21937 AT&T and CallNet have proposed sweeping changes to the rules for pricing services that are considered to be competitor services as well as for several retail services that are purchased by Canadian carriers. These proposals do not have, as their focus, the removal of legitimate barriers to entry. Rather, they are a misguided attempt to somehow make profitable a heavily resale-based strategy which, in reality, is fundamentally not viable.

21938 What is more, the AT&T and CallNet proposals attempt to artificially sustain this resale strategy by mandating subsidized prices when entrants lease ILEC-provided services and facilities, even though some of these services and facilities do not fall within the definitions of "near-essential" or "essential" facilities. In fact, many of the services that would become eligible for these subsidies are not even used in the provision of local service.

21939 So the impact of subsidizing these services will not even materially impact local competition. In our view, these proposals appear to be more about creating margins in the toll business than levelling the competitive playing field in local markets.

21940 During the course of the oral hearing, CallNet claimed that it required significant price breaks on competitive wholesale services in order to connect its various ILEC collocations. However, clearly CallNet needs these price breaks not because it is unable to build out facilities to its collocation sites, but because it has chosen not to do so.

21941 By way of example, in response to an undertaking requested by the Commission, Bell indicated that in almost 60 per cent of the collocates in its territory, the collocated carrier has requested the use of its own facilities between the collocator space and its own switch.

21942 It is standard practice for Group Telecom to use its own facilities. We self-provision the shared portion of the network and only rely on collocation to provide the dedicated customer loop until such time as we have built to that customer. We use collocation as a means to an end, not an end in itself.

21943 As we understand it, AT&T's proposal is even more extreme than CallNet's. AT&T has requested even larger subsidies. AT&T acquired a facilities-based entrant, MetroNet, and continues to promote itself as a facilities-based carrier. Even if you accept the logic behind its proposal, it appears as though AT&T has abandoned further facilities-based entry in favour of subsidies that will allow it to benefit from the ILECs' network without continuing to build one of its own.

21944 We think that it is important to point out that many of the services and facilities for which AT&T and CallNet are seeking subsidies are facilities and services which Group Telecom now provides. These wholesale services form an integral part of Group Telecom's strategy, and the provision of all such wholesale services provides the foundation upon which a facilities-based entrant will derive the revenue necessary to continue to invest in building out a network.

21945 Mr. Chairman, in our view, we think that adoption of either AT&T or CallNet's proposals would: profoundly alter the nature of competition; seriously undermine the incentives for facilities-based entry; foreclose economic opportunities for further efficient facilities-based entry; skew the framework towards resale of non-essential ILEC facilities; threaten the ability of existing facilities-based entrants to recover the costs of their network; make permanent entrant's reliance on ILEC near-essential and non-essential facilities; and further entrench the ILEC's facilities near monopoly.

21946 Acceptance of CallNet and AT&T's proposals would signal an end to facilities-based competition. If there is no facilities-based competition, there is no incentive for either entrants or ILECs to innovate, expand or enhance either with respect to facilities and services or with respect to service quality. Acceptance of CallNet and AT&T's proposals would create the facade of competition when in actual fact it will be nothing more than a form of commoditized resale over the ILECs' networks.

21947 In our view, both Canada and Canadians would suffer from this profound step back from our earlier commitment to facilities-based competition and Canada will quickly fall behind its global peers as its telecommunications infrastructure ceases to evolve.

21948 Group Telecom urges the Commission to reject these shortsighted proposals to manage market outcomes.

1405

21949 In summary on this point, Group Telecom submits that the overriding objective of the new regulatory regime which should result from this proceeding is the continued development of a facilities-based framework for competition.

21950 We consider that the key to further growth of facilities-based competition is the elimination of market barriers which prevent CLECs from generating revenues from their network investments and from making further investments in new technologies and services. These investments will not be made unless there is a reasonable opportunity for recovery of that investment.

21951 I now turn to our second issue.

21952 In determining the appropriate pricing constraints to be applied to capped services, the Commission must be mindful that the price cap structure not become a barrier to entry. In particular, any revised price cap mechanism must not artificially ratchet down retail rates in those markets which currently are or can be expected to be the focus of CLEC entry strategies.

21953 We at Group Telecom believe that the structure of the current price cap mechanism has placed artificial downward pressure on the rates in the business sub-basket and, to a lesser degree, the rates in the "Other" capped sub-basket. These two sub-baskets cover most local private lines and business exchange services, other than Centrex.

21954 The retail markets represented by these two sub-baskets have been virtually the sole focus of CLEC market entry to date. These markets also represent important markets for Group Telecom's wholesale business.

21955 We submit that both market forces and the potential for competitive entry provide a sufficient basis for easing the pricing constraints associated with the current business and "Other" capped sub-baskets.

21956 In our written final argument, we will provide our more detailed recommendations regarding the most appropriate method of ensuring that the structure of the price cap regime does not discourage or impede the development of competition in the market.

21957 Mr. Chairman, Ms Gilfillan will continue with the remainder of our oral remarks.

ARGUMENT / PLAIDOIRIE

21958 MS GILFILLAN: I would like to turn to our third and final issue, which is the pressing need for the Commission to adopt the proposals that have been recommended by Group Telecom in this proceeding.

21959 These proposals focus on the elimination of barriers to facilities-based entry in the market.

21960 The first of these proposals involves the adoption of safeguards to limit the ability of the ILECs to restrict market entry through the use of long-term contracts.

21961 As mentioned earlier, Group Telecom has invested and will continue to invest a significant amount of capital in Canada as we build out our network across the country. However, building a network in a competitive environment is a risky endeavour. There are risks involved in acquiring capital, risks involved in building the network itself, and there are risks involved in acquiring a customer base.

21962 In the face of intensifying competition, the ILECs have an incentive to lock up as many customers as possible through the use of long-term contracts.

21963 For the ILECs, this is not a difficult thing to do. The ILECs have a ubiquitous network that they built in a risk-free rate-of-return environment and on the first day of competition in the local market they started out with 100 per cent of all of the customers in the market.

21964 Although it is quite predictable that the ILECs would want to keep all of their customers, there is simply no opportunity for facilities-based competition to take hold when the ILECs have an incentive to sign up their the entire base of customers to a series of long-term service contracts.

21965 Mr. Chairman, Group Telecom is committed to a facilities-based market entry and to customer choice, two of the very same goals that the Commission articulated in Decision 97-8. All that we are asking is that the Commission give meaning to these goals by adopting a set of safeguards relating to the ILECs' use of long-term contracts so that Group Telecom, or any other CLEC that has built out a network, will have a reasonable opportunity to offer customers a choice of competitive service providers.

21966 In our view, customers should not have to wait for five or 10 years for their ILEC contracts to expire before they can benefit from the presence of facilities-based competitors in the market. If an ILEC service remains the best value proposition for the customer, then the customer will choose to stay with the ILEC.

21967 We believe that competition is all about choice, and that waiting five to 10 years for such choice isn't fair to customers and it isn't fair to companies like Group Telecom who are investing in Canada and Canadian network infrastructure.

21968 For these reasons, we urge the Commission to continue to support its goal of achieving facilities-based competition by adopting the specific safeguards relating to long-term contracts that are contained in our final written argument in this proceeding.

21969 I would now like to turn to the second of our proposals in this proceeding which relates to quality of service.

21970 It is Group Telecom's position that penalties should be imposed on the ILECs if they fail to comply with Commission mandated standards of service for all essential and near-essential services that are delivered by the ILECs to competitors. The payment of penalties for breaches of quality of service is a common feature of service contracts that are entered into between parties that operate in competitive markets. Unfortunately, there is no competitive market for essential and near-essential facilities at the present time. By definition, these services are not yet competitive and we must therefore rely on regulation in order to achieve terms and conditions of service that would otherwise be negotiated in a workably competitive market.

21971 In this respect, we agree with the words of The Companies' expert, Dr. Taylor, that it makes no sense to regulate price without regulating quality.

21972 In this proceeding, TELUS has argued that Commission intervention on quality of service matters is not warranted because market forces will ensure that adequate levels of service are provided. This is a ridiculous proposition when the services in question are provided on monopoly or near monopoly basis. There are no competitive alternatives to essential and near-essential services and this precisely why the ILECs' quality of service must be measured and rewarded accordingly.

21973 TELUS has also argued in this proceeding that until there is a problem, there is no need to regulate quality of service. However, during cross-examination of TELUS' witnesses in this proceeding, our counsel reviewed TELUS' historical record of providing service to CLECs and pointed out that it has been nothing short of deplorable.

21974 TELUS has countered these findings by arguing that all of these problems are just "transitional". "Trust us", they say, "and we will fix the problems." But why should we trust them? One just has to look at their retail track record to know the answer to this question.

21975 In 1997 the Commission introduced a mechanism of establishing quality of service targets for a variety of ILEC-provided services and it ordered the ILECs to monitor and report publicly on their record of meeting these targets. In the case of TELUS, what was that record? Well, for example, from the beginning of 1998 until the end of 2000, TELUS missed every possible measure on the quality of service indicators that the Commission had established for repair requirements.

21976 The other ILECs in this proceeding have adopted a different position than TELUS. They agree that penalties can and maybe even should be applied to the services which they provide, but only to indicators that are "finalized".

21977 In this proceeding, Group Telecom has proposed penalties to six of the new indicators that were finalized. The Companies have indicated, however, that they need more time to determine the "appropriateness and reasonableness" of the indicators.

21978 Mr. Chairman, these indicators are based on Commission-approved intervals, many of which have been in place since 1998. The Commission and the industry have already determined that the intervals are reasonable and appropriate. The Companies have had the past four years to determine the reasonableness of the intervals. They don't need another four years.

21979 The Companies have also argued that they need six months for the ILECs to implement modifications to their billing systems. In response to this argument, Group Telecom has offered to initiate the bill based on the report that the ILECs themselves produce. This was still not good enough.

21980 Mr. Chairman, it is quite clear that the ILECs are looking for any excuse which they can find in order to avoid the imposition of penalties for failure to meet quality of service targets.

21981 It has also become increasingly apparent that penalties are vitally important to the proper functioning of a competitive market.

21982 As I indicated earlier, the penalties that we have proposed in this proceeding relate to services upon which we rely solely or predominantly on the ILECs to provide. As new entrants in the market, we must assume the blame for any problems that we might encounter in provisioning service to our customers, regardless of whether or not that problem is our fault.

21983 Our customers do not want to hear, nor can they understand why, the ILECs may be responsible for service provisioning problems. When we have problems, we compensate our customers. We are simply asking that the ILECs compensate us in the same manner, although not necessarily to the same extent that we do to our own customers.

21984 It is also important to point out that we do not seek compensation to make us whole for any remedy that we have given to our customers. We simply seek incentives in the form of penalties that will ensure that the ILECs have the proper incentives to live up to the Commission-mandated requirements.

21985 The history to date is that without these incentives some of the ILECs will not meet their commitments. For those that do meet their commitments, they will not have to pay penalties.

21986 Group Telecom believes its proposal in this regard to be reasonable.

21987 First, our penalties track quality of service indicators that have already been finalized and adopted by the Commission.

21988 Second, our penalties are tied to the revenues that the ILECs generate from the service being measured.

21989 Finally, in order to ensure compliance the penalties increase with repeated violations.

21990 Group Telecom believes that it has proposed a logically sound mechanism that will ensure that the ILECs are given appropriate incentives to provide the level of service that the Commission has mandated them to provide.

21991 In conclusion, Mr. Chairman, Group Telecom is not here to ask the Commission for rate increases in quasi-monopoly markets. Nor is Group Telecom here to ask the Commission to prop up an ailing business plan or to replace the proper functioning of the competitive market by managing competitive outcomes and handing out subsidies.

21992 Rather, Group Telecom is here, before the Commission, to ask that we be given the opportunity to test our business acumen on a competitive playing field, while at the same time promoting the objective embodied in the Telecommunications Act, which is:

"...to foster increased reliance on market forces and to ensure that regulation, where required, is effective and efficient".

21993 Mr. Chairman, this concludes our oral remarks.

21994 We would like to thank the Commission and its staff for providing us with the opportunity to participate in this proceeding and we look forward to the Commission's determinations on the many issues that are under consideration.

21995 THE CHAIRPERSON: Thank you, Ms Gilfillan and Mr. Fabes.

21996 So the last party, then, will be RCI.

21997 Mr. Engelhart.

1415

ARGUMENT / PLAIDOIRIE

21998 MR. ENGELHART: Thank you, Mr. Chairman.

21999 In this proceeding, we have heard a variety of very different views, very different visions about the future, very different policy proposals. So how is the Commission to take this variety of different ideas and come up with a new regime going forward?

22000 I think there are three positions or facts which are, if not completely agreed on, at least not disagreed on among the parties. First, there seems to be pretty well universal agreement that we don't need to return to a rate of return regulation, that earnings sharing is not a good idea, that a price cap plan is what makes sense.

22001 There is also two facts that seem to be agreed on or not disagreed on. First, the profitability of the phone companies during the first four-year price cap plan was substantial. Last year, returns of 15 to 18 per cent, that is not a fact that anyone has disagreed with.

22002 The final position, I think everyone in this room has agreed that competition during the first four years has not worked out as well as we all thought it would.

22003 So if we take those three very simple ideas and we put them together, it would seem that the path forward would involve a price cap plan that ensures that the phone company profitability does not reach excessive levels and which does something to help competitors and, of course, it goes without saying, should also help the consumers as well because the whole point of the regulatory system that we are all here to participate in is to benefit consumers.

22004 So how does the RCI proposal accomplish these objectives? We believe that the current price cap plan, the current structure of inflation minus a productivity offset as a cap on prices should stay in place. Now, this has worked out very well for the phone companies, they have made a lot of profits under this plan, they will continue to make a lot of profits under this plan, but keeping inflation minus a productivity offset will prevent those prices from reaching truly excessive levels.

22005 We also propose that some of the price reduction should come to competitor services and other capped services. Those are two areas that have not really seen much of the price reductions generated by the productivity offset and those services -- the competitor services, of course, but also the other capped services, are of course used by competitors. So by reducing those prices, this will take cost out of the competitor cost structure and improve their bottom line.

22006 We have also proposed -- and we are the only party to do so -- that we use those price cap revenues, the revenues generated by the inflation minus "X" formula to maintain affordable rates in high-cost serving areas. Now, the ILECs, and a number of the other parties here are suggesting fairly substantial rate increases for consumers in the high-cost serving areas, $3.00 a month each year.

22007 RCI thinks that, instead of raising these people's rates to very high levels, we should use the price cap system to keep their rates affordable. And this is a double benefit because, by doing that, we eliminate contribution and by eliminating contribution, we take another big cost out of the competitors' cost structure, improving their bottom line again.

22008 So let's have a look at each element of that plan in more detail.

22009 First of all, the productivity offset.

22010 The incumbents in this proceeding are telling you that we should have a price cap plan without a productivity offset, the I minus X formula without the "X". It just doesn't make any sense. It's like saying you want a sandwich without any filling. It's the "X", it's the productivity offset which makes the system mimic a competitive result, it's the factor that keeps prices in line with cost. You can't have a price cap system without the productivity offset.

22011 Now, obviously, we gain some guidance on what the productivity offset should be by looking at the profitability of the phone companies during the first four years of the plan. We have heard the incumbents say: you can't look at our profitability; if you look at our profitability, that will build all sorts of perverse incentives in the system.

22012 With respect, I think that there's some confusion here. No one is suggesting that we go back over the last four years and take money away from them. They have made a lot of money over the last four years, they get to keep all that. No one is even suggesting that we go back to the going-in rate of return of 11 per cent and rejig their rates down to 11 per cent. No one is saying that at all. So we are not taking anything away that would build a perverse incentive into the price cap system.

22013 But obviously, when the Commission said four years ago that we are going to have a review hearing after four years, the purpose of the review hearing is to look at how the system has worked, and an obvious fact in how the system has worked is the profitability of the incumbents. Of course, you have a look at that to see whether the offset is at the right range.

22014 As I said before, Bell earned 15 per cent last year, TELUS 18 per cent, Aliant 17 per cent, MTS 17 per cent, that's a 16-per-cent average. These are extraordinary profits. If you take away the offset, if you take away that X factor, those profits get even larger in the future.

22015 RCI provided evidence that if you take away the productivity offset, Bell Canada alone will have an additional $1.25 billion in the next four years. Now, Bell provided the Commission with an exhibit on the RCI evidence, Exhibit No. 53, and I commend it to you all for the information it contains.

22016 In Exhibit 53, Bell has set out three scenarios. Scenario 1 is quite gloomy. They say that Bell will lose 4.8 per cent of its business lines in each of Bands B to G each year. Now, their business NAS has been growing over the first four years of the price cap plan, so this forecast is that of a decline of 4.8 per cent a year. Even with this gloomy assumption, Bell forecasts that, with the removal of the productivity offset, they will earn and additional $324 million each year. That is $1.3 billion over the four years of the plan. So an estimate very consistent with the RCI estimate.

22017 It is even more interesting to look at scenarios 2 and 3. These were scenarios obviously designed to show the circumstances under which Bell would lose money, even though they didn't have a productivity offset.

22018 If you look at scenario 3, they have managed to work that model out so that they make less money than they do currently, only $3 million less but they make less money. So how did they get there? What kind of assumptions did they have to build in? Well, over the four years, they had themselves losing 20 per cent -- reducing business rates by 20 per cent. They had themselves losing 24 per cent of the business lines, so 20 per cent rate reduction, lose 24 per cent of the business lines and, for good measure, 5 per cent of the residential lines were lost as well.

22019 So I think that position is quite inconsistent with the evidence that they gave in this proceeding. In this proceeding, they are saying that if we don't do something about business rates, we are not going to have any competition. They are saying that if we keep lowering business rates, we are not going to get sufficient competitive entry. And yet, in scenario 3, they are lowering business rates by 20 per cent and competition comes on gang busters and they lose 24 per cent of their lines.

22020 So this is an incredibly gloomy scenario and that's the only way that they can get less profitable with the removal of the productivity offset. So I would use that exhibit and the other evidence you have heard to draw the very obvious conclusion that, obviously, if the productivity offset is gone, they are going to make even more money than they are making now.

22021 TELUS goes one step further. They say not only should we lose the productivity offset, we should also jack rates up $3.00 a year for residential customers, 10 per cent for business customers. So, you know, the incredible increase in profitability that Bell Canada and The Companies are proposing is modest compared to the profitability that would come from removing the productivity offset and then having rate increases. So all the evidence points to the fact that we need to maintain the productivity offset.

22022 Then we get into the sort of mechanical question of how do we calculate it. It is RCI's submission that we should calculate it using total factor productivity. That is the method that was used in the first price cap period. That is the method that was used in Decision 97-9.

22023 Why? Why total factor productivity? It starts with some real numbers, it starts with some numbers from the financial books. There is a certain amount of calculation and whatnot, but at least you start with some real numbers at one point.

22024 Now, the incumbents say that is no good, total factor productivity looks at the whole company and we would rather look at costs just for those services that are being capped. Well, if you had that data, that would be terrific. Unfortunately, we don't.

22025 So what they turn to instead is Phase 2 studies or PARC studies and say: Well, we can extract the data from there.

22026 But really you can't. The Phase 2 studies are forecasts. They don't involve real data from the financial books and records. They take some data, sure, and they plug it into models and the models generate outputs and the outputs go into the Phase 2 model and they are subject to demand forecasts as well.

22027 If that were not enough, each year the Phase 2 study methodology changes. So if you go back over a time series you have to bring in all sorts of assumptions to smooth it out. All that smoothing, all those methodological interventions at the very least removes any pretence of transparency. At the worst, it introduces a series of opportunities for the phone companies to bias their numbers systematically.

22028 For example, we saw with the TELUS panel that they didn't like the 1995 switching number because it wasn't properly documented. So they took the 1996 number, adjusted for inflation, plugged it in for 1995, and then they are surprised that there is not much productivity change between 1995 and 1996. Well, why would there be when the 1995 number is basically the 1996 number?

22029 TELUS also used the Bell numbers from 1989 to 1995 and then, for the rest of the data series, combined the TELUS numbers with the Bell numbers. But Bell then found a mistake in their numbers and changed them. TELUS kept using the old numbers.

22030 So when they were asked about this in cross-examination, they said: Well, since the Bell numbers are higher now, maybe we should just change our whole methodology. Maybe we should stop using the Bell numbers. Maybe we should use our own numbers a lot more and just discount the Bell numbers. But their own numbers are six lonely data points, including this 1996-95 number that I talked about. So I don't really think there is a reliable data series there.

22031 In addition, 60 per cent of TELUS is BC. They use no BCTel numbers. I mean, BCTel filed PARC studies with you year after year after year, but apparently they were improperly documented. So no BCTel numbers.

22032 The Commission should use total factor productivity and RCI has laid out the methodology, the same methodology that you used in 97-9.

22033 Under questioning Mr. Hariton revealed that RCI's evidence subtracted the input price differential instead of adding it. So when you make that correction the productivity offset is 5.3 per cent.

22034 The phone companies all say: Well, we shouldn't have a stretch factor this time around. We don't need a stretch factor. But what we are doing is, we are looking at a data series back from 1988 to the present time. Most of that data is under the rate of return regulation days. So most of that data understates the productivity that is achievable.

22035 We have seen under whatever data you look at, the TFP data, the marginal cost data, huge increase in productivity over the last three years. Some of that may be due to the boom economy, some of that may be due to the low-hanging fruit, but the 1 per cent stretch factor is clearly a reasonable number when you look at that data.

1430

22036 Exogenous factors, the phone companies say: Well, even though we have been paid back we should keep on getting those exogenous rate increases.

22037 Obviously not. Obviously, the rate increase was for a cost increase and when the cost has been paid off the rate increase should be rolled back.

22038 We also heard a bit about removal of services from the price cap system. Bell has exploited the Commission's rules on bundle so that you take a package of optional calling services, you combine it with an ordinary business line, you call it a bundle, and presto, the revenue goes out of the price cap system. That obviously shouldn't be allowed to continue.

22039 TELUS argues that if you have a bit of competitive entry in one community, that another community thousands of miles away should be deregulated. That obviously is no way to protect customers.

22040 We have had a lot of talk about Phase 2 costs and the Commission has asked whether a review should be conducted.

22041 It is our submission that a review would probably be unproductive. I guess I would draw an analogy between Phase 2 and Phase 3.

22042 When you think about it, the reason that we got into the price cap system was we really said that Phase 3 was too complex, too costly, too arbitrary, too subject to misallocation, let's do it one last time. Let's have one last revenue requirement proceeding and then just crank those rates down by inflation minus "X" every year.

22043 I think we could say the same thing about Phase 2. It too is costly, it too is arbitrary, it too is subject to misallocation, let's take the rates we have today for competitor services and let's crank them down each year by inflation minus "X". It is simpler.

22044 I fear that if we get into a whole Phase 2 cost examination it will be kind of a bottomless pit.

22045 I mean, if you look at the Phase 2 study that Bell refiled, the loop study, they increased their contribution by five times by refiling that one study. Now, all of the phone companies have written letters saying they are filing Phase 2 studies with you. I have a feeling I know what those new studies are going to show. I think they are going to show higher costs.

22046 Finally, contribution. It too really is based on these Phase 2 studies.

22047 Again, rather than go through this whole process of those rates increasing year after year after year, the Commission has an opportunity to eliminate that contribution. This whole contribution thing has been an albatross on the regulatory system since day one. We can use the price cap system to get rid of it and you will be doing a huge service for the consumers in high-cost serving areas who will have the threat of rate rebalancing removed.

22048 Those are our comments.

22049 Thank you, Mr. Chairman.

22050 THE CHAIRPERSON: Thank you, Mr. Engelhart.

22051 That then concludes the oral argument phase of the proceeding.

22052 Mr. Secretary, do you have anything else before we close up?

22053 MR. SPENCER: Nothing, Mr. Chairman.

22054 THE CHAIRPERSON: Counsel?

22055 MS MOORE: Thank you, Mr. Chairman.

22056 There is just one brief follow-up to one undertaking response.

22057 I am referring to The Companies Exhibit No. 78, which is a response to information requested by Commissioner McKendry.

22058 At page 5 of 6 there is a reference to an audit of the ABC system that was conducted in 2001 and I wonder if Bell Canada can undertake to provide a copy of that audit report in relation to the ABC 2001 audit?

22059 MR. HENRY: Assuming it's available, sure.

22060 MS MOORE: Thank you.

22061 Thank you, Mr. Chairman.

22062 THE CHAIRPERSON: Does anybody in the room, then, have any matters they wish to raise before we close off? No.

22063 I want to take this opportunity on behalf of my colleagues to thank everyone for their participation in the proceeding. I think the hearing has been an excellent one.

22064 Mr. Henry commented this morning these oral public hearings have been sort of few and far between over the last period of time. I guess I should have learned by now to never say "never" because I think at the last hearing, at the conclusion of the last price cap hearing, I said that I thought this would be the last of the big blockbuster hearings. I supposed it might have been for my time, although I am still here.

22065 I guess it has certainly been our feeling, not only with this hearing but with several other ones that we have had over the past year or so, NorthwestTel, even the oral final phase of the contribution proceeding, the recent relatively short one we had was dealing with ONTel and Northern Telephones, that these sorts of proceedings really add a tremendous value to, I think, all of the parties' understanding the issues and certainly for our part helping us to understand the issues.

22066 I want to thank you all for handling the hearing and doing the cross-examination with the witnesses with respect for all of the parties. I think there has been -- while there are parties on different sides of the issues here, that there has been a huge amount of respect for all of the parties and the positions of all the parties here.

22067 As has been acknowledged, we have a rather difficult task ahead of us to try and now take all of the information that has gone from the binders back here back to the office and sift through that and try to complete our understanding of the issues and come to grips with them. I think most of you have acknowledged that it is a rather difficult task.

22068 We have -- I guess in my sense, having sat through these proceedings now for over 11 years -- perhaps more polarized views than I have seen around a given issue in the past and it certainly doesn't make our task easy. But, on the other hand, it has certainly provided a lot of different points of view for us to focus on and deal with the issue.

22069 I was sitting here today thinking that I was struck by the fact that early on in this proceeding there had been an exercise among all of the parties, including the consumer groups, to see whether there could be some sort of a consensus reach on a way forward in terms of dealing with price caps and I was struck by the stark difference between what potentially could have been, I suppose, a consensus among the parties and the differences of opinion in effect we have before us today, which is rather dramatic.

22070 We have talked over the last couple of weeks about economic theory around the sale of ice cream, economic theory around four lemonade stands at a crossroads dealing with energy regulation in Alberta and various silver bullets that have been flying through the air, so we have a lot to deal with over the next while.

22071 I guess what we want to make sure we do is try to make sure we come out of the other end of this proceeding, as Mr. Fabes has suggested, so nobody is skewed!

--- Laughter / Rires

22072 THE CHAIRPERSON: With that, I thank you all.

22073 We look forward to reading your written argument which, just to remind you, is to be filed by the close of the day today, and the reply argument that is to be filed on October 31 by the end of the day. So we will look forward to reading all of that material.

22074 I want to thank our father-son team of the court reporters and our technicians who have, on about half a dozen different occasions, managed to correct the air conditioning problem in the room that I thought was intended to be some sort of torture for us for a while.

22075 But seriously, most particularly, I thank the teleconference portion of this proceeding. I think we have quite well used it in a number of hearings now and we will continue to do so.

22076 I am certainly not going to indicate that this will be the last of these sorts of hearings because, as I said, we do find them extremely valuable. This may be the last price cap one for a few years to come, but they certainly add value in terms of our understanding of the issues.

22077 I thank the translators as well and certainly the staff at the Commission for their help. I think that has covered off most of the folks.

22078 So again, I will thank you very much for your participation in this proceeding and declare this portion of the proceeding concluded.

22079 Thank you.

--- Whereupon the hearing concluded at 1540 /

Date modified:

2001-10-22