ARCHIVÉ -  Transcription - Hull, QC - 2001/10/02

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BEFORE / DEVANT:

ALSO PRESENT / AUSSI PRÉSENTS:

Hull, Quebec / Hull (Québec)

--- Upon resuming on Tuesday, October 2, 2001

at 0900 / L'audience reprend le mardi

2 octobre 2001 à 0900

1827 THE CHAIRPERSON: Order, please.

1828 Good morning, everybody. Welcome back to our proceeding.

1829 Before we return to cross-examination of The Companies Panel 1, are there any preliminary matters anyone wishes to raise? No?

1830 Then I believe the next party to cross-examine is the City of Calgary.

--- Pause

SWORN: PETER J. NICHOLSON

SWORN: ROBERT F. FARMER

SWORN: RICHARD S. TALBOT

1831 MR. INLOW: Thank you, Mr. Chairman.

1832 THE CHAIRPERSON: Good morning, Mr. Inlow.

1833 MR. INLOW: Good morning.

1834 Mr. Chairman, I am proposing this morning to focus primarily on the evidence of Mr. Talbot, for the benefit of the Panel, not that I mean to necessarily preclude anyone else from answering, but that will be the focus of our cross-examination for the most part.

EXAMINATION / INTERROGATOIRE

1835 MR. INLOW: Mr. Talbot, just to follow up on some questioning from yesterday, referring to your evidence paragraph 3.5.

1836 Mr. Chairman, I might just add while we are looking at that I will probably be making a number of references in the cross-examination to certain other material that Mr. Talbot has authored or co-authored, being portable telecom directories and various other sort of security updates, all of which I think are contained in The Companies RCI-23, Attachment 1 through approximately 10. They were a response to an interrogatory.

1837 Mr. Talbot, I believe yesterday under cross-examination there was a fairly extensive discussion of this chart from the Yankee Group above paragraph 3.5. I don't want to go into the technicalities of it, but would it be fair to say that when you made the statement that there was room to increase prices in Canada and still be one of the lowest priced service providers in North America, that that was based really on virtually a visual perception of this chart in the sense of saying what it tells us is that the Canadian carriers in black, on a relative basis, are less expensive, for whatever this typical usage basket is, than the American carriers that are shown in grey?

1838 MR. TALBOT: Yes, I think that is fair.

1839 MR. INLOW: Okay. So there wasn't any attempt on your part to get into notions of affordability or underlying costs, any of those types of things?

1840 MR. TALBOT: I think as part of any study of the industry and the research that we do, we obviously just don't rely on any one source. Our background is based on many years of looking at the industry and studying it.

1841 We obviously want to have recent data. We would like to have a typical usage basket from a reputable firm and I think that is what we have here.

1842 The actual technical statement, if you wanted to drill into the micro-detail, yes, is certainly based on that exhibit, but I think it also corroborates the conclusion of the work that we have done over the last couple of years. So it has to be taken in a broader context as well.

1843 MR. INLOW: But in terms of a typical usage basket, then, you didn't try to disaggregate that into what constituted local service, what constituted long distance service. Would this basket have even included wireless for example?

1844 MR. TALBOT: We haven't disaggregated it for a couple of reasons.

1845 I think, first of all, to give a broader perspective of what the cost of telecom service is in Canada, realizing that people don't typically just use local service or just use long distance or just use wireless or just use other services, we are trying to get an overall feel for what are the costs of telecom service in Canada.

1846 I think also you are aware that as part of other evidence in the proceedings that there are more specific studies which do look at more individual studies and services, and I think in the portable telecom directory we do a number of that as well where there are specific data on long distance and wireless and Internet service.

1847 MR. INLOW: I thought you said in your response that you were looking at the cost of providing telecom services. How would this chart assist you in any way in understanding what the underlying costs were?

1848 MR. TALBOT: If I said the costs of providing service, I should have said the cost to users of that service. I apologize.

1849 MR. INLOW: Thank you.

1850 When you indicate that there is room to increase prices, I take it the underlying proposition on that is that in your view there is room to increase prices and that is based on a notion of affordability?

1851 MR. TALBOT: I think the notion that we -- or the comment is really geared to doing a comparison of the cost to users of services in different markets. And the fact is that when you stack them up from an investor's perspective what you see is that the cost in Canada is quite a bit less, considerably less in fact, than what it is in other markets in the U.S., which are probably a fairly reasonable comparison given the closeness of the two countries and the closeness of the population in those two countries.

1852 So we felt that was a reasonable and rational way of comparing what the costs are in this country versus other markets.

1853 MR. INLOW: All right. So that, then, clearly is a relative comparison, you are saying, between markets?

1854 MR. TALBOT: That is correct.

1855 MR. INLOW: In your update that you gave at the beginning of your evidence talking about general economic conditions, would it be fair to say that that evidence was to the effect that since you have written your evidence there has been a considerable downturn in the general economy in both the United States and Canada?

1856 MR. TALBOT: Yes, I think that is fair.

1857 MR. INLOW: Would it be fair to say that as a result of that, never mind relative affordability, that given that general economic change that the idea of affordability period, the threshold would have fallen relative to when you looked at this analysis?

1858 MR. TALBOT: I don't think I would go that far, no. I think the comment was really gauged to give the Commission and the Members of the proceeding an idea of what has transpired since the end of May when this evidence was prepared.

1859 The fact is that the capital markets are experiencing a significant degree of turmoil, probably a record amount of turmoil, and that is being exacerbated by the weak economic outlook. But we are not drawing any conclusions on the affordability of service, although I suspect that obviously in a period where there is negative economic growth that income levels may come off for a temporary period of time.

1860 MR. INLOW: And if they do come off affordability on an absolute basis tends to fall. Correct?

1861 MR. TALBOT: I think that would be part of a natural business cycle, economic cycle, yes.

1862 MR. INLOW: Okay. Mr. Talbot, I would like to spend a bit of time on what I consider sort of the general theme of your evidence, which is that the telecommunications industry is in the penalty box -- I'm hoping we can stickhandle our way through this without it sounding like colour commentator Terry for Hockey Night in Canada, but we will have a go.

1863 When you say that the industry is in the penalty box, and you use the term "penalty box", are you referring to a loss of investor confidence and is that reflected in such things as equity value or the cost of debt? What are you referring to?

1864 MR. TALBOT: It is a way, I suppose, of characterizing the approach that investor's have right now towards the sector.

1865 We have experienced over the last four or five years an enormous appreciation in equity values. We have experienced an enormous raising of capital. We have also experienced an enormous number of players in the marketplace. You could characterize that as a class market bubble where the prospect of growth has attracted an enormous amount of interest -- and perhaps too much interest, as we see now definitely too much interest -- and that has led to a significant amount of overcapacity, far more in some services than we will need for many, many years to come.

1866 Naturally you have to go through a digestive process and that can be, depending on the area of the telecom industry, can be very, very painful.

1867 What it means is that we have had equity values in the sector collapse, by and large. We have seen that the cost of raising new money, if you were to try to access the capital markets, and that is if you could raise money today, has increased dramatically. As a result, investors are effectively saying with their pocketbooks "Sorry, but you are going to have to work this one through."

1868 We are going to have to see companies begin to generate, in our view anyhow, some positive free cash flow before they start to -- or at least the prospect of positive free cash flow before you see much of a stabilization process go through.

1869 So effectively, when you cut through it, what we are saying is that the investment community is saying to the telecom sector, "You need to do a fair amount of repair work here to bring supply and demand back into balance before we are going to have the same level of confidence that we did several years ago in the industry." That means the prices will remain particularly volatile and largely weak for the foreseeable future, in our view.

1870 MR. INLOW: I take it it is fair to say that this is a generalized statement about global telecommunications you are talking about as a market?

1871 MR. TALBOT: Certainly globally there are some very significant issues, but I think you could say that in just about every market, including Canada right now, where we are seeing -- as I indicated in my update, we have seen the average prices in Canada for all participants fall since the end of May, some more than others, but overall they have declined significantly.

1872 MR. INLOW: All right. Now, what would be the approximate time interval that you had prepared this evidence over?

1873 MR. TALBOT: That we submitted on the --

1874 MR. INLOW: Yes.

1875 MR. TALBOT:  -- public record?

1876 MR. INLOW: On capital market perspective.

1877 MR. TALBOT: It was submitted the end of May. I would have to check my records. I don't have a specific date in mind, but it would have been prepared over several months at least. Two to three months.

1878 MR. INLOW: And that would have ended, then, in May, approximately when?

1879 MR. TALBOT: I don't have the exact date. I believe it was right at the end of May, May 29, May 30, something like that.

1880 I would also indicate that, you know, we do this day-in, day-out in terms of researching how the capital markets are approaching the telecom industry. And while this submission you could say has been prepared over that period, we obviously have also submitted, in fact, quite a few years of our research.

1881 MR. INLOW: As part of your support for that I take it we have a table or a graph on page 29 of your evidence, which is paragraph 3.15.

1882 MR. TALBOT: By name this is the "Telecom Yield Spreads Over Sovereigns". Is that correct?

1883 MR. INLOW: Over sovereigns, yes.

1884 I take it the purpose of this graph is to show a composite index, correct, of a number of selected telecom carriers in terms of their general debt levels in terms of what they pay for debt?

1885 MR. TALBOT: Yes, that is correct.

1886 We have tried to give some evidence in terms of different rated bonds, BBB+ but also single "A", for fairly liquid securities and to look at the spread that those securities trade at over their related government or sovereign credits.

1887 MR. INLOW: Now, I notice in the note underneath that there is a reference to a number of carriers there. Would it be fair to say that those are predominantly non-Canadian carriers?

1888 MR. TALBOT: Yes, that would be true. I think they are all U.S.

1889 MR. INLOW: So how would you have determined from this kind of material that the Canadian industry was in the same state as the American industry?

1890 MR. TALBOT: I think when you look at the capital markets you have to look at them as being part of a global capital market environment. Canadian companies don't just go and raise money in the Canadian market, they spend an even larger part of their time in the U.S. and Europe. So overall you would find that the capital markets are fairly efficient and that the conditions experienced overseas will then translate into the conditions in Canada.

1891 MR. INLOW: Well, let me take you to your portable telecom directory of March 23, 2001. Again for the record, it is part of an interrogatory response, The Companies RCI-23. I believe that's Attachment 1.

1892 You can just confirm that you would have been a co-author of that report.

1893 MR. TALBOT: Yes, that's correct.

1894 MR. INLOW: And on page 126 you have a conclusion and at the top it says:

"In summary, equity values in the global telecommunications sector have been punished hard over concerns that operators overspent on the capacity, particularly long distance and new third generation wireless spectrum." (As read)

1895 Now, you indicate -- you just indicated in your response that you felt that what you were saying applied generally to the communications sector in all countries. I note in the next paragraph there it indicates:

"While these concerns are valid in an international context, Canada's telcos have avoided these issues by avoiding high spectrum costs, preserving their balance sheet strength and financial flexibility in operating in an already highly competitive environment."

(As read)

1896 How do you reconcile that with your statement that you think that the penalty box applies equally to all participants in the global telecommunications industry?

1897 MR. TALBOT: Well, I think, as I indicated, the Canadian companies are not sheltered or impervious to the forces of the global capital markets. The fact is that if the global telecom securities, whether they be fixed income or equities, are under pressure, then that reduces the value that investors are prepared to pay for.

1898 The Canadian companies, while we might like to think of them being in perhaps a completely different market, will naturally be impacted by that reduction in value because it is a comment by investors saying that overall -- while there may be some differences, overall the risk premium for investing in the telecom industry has increased.

1899 As I indicated, there is a very strong interlinkage between different countries -- investors in different countries and that will translate into an actual change in the valuation of the way the Canadian companies are looked at.

1900 Yes, there will be company-specific factors. There will be country-specific factors, but overall the predominant theme will likely apply in Canada as it will in other markets.

1901 MR. NICHOLSON: Richard, if I might say as well, the companies that are included in the index in one case are Verizon, SPC and Bell South and then Worldcom, Sprint and Quest. As you pointed out, they are American companies. They certainly are not facing the 3G blight that was the case in Europe. So I think that in fact this is probably more typical, I would suggest, than the North American situation.

1902 MR. INLOW: Now, having said that, Mr. Talbot, though in the then ensuing paragraph you continue to recommend that investors overweight the Canadian telecom sector. Correct?

1903 MR. TALBOT: That's correct. Yes.

1904 MR. INLOW: All right. So clearly you are making an investment distinction between the global market in this conclusion and what you would recommend with respect to certain Canadian carriers.

1905 MR. TALBOT: Yes. I would like to comment on that because that often is a source of some confusion. I have to -- let's put this in perspective a bit.

1906 In terms of the rankings that we would have, those are a function not just of the fundamentals of the industry, but also the prices at which those securities trade. So even though the fundamentals may be fairly challenging, if the price of an equity or a fixed income security has reflected those factors, or in some cases has over-reacted to those factors, then that can create value.

1907 Investors are not just looking at what are the fundamentals of an industry -- that is very important -- but also looking at the price of a security and that is what I am asked to do every day. It is to say what is fair value on a particular symbol at a particular point in time. So you have to keep that in mind.

1908 Secondly, you also have to be aware that at our firm, as it would be with any firm, we cover just about every particular industry, including the telecommunications industry. Investors have a choice. If you are a portfolio manager, you can decide to invest in the banks or, you know, the railways or in telecommunications.

1909 Now, at a particular point in time, and this is obviously a static -- excuse me, this is not a static process, it is a very fluid process and time does change. This report was prepared some six months ago so things have obviously worsened in that period.

1910 Investors have a choice as to where they overweight. At this particular point we felt that relative to other sectors that the telecommunications area in Canada would perform better than those areas, so that is why we have an overweighting. So I think that's important. It's a relative indicator, therefore, not just a measure of absolute expected price performance.

1911 MR. INLOW: But would it be fair to say, to take an example, that at the time you wrote this stock in TELUS would have been close to its high and even at that point you are still saying overweight. In fact, you had a target approximately $10 higher, didn't you, for a one year target?

1912 MR. TALBOT: Well, I think that just goes to show we can't always be right all the time. Unfortunately, that is the reality we live with every day.

1913 MR. INLOW: I am almost tempted to stop at that point, Mr. Talbot.

1914 MR. TALBOT: Well, unfortunately I have to go on the written record fairly frequently, so I have to live and die by those recommendations. I think you also have to be aware that clearly the investment business is one where things can change very, very quickly on you.

1915 We have revised our recommendation since that time based on how the financial results have evolved, how some of the decisions that have been made and overall how the competitive landscape is shaped up. Be that as it may, yes, you are right at that particular time the comment would not have been perhaps the best with retrospect.

1916 MR. INLOW: Mr. Talbot, in paragraph 316 of your evidence, you talk about a combination of two factors that lead to what you call the penalty box. Let me just focus for a minute on the issue of falling prices resulting from increasing capacity and try and understand what you are referring to in a specific context.

1917 When you talk about capacity, in paragraph 311 you have made reference to, for example:

"In Canada at least seven nation-wide long-haul fibre optic networks have been deployed within the last four years. At the same time, rapid advances in technology have increased the traffic carrying capability of each network."

(As read)

1918 Now, I take it what you are referring to then in terms of increasing capacity is heavy investment. Would that include heavy investment, for example, in wireless capacity?

1919 MR. TALBOT: Certainly it could do, but we have seen just generically a very high level of investment, in fact record levels of investment in all areas of the telecom industry.

1920 MR. INLOW: Well, to take an example then, you are indicating that there have been seven nation-wide long-haul installations of wire or fibre optic. Can you say there has been even close to that level of competing construction in, for example, the local wireline network?

1921 MR. TALBOT: That's a very good question. It's also a very difficult one to answer because typically The Companies do not disaggregate where that capital is invested. That's something which I think is a very good point. It's probably coming out of this bubble. It's a metric which investors are going to increasingly focus on, where the capital is being spent, but I don't have that information at this point.

1922 MR. INLOW: But you will at least acknowledge that when you are talking about that kind of a capital investment, you need to be very careful not to use a broad brush on the industry.

1923 MR. TALBOT: I'm sorry, can you --

1924 MR. INLOW: That you can't use a broad brush in the industry and say that they have all overspent in all sectors on capacity.

1925 MR. TALBOT: No. Just as a general rule -- this time I am very careful of trying not to make generalizations like that, but I think in this sector you have certainly seen an excessive amount of capacity being built.

1926 Primarily the area where we have seen the most would certainly be on the long haul side, but we have also had concerns on 3G wireless, we have had concerns in the satellite area and certainly we have seen a great deal of concern in the competitive local exchange arena where there was capital that clearly was raised in conditions where money could be raised very easily. That may really not have been based on a solid business plan.

1927 MR. INLOW: All right. But it's fair to say that there has not been much construction of redundant local wire networks.

1928 MR. TALBOT: I'm not sure about that. I think that the comment about competitive local exchange investment is indicative of the fact that there may have been some redundant investment, absolutely.

1929 MR. INLOW: Now, the second factor you make reference to that leads to the penalty box is increasing debt levels. Again, to look at this more specifically, I think what you indicated earlier is that the majority of this investment was in long distance capacity and wireless spectrum.

1930 MR. TALBOT: That's correct.

1931 MR. INLOW: And would it be fair to say that that particular investment was seen by investors not just as a lot of money, but would have been characterized as overspending.

1932 MR. TALBOT: I think absolutely a lot of money, but yes, also that money was directed into areas that perhaps weren't supported by sound economics.

1933 MR. INLOW: And then your conclusion from that, if I understand it, is that the debt level that you are talking about, which would have been driven by this investment, has increased the incremental cost of debt.

1934 MR. TALBOT: Yes. I think when companies are asking the investment community to come up with more and more money that naturally is going to have a resulting impact on increasing the cost of them raising that capital.

1935 MR. INLOW: All right. So again coming back to the telecom yield spread over sovereigns on page 29 of your evidence, I take it what this chart then depicts is because it's a spread over sovereigns, you are attempting to take out any general changes in debt level in the economy as a whole.

1936 MR. TALBOT: That's correct. Investors obviously have a lot of choices and the more risk-adverse investors might just invest in U.S. treasuries or Government of Canada bonds. What we are trying to look at here is what is the implied risk level to an investor who is considering investing in a telecom bond.

1937 While you have this chart in front of you, I would point out just to remind you that the spreads for the BBB+ line, that's the darker line, are now at 280 basis points, so they have increased about 50 basis points and the A rated index is now at 213, so it also has increased fairly substantially actually just in a three or four month time period.

1938 MR. INLOW: Now, again we are coming back to the issue that you are using data here that you are indicating is almost entirely U.S. carriers. Correct?

1939 MR. TALBOT: They are entirely U.S. carriers. Yes.

1940 MR. INLOW: Now, is it your evidence that this would in fact translate graphically the same way to the Canadian industry?

1941 MR. TALBOT: I believe they would, yes. I think one of the reasons that we have decided to use these, or for a couple of reasons, number one, the index is compiled by a reliable source, Bloomberg, and also we wanted to reflect liquidity in those issues so that you can get a fairly good read on what the spread is.

1942 Obviously the more liquid an issue, the better the read you would have as to what risk premium investors are building into the securities.

1943 MR. INLOW: All right. Now, on that point again just to understand those differences between the -- potentially the two economies. Coming back again to your portable telecom directory of March 23rd, 2001, on page 11 under "Access to Capital" you make a statement that the recent increase in the debt leverage of even the most blue chip incumbents is nothing less than staggering.

1944 I take it again that is a statement referring to the capital expenditures that we discussed earlier in this cross-examination?

1945 MR. TALBOT: Predominantly that would be correct. Yes.

1946 MR. INLOW: Again that would have been a broad brush statement about incumbents in all markets when you make that reference on page 11?

1947 MR. TALBOT: That is fair. Apart from the capital spending on property, plant and equipment though, there is a second source where that debt has gone towards and that would be acquisitions of other companies where we have seen a fair amount of that activity in recent years.

1948 MR. INLOW: Well, then let me take you over now to page 95 of that same document under the heading "Balance Sheet Credit Quality." There is a reference there to Canadian carriers and a chart, Table 36 at the bottom that lists a number of Canadian carriers and basically you are listing their debt coverage.

1949 You indicate at the bottom there:

"Our forecast indicates the debt leverage level should remain constant in 2001 at 3.4 times before gradually declining to 2.9 times by 2003. We believe that these are manageable levels." (As read)

1950 Is that correct?

1951 MR. TALBOT: That is what I read here, yes.

1952 MR. INLOW: Now, why would I not take that statement to mean that notwithstanding that on a general North American basis you might say that the increase in leverage has been staggering. What you are saying with respect to Canadian telcos is that is manageable?

1953 MR. TALBOT: A couple of comments here then.

1954 First of all, I think that we are saying in this document that the Canadian telecom companies have, by and large, avoided heavy capital spending on 3G licenses and, by and large, have managed to avoid a lot of the excessive investment, at least from an incumbent's perspective, in new property, plant and equipment.

1955 However, we have seen a number of the parent companies, in other words, one thing I would like the Commission to appreciate is that I typically would be commenting on the overall consolidated entity. In other words, a symbol like a BCE involves a lot more than just the actual telecom operations of Bell Canada. So the debt levels in many cases of the parent, whether it be Bell or TELUS or other companies, may have increased at the parent company level and so that clearly is something that needs to be taken into consideration.

1956 So what I'm trying to say are two things. Number one, overall the debt levels have been managed fairly well in Canada to this point. However, we have seen some increases at the parent levels. I give you several examples. TELUS' acquisition of ClearNet, it's certainly a very big focus right now in the market in terms of the amount of debt that was put into that transaction, some $7.6 billion, and also, BCE's investments going into Teleglobe. So that is a market reality right now.

1957 MR. INLOW: So just perhaps so we can be clear on that, the Table 36 that we were talking about on page 20 -- sorry -- page 95, there is a reference there to TELUS. Is that the parent or a TCI?

1958 MR. TALBOT: In that particular case that is for TELUS and that is largely because they report financial statements only to the public, not for regulatory reasons, but to the investing public from a TELUS Corp. consolidated view. BCE, however, reports their financials at two levels, one of which is Bell Canada, so the operating telco, the other which is Consolidated BCE. So I just want you to appreciate that those are perhaps being looked at in two different perspectives.

1959 MR. INLOW: Now, you indicated then that the debt you were referring to, even in the Canadian context, you were saying was typically expenditures such as what you were referring to in ClearNet which presumably could be characterized as a purchase of Spectrum more than anything else.

1960 Those types of expenditure then, I think we could agree, are not really related to local service?

1961 MR. TALBOT: I'm not sure. I think one of the points that has to be made is that wireless is a form of providing local service. As for the comment on Spectrum, I think ClearNet was a lot more than just Spectrum. It's a company that is approaching cash flow break even with about a million customers. So I think that is more than just Spectrum.

1962 MR. INLOW: Now, you indicate that wireless is -- provides partly local service. You will agree with me that it's unregulated to the extent that it does?

1963 MR. TALBOT: I think that, you know, perhaps technically might be right although I think that certainly market forces and the competition in the wireless business is fairly effective at this point as a form of regulation.

1964 MR. INLOW: On the second aspect of the penalty box, which you say is falling prices and you attribute that to overcapacity and other things, I take it you would not have observed falling prices particularly in the local wireline service and even more specifically you would not have seen that in residential service?

1965 MR. TALBOT: Well, just to be clear on that, I don't think I would agree completely with the premise of the question. I think the business prices have certainly come down. Residential, I would say is part of the natural rebalancing process. Residential rates have gone upwards as part of that cantilever I suppose in terms of improving the efficiency of the way prices are currently charged relative to the cost to providing service.

1966 MR. INLOW: Now, when you say rebalancing in that context, you are talking about the "rebalancing" that the telcos will do within their price basket of saying what we need to deal with in terms of downward pressure on business local we are going to try to make up on residential local. You are not referring to a rebalancing that this Commission undertakes?

1967 MR. TALBOT: I'm thinking perhaps not from just a purely technical regulatory fashion, but I'm looking at it from an investor's eyes, the trends are that there have really been several subsidies in the past within the overall pricing structure of the market one of which is that business rates may have been perhaps high relative to residential rates and now you are starting to see that rebalancing kicking in as we start to move prices closer to the underlying cost of providing service. Just as you would have rebalancing between long distance and local or urban and rural.

1968 MR. INLOW: Now, I think we have touched on the fact that during the time this evidence was written, to again simply take a Canadian carrier, you would agree that TELUS, for example, was selling at approximately $33, in the $33 to $34 range, and you continued to show it as an outperform and, in fact, tended to show the industry ranking in Canada as an outperform.

1969 I think we need an oral answer to that for the record -- sorry -- for those two questions.

1970 MR. TALBOT: Oh, sorry. I'm sorry.

1971 Yes, that is correct and if you would just like me to expand a little bit on why that was the case I would be happy to in terms of TELUS as an outperform.

1972 Our view was that the company had a very interesting platform, and still does, although I think we need to see further evidence of that, has a very interesting platform in terms of being able to expand from one-third of the national market into the other two-thirds of that market. The focus on wireless and data at the time those are, I think, still are two of the most promising growth areas within the telecom business. Unfortunately right now as we slip into a recession, those are areas perhaps where you are going to see a ratcheting back of consumer spending. So that has obviously impacted our view towards the company since March.

1973 Secondly, on the overweighting of the Canadian telecom industry, it's looked at not only relative to the Canadian banks or other Canadian industries but also from a global perspective, we believe that the fundamentals of the Canadian telecom industry are more promising than the prospect in other markets, primarily because the balance sheet strength is being retained. We have avoided many of the investments in areas such as 3G spending that many of the other carriers have delved into.

1974 As a result, we feel that the risk levels, although they are -- have increased from where they were relative to other countries, are perhaps more modest. Then you look at the valuation of the actual securities and we find that they have been trading in at a discount and therefore you can make a fairly solid case that investors should be overweighting the sector.

1975 MR. INLOW: Let me take you for a moment then to, even in the context of that carrier, their acquisition of ClearNet, which I believe was the largest telecom acquisition in Canada. Correct?

1976 MR. TALBOT: That is correct.

1977 MR. INLOW: I think you indicated again in one of your reports that you felt that there were synergies seen in that acquisition between the two companies. Correct?

1978 MR. TALBOT: That is correct.

1979 MR. INLOW: Now, just so I'm clear, when you use the word "synergy", I take it you are talking about a situation where both companies benefit. Not one benefits at the expense of the other.

1980 MR. TALBOT: Yes, I think that is correct. I mean the synergies in the TELUS/ClearNet case are really threefold. Number one is that there be capital investment that can be reduced by combining the two networks.

1981 Secondly is that the operating cost structure can also be restructured in a more efficient manner so that you do away with duplication.

1982 The third reason is from a revenue growth perspective where TELUS' entry into the east can be accelerated by using the ClearNet distribution and network and marketing and so forth.

1983 There is also, from an investor's perspective, also a fairly big synergy in terms of the tax position that the combined entity would be able to take advantage of.

1984 MR. INLOW: Now, again in your portable telecom directory, on page 150, I believe in terms of -- you talked about the investment outlook and recommendation.

1985 MR. TALBOT: I'm sorry. Was that "one-five-oh" or "one-one-five"?

1986 MR. INLOW: Yes, "one-five-oh." It's a little difficult to find because in a binder it's not at the local -- not at the lower right corner. It tends to be in the upper left.

1987 MR. TALBOT: Yes.

1988 MR. INLOW: You indicate that one of the synergies that you felt was there in that acquisition was the lower cost of funds. Correct?

1989 MR. TALBOT: A lower cost of funds for ClearNet. Obviously an increase in the cost of funds for TELUS, for a couple of reasons. Number one, because TELUS had considerably less debt before buying ClearNet but also the cost of funds would increase as you merge the two companies.

1990 MR. INLOW: So when you say that that is a synergy, in this context you are using that in a different definition than we discussed before. One is benefiting at the expense of the other, correct, in this situation? Because would you agree with me that, in fact, TELUS' rating dropped as a result of that acquisition?

1991 MR. TALBOT: Yes. That is correct.

1992 MR. INLOW: And it would have dropped from A to BBB?

1993 MR. TALBOT: It actually wasn't -- it depends on which rating agency you are looking at. In fact, TELUS had not been ranked by Standard & Poors before. It was ranked by CBRS, which was then acquired, I believe, by Standard & Poors. So if you account for that acquisition, yes, it went from a single A to a BBB.

1994 MR. INLOW: All right. Now, coming back again to the graph on page 29, the telecom yield over spreads, spreads over sovereign.

1995 Can you confirm that there appear to be two things happening there. One is that as a company drops to BBB+ that not only does their cost of debt rise incrementally and historically that is -- would you have an estimate historically of what generally it would cost in terms of incremental basis points to drop from A to BBB?

1996 MR. TALBOT: That is a very good question and it would really -- I hate to use this, but it really does depend. It depends on a couple of things: the timeframe over which that happens. You will have the actual rating cut which happens instantly, but in the investors' eyes they may have perceived an erosion in the overall credit strengths and that may take a period of days, weeks, or months. So that makes it very difficult to actually gage exactly what happens.

1997 I have not done a study which looks at the -- a representative sample which does that, but I'm sure companies like S&P would have done that. The fact of the matter is, I think, directionally though absolutely. If you would have reduction in the credit rating that would result in an increase in the cost of raising new debt in the marketplace.

1998 MR. INLOW: Well, let me ask you then to comment on that particular chart.

1999 In 1998 the spread between A and BBB+ appeared to be about 28 basis points, and that kind of spread appears to have persisted on that chart until late 2000. Then there appears to be on the graph a phenomena you are talking about where the investor then appears to see the difference as much larger in the sense that even at the closing of that chart the spread in basis points between the two is more than double what it would have been two years ago.

2000 MR. TALBOT: Absolutely, yes. If you look at the starting point of this chart the spread was 28 basis points. Today, using the information that we have just updated, it's now 70. What that reflects, I think, is that the market is particularly sensitive right now to the lower rated bonds and, as a result, will trade them at an even wider spread than they would have before. That is a very good reflection, I think, of the risk premium right now which investors are very, very concerned about.

--- Pause

2001 MR. INLOW: Let me move for a minute then to the concept of competition as you see it in the market. In your evidence you make the point that the existing price cap regime has not been successful in encouraging competitive entry.

2002 MR. TALBOT: I'm sorry. Can you give me your reference?

2003 MR. INLOW: Sorry. Paragraph 323.

2004 You indicate there that the existing price cap regime may have provided appropriate incentives to the incumbent companies, but it has not been as successful in encouraging competitive entry at the local level on an economic basis.

2005 MR. TALBOT: Yes.

2006 MR. INLOW: And I take it your position taken in this is that to encourage that type of entry you should raise local service prices. Correct?

2007 MR. TALBOT: Certainly I think most of the companies would agree with that, yes, that with higher prices there would be greater opportunity to support their business case, but clearly the reductions in prices would make it even more difficult than it already is.

2008 MR. INLOW: When you talk about raising prices in that context, or to be more specific is your suggestion that the Commission allow scope to the incumbents to raise prices rather than setting a raised price?

2009 MR. TALBOT: I think that from an investor's perspective there is a very big focus on the efficiency at which prices are being charged -- and by that I mean allowing the market to migrate so that the prices are moved closer to the underlying costs and to the point that that flexibility is provided, that is a positive sign.

2010 MR. INLOW: Are you contending then that current prices for local subscription is not covering underlying costs?

2011 MR. TALBOT: I'm not commenting on that really one way or the other. All I'm saying is that within the overall pricing of different services, there will be various inefficiencies -- and that's part of any natural market. It is not a particular comment on Canada. That's just the way it is with any industry and virtually any market, is that there will be gaps between the underlying cost in prices and, to the extent that the regulatory framework allows the operators to move and have enough flexibility to move those prices closer to the cost, that is a very positive factor from an investor's perspective.

2012 MR. INLOW: Would it not be fair to say that the position reflected in, for example, again in your portable telecom directory is that -- and I can give you a quote:

"The local telephony businesses provided a solid bedrock of revenue and cash flow for the ILECs which enables them to invest in new growth businesses". (As read)

2013 Surely you don't make that statement saying, "We can do that, but we are just barely covering our costs in local telephony".

2014 MR. TALBOT: I don't know that we are making that statement. What we are really looking at here is to say that the --

2015 MR. INLOW: Let me stop you at that point. I mean, I'm looking at page 46 again of your portable telephone directory where you do make that statement. I'm trying to reconcile that statement --it's at the bottom under "implications", that's the heading.

2016 MR. TALBOT: Yes.

2017 MR. INLOW: I'm trying to reconcile that statement with what I sense is an equivocation that you are saying maybe telecom providers aren't covering their local costs in what they charge.

2018 MR. TALBOT: No, no. We are not drawing any link relative to cost in this statement. I think all we are saying is the fact that the local business is one that continues to generate a fair amount of cash flow largely because there is a very little churn in that business and, frankly, that is in large part in our view because the price is at a point where consumers taking into account the cost and the quality of service are quite happy. So it generates a fair amount of cash flow. The proceeds from that cash flow are obviously then used as the corporation sees fit in developing new growth businesses.

2019 That's how, I think, any business would run itself, frankly.

2020 MR. INLOW: And when you refer to "new growth businesses" it would be fair to say that that is a reference really to wireless and spectrum investments.

2021 MR. TALBOT: I think there are many growth areas. I would think that certainly the data business is a big one, provision of Internet service, provision of high-speed and building out that infrastructure is very capital intensive. It requires a fair amount of cash flow. Wireless certainly is a big area of growth.

2022 And then overall expanding outside a geographic market, let's say, in one part of the country into another certainly takes a fair amount of capital.

2023 MR. INLOW: Can we have some level of agreement then that with respect to local costs, local service, there is a margin there and, in fact, some of the margins in some of the services, enhanced services that go with local, in fact, have very significant margins.

2024 MR. TALBOT: I will make two points here. The first is more of a general comment, and that is that the investment community typically does not look at -- well, we simply don't have access to the information of what the profits are on one side of the business versus another. We get the Bell Canada or the TELUS or the AT&T or Sprint statements. Those will reflect, obviously, different service lines, but being able to differentiate the profitability of one line versus another is just simply not information that is available.

2025 A second point -- sorry, I seem to have lost my train of thought. The margins on the optional features, yes, I would grant you that it's generally well known that the margins on software-based products can be fairly high. In the particular case of call features, that would be our understanding, yes, that they are healthy margin businesses.

2026 MR. INLOW: So then your position to say that in order to encourage competitive entry prices should be allowed to rise, I take it then that that's the sole basis on which you are advocating higher prices. You can't point to any benefit that a local customer would get as a result of paying more in that scenario?

2027 MR. TALBOT: No, I'm not sure about that. I think that choice is always good. There are some customers who will prefer to have a back-up service. They would like to have an alternative provider. I think some would be happy to see their service change. Perhaps they have had issues in the past. They would just like a fresh face, as it were.

2028 So there are other reasons apart from price, certainly, that a customer might choose to switch its provider.

2029 MR. INLOW: It's fair to say, I take it, that in Canada -- and I think you have used the test of sort of a percentage of gross domestic product -- that Canadians spend a significant amount of revenue on telephone services already, in fact more than the average in the OECD countries.

2030 MR. TALBOT: I think that's correct, yes, and I think part of that is the fact that Canadians have had a very long history of -- I mean, the telephone was invented here, and the fact is that we use the service a great deal and as a result you find that people are familiar with all the various features and the functionality. They have come to have very demanding levels of service and as a result they appreciate the benefits of it and they are willing to spend a higher portion of their income for the functionality.

2031 A classic example -- I mean, it might sound like a fairly general statement, but I think the fact of the matter is if you look at some of the new services, particularly on the high-speed side, we have one of the highest adoption levels in the world because people appreciate the value of that service and I suppose you can imply from that that it comes to them at a fairly reasonable cost.

2032 MR. INLOW: So if I can work through this scenario with you, you are saying that under a continuing price cap regime, the Commission should allow local rates to move up in some kind of basket mechanism and would it be fair to say that your view is at that point that with those types of higher rates -- let's try to work how this would happen. It would presumably be the incumbents who would raise rates and then the CLECs would look at those rates and say, "Well, at that level I can make a strong business case to get into the market. I can capitalize myself. I can become a competitor". Correct?

2033 MR. TALBOT: I think that that's certainly fair, yes, that the incumbents would want to share the lead. Obviously they are the main players in the market at this point and then the competitive operators would follow suit.

2034 MR. INLOW: Now, in response to another interrogatory addressed to The Companies, their response was The Companies Calgary -- 26 June 01 -- 40 --

2035 MR. TALBOT: I'm sorry. The number again was 26...?

2036 MR. INLOW: It was 26 June 01 - 40.

--- Pause

2037 MR. TALBOT: I'm sorry, that was number 40. Is that correct?

2038 MR. INLOW: Yes.

2039 MR. TALBOT: Yes, okay.

2040 MR. INLOW: There was a question put about I guess a different methodology of allowing competitive entry and that was by keeping certain prices artificially low and the answer to that was that that was not a model that would work because -- and I will read the answer:

"Prices are reduced below cost plus an appropriate mark-up. Then when prices return to competitive level, the operators relying on those artificially low prices will be vulnerable to unprofitability and eventually insolvency". (As read)

2041 I take it you would agree with that answer.

2042 MR. TALBOT: Yes, we would.

2043 MR. INLOW: I guess you would be hard-pressed to disagree with it.

2044 Now, returning to the other scenario where you are indicating that prices will rise to allow competitive entry and the fact that there are clearly margins in local service, what would prevent -- when competitive entry was looming, based on a business case at prices that had risen above cost, what would prevent the ILEC from immediately moving those prices down after a CLEC had made a significant capital investment and, in fact, do exactly what you say kills the CLECs in a scenario where you say you are going to allow them entry by virtue of artificially decreasing their prices of access into the system? How would those scenarios not resolve in exactly the same thing for CLECs?

2045 MR. TALBOT: I think there are a couple of important distinctions to be made here in terms of the type -- understanding the type of -- the economics of various services.

2046 The local business, in our view, from an investor's perspective, without having view of the detailed local results themselves, is that it is a fairly capital-intensive business. It involves a lot of up-front investments in property, plant and equipment, but then it involves a fair amount of operating expenses to maintain and run the service.

2047 It is also a very big part of a current incumbent's business and so any changes you make in that you would have to take into account very carefully.

2048 The fact that the cost structure is high and that it is an important part of the business means that you would have to think very, very carefully about reducing the prices of those services if you wanted to use them from an anti-competitive perspective. I think there is also the regulatory issue that would be raised.

2049 Frankly, there is an important difference here between what we have seen in the long distance business where the underlying costs of long distance were significantly lower and the prices were fairly high. As a result, those prices could come down quite sharply. That is part of one of the -- that is a great example of what I would call prices that were not, let's say, set in the most efficient manner.

2050 So I think there has to be a clear understanding of the differences between the economics of local and long distance. It is not to say that from time to time you could have an incumbent competing aggressively. That obviously is where there would have to be natural market forces.

2051 One thing I can say, incidently, is that if you did have an incumbent that took that type of approach on one of their biggest cash generating services, you would probably have a pretty negative reaction from the capital markets because your cash flow extremes then become very uncertain and, frankly, that would raise some very grave concerns, both in the debt as well as the equity markets as to whether they are going to have value creation on the equity side and whether they are going to have their capital covered, the cost of their capital covered on the fixed income side.

2052 MR. INLOW: Well, just to follow up that, though, how would that scenario about moving prices down be any different than -- just to take an example, you know, someone wants to move into the coffee business and a new competitor is on the horizon. You know, companies move their prices down to try to see if that company has the financial strength or takes some other -- you can call it anti-competitive behaviour if you want, but it is competition in the marketplace. Are you saying that those kinds of companies are heavily penalized by investors by trying to preserve market share, trying to deal with competitors.

2053 MR. TALBOT: I think in many cases, frankly, they can be. But in this particular case the distinction I draw between the coffee business -- which although I am not an expert in the coffee business, I would think that the costs are relatively low from a capital perspective. Here, you are talking infrastructure. I mean, this is long-term capital.

2054 Investors that I have talked to are being required to put up capital, it has to go in the ground, you can't go and just recover. It's not like you can just close up shop. That capital takes away -- you know costs interest, and that cost has to be covered day in and day out. So you would need to think very carefully about any changes in pricing.

2055 MR. INLOW: Now, you made a mention of a regulatory issue. The scenario that I put to you about if the Commission were to fix cost of access at rates that were below true cost to allow competitors in, in other words saying the incumbent had to provide certain parts of infrastructure at less than appropriate economic value, that would result in CLECs being punished in the market when competition was unleashed, and by competition being unleashed at that point I believe what is being said here is that would be at a time when the Commission decided to forebear, correct?

2056 MR. TALBOT: I think that is the understanding, that is correct.

2057 MR. INLOW: Then you are saying that all the players could then have their full range of adjustment for what they did with their prices?

2058 MR. TALBOT: Yes. And presumably if some sort of incentive were to be introduced to spark competition, as it were, presumably there would be an understanding that at some stage market forces would be allowed to prevail and that you would naturally see the forces of competition come to bear.

2059 MR. INLOW: And the reality of it is, then, that you could not move against those competitors in that scenario until either the price cap regime had come to an end or there was forbearance. There would have to be some regulatory decision to allow full competition, correct, before you could adjust those variables?

2060 MR. TALBOT: I think that's fair, yes.

2061 MR. INLOW: Now, in the scenario where you are proposing or saying under the price cap regime allow upward movement of the prices, would it be fair to say that as soon as there was potential competitive entry an incumbent, even under the existing regime, could drop their prices without any regulatory say so. Correct? They could simply file a new tariff. Is that not correct?

2062 MR. TALBOT: Frankly, I don't know that we have gone that far down the path in terms of what would happen after that fact. Really, what we are proposing -- or the comment would be that from an investor's perspective if rates were to be allowed to increase closer to where a service is provided in other countries, that that would provide for a more sustainable business plan for allowing competitive entry into the market place.

2063 But I don't think we have considered going beyond that as to what would happen after that fact. Clearly, that would be something to decide later on.

2064 MR. FARMER: Let me add a couple of points on this discussion that is being had right now.

2065 First of all, on your question about what would happen should we wish to lower our prices. Well, the services that we are talking about, these price cap services, would still be regulated and, therefore, we would have to pass some regulatory test. The regulatory test is an imputation test. Would there be any king of anti-competitive behaviour if we were to lower our prices? As long as we pass the test the answer would be no and therefore one would be permitted to do it.

2066 Let me also comment on the scenario you presented in terms of dropping the prices for access facilities below cost.

2067 There are a couple of other implications to that scenario that I think one has to take into account.

2068 One is that if you were to do that obviously the telephone companies, the people providing the access facilities, not only have to cover the cost of an access facility but costs of a number of corporate overheads and other issues generally, which we recover through mark-ups and prices.

2069 If one weren't permitted to put in a mark-up or in fact had a negative mark-up, if I can put it in those terms, then obviously we would be left to find the ability to recover those costs from other services and, therefore, we would have to go to other customers to do it. In that way you build a certain equity into the pricing scheme, particularly if the price cap rules don't permit for that additional recovery that we would be forced to take.

2070 The other implication is one really that relates to the nature of competition. If, in fact, the telephone companies are providing access facilities below cost, one can certainly expect that the prospect of others ever providing access facilities -- and this goes for any service, obviously, that the telephone companies would be provide. If it is provided below cost, I imagine we could expect to see the end of facilities-based competition.

2071 Certainly, the growth in facilities would finish simply because it would be extremely difficult for anybody who has taken facilities below the telephone companies' costs to justify to themselves taking it in any other way.

2072 MR. NICHOLSON: I would like to make just one comment, too, on the scenario. I think we do have an analogue in what has happened in the local business market where clearly there has been competitive entry attracted by the margins there, and there has been a response from the incumbents. Prices in fact have gone down, but that has not eliminated competition.

2073 On the contrary, the market share of the competitors in the business market has continued to increase steadily every year.

2074 So that at least demonstrates a dynamic which is consistent with growing competitor presence at the same time as a price is falling once that entry has been established.

2075 MR. INLOW: Maybe let me come back to you, Mr. Farmer, then.

2076 You talked about you would have to meet an imputation test. Would it be fair to say, though, that if at current rates there is a margin in local business being made you are not going to have a problem meeting an imputation test at that point. Correct?

2077 MR. FARMER: I would expect that to be the case, I mean, for the reasons that Mr. Talbot described at some length I thought. There are any number of other reasons which would be regulating in the market the extent to which we would want to be reducing prices.

2078 From a strictly technical regulatory point of view, obviously depending on the extent that the margin is in the particular service that we were talking about, we would be able to drop it to lower the margins there.

2079 MR. INLOW: And the restraint under price cap is that within that basket you would have to meet the overall price constraint?

2080 MR. FARMER: Well, those constraints I think you are referring to now are upward price constraints.

2081 MR. INLOW: Yes.

2082 MR. FARMER: The downward price constraints, which is really where the imputation test plays, is done on a more disaggregate basis by service by band.

2083 MR. INLOW: But to come back to my scenario then, the reality is that, subject to our discussion, that an ILEC could reduce rates for anti-competitive purposes immediately upon sensing there might be entry. This would not be a case where, for example in the other scenario we were talking about of the Commission setting entry access costs low, at least in that scenario you would say "Well, you have a competitor in. They have the opportunity to at least get their feet in the business for a few years before someone says `All right, now you have to compete'."

2084 In the other scenario about raising costs -- or raising prices to allow entry, it is fair to say that some anti-competitive signals or behaviour can take place immediately and that in fact a competitor may not even have the chance to sort of get their feet on the ground and learn the business and compete before their proforma financial statement basically goes down the tube because their revenues aren't going to be what they thought.

2085 MR. FARMER: Let me make two comments on that.

2086 One is, first of all, under the regulatory regime we would be facing there is no opportunity for anti-competitive prices.

2087 I'm not sure if that is what you had intended at the beginning of your question, but that is the way it sounded.

2088 MR. INLOW: I am just using that description so we are clear what we are talking about. I'm sure I didn't characterize otherwise.

2089 MR. FARMER: Well, we should be very, very careful about the term "anti-competitive".

2090 "Anti-competitive" means that there would be a pricing practice going on with the intention of reducing the extent of competition in a way that is -- how can I put it -- in a way that doesn't even accord with normal practice in any market that we would normally look at.

2091 So with the imputation test there is no opportunity for this anti-competitive pricing.

2092 MR. INLOW: If you contrast the two models, though, one that says "Let's allow prices to rise gradually" -- and we do that for a number of reasons. If our only interest was "Let's see how quickly we can get competition in here" I suppose what we would be saying is "Let us uncap this and just keep jacking up prices to see where competition really strikes home." That isn't, of course, what we are proposing here.

2093 So we have a number of objectives which we are trying to attain and therefore we have proposed to allow prices to rise gradually or, as Mr. Nicholson said yesterday, it is actually a freeze in real terms.

2094 The real point, though, it is not necessarily the gradual increase but rather the fact that through regulation prices wouldn't be forced down, which is what we have seen over the last number of years, giving a signal to competitors that they aren't going to be having to compete both with the telephone companies, the incumbents, and a set of regulatory rules that are imposed on the incumbent telephone companies, that in fact prices will move as the market dictates within those constraints that we have proposed.

2095 In terms of letting competition come in, or what is the best way of doing it, I guess the way I would characterize it is over the last four years we have been running an experiment and the experiment has shown that in the business market what we had expected to happen has happened, that is that competition did come in, it came in in the more populace centres where the revenues are concentrated first and begins to expand out. That is actually what we expected and we are actually seeing that happen.

2096 In the residential market, however, it has been quite a different observation that we have to make. In that market we have seen very little in the way of competition.

2097 There are pockets of exceptions here. We spoke about EastLink yesterday and certainly there are examples in the U.S. where competition in that market is developing, but certainly not on a widespread basis here.

2098 So what we are proposing is that we allow the experiment to continue to run, but to run it on a somewhat basis, and that is to allow prices to come up to such a level within those constraints that I have spoken about and let the competitors see that they are going to be able to offer their services within that context where prices aren't going to be forced down over a certain period of time.

2099 And I expect over time we are going to be seeing competitors who currently are talking about certainly having an interest in getting into the market and have certainly said that it is a positive factor that the companies have proposed that prices be able to increase over time and it gives them more hope that they would be able to get into the business and they still express their intentions to get into the business on a broader basis.

2100 MR. INLOW: Let me come back to you, Mr. Talbot.

2101 In the conclusion of your report you make a reference to earnings sharing.

2102 MR. TALBOT: I'm sorry, the paragraph reference there was?

2103 MR. INLOW: 3.40.

2104 MR. TALBOT: Yes.

2105 MR. INLOW: You make the observation that the imposition of an earnings sharing formula would tend to drive capital out of the industry.

2106 MR. TALBOT: Yes.

2107 MR. INLOW: Maybe we can dispense with this very quickly.

2108 I take it it would be fair to say that you are making that statement only on the basis of all other things being equal. In other words, if a regulator set a certain productivity hurdle, for example, to be met and you are saying if that same productivity hurdle were set with an earnings sharing and without an earnings sharing that the capital market is simply going to gravitate to the one without earnings sharing. Correct?

2109 MR. TALBOT: I think this point can't be underestimated or under-stressed rather.

2110 Investors have a choice. They can choose to put their money anywhere. Whether it be equity or fixed income they can put it inside Canada or out. They can put it in any industry, in any company.

2111 If you had a situation where they were not going to benefit from the profitability of a company, then that is a clear deterrent. I mean, the whole idea, as I think we can all appreciate, is that you want to have an environment where investors can be rewarded based on the franchise of a company and the decisions that the management take and their ability to execute.

2112 That reward relative to the risk that investors might undertake to get at that reward really cuts at the core of what an investment is all about.

2113 It is almost like antithesis, if there is to be earnings sharing it takes away the very reason for wanting to be there. So this is a very important point.

2114 MR. INLOW: But it only takes it away in the sense of saying that it can't be divorced from risk. Correct?'

2115 In other words, if the Commission says to the telecoms "We expect you to be" -- just to take a number -- "10 per cent more efficient every year, and if you are better than that you can keep it all", and they did not attach an earnings to that, an earnings sharing, that is a high risk investment, correct, than if it had an earnings sharing that worked above and -- well, the earnings sharing is only going to work above the line, right, in the sense of saying the earnings sharing is only a take away if you are above the productivity hurdle.

2116 MR. TALBOT: Yes. I think what I would say is that obviously the hurdle is, in a way, a separate issue. But all other things being equal, you know, the management would -- a price cap provides for a very high degree of incentive for the company to run itself as efficiently as possible, both in terms of the internal operations but also in terms of where it decides to put capital.

2117 The investors want a very clear cut idea of what the environment is going to be going forward, and they also have a great aversion to any kind of notion of a profit sharing.

2118 I can tell you that in the eyes of -- I will take a U.S. investor, but any international investor to hear of any type of earnings sharing would -- I mean, they just simply wouldn't grasp the notion, it is so totally foreign.

2119 MR. INLOW: Well, let's put another scenario hypothetically then.

2120 What if a regulatory body was to say "We will give you two choices. You can either have a 10 per cent or a 20 per cent" -- I guess you could pick any number -- "and an earnings sharing." In other words, you would have a hurdle and you have earnings sharing in the event that you were over that hurdle, or you could have a higher hurdle and a different case or no earnings.

2121 MR. TALBOT: Then I think they would probably throw their hands and frankly say, you know, "We will go elsewhere."

2122 But all other things being equal, the notion of any kind of earnings sharing would have a very negative reaction immediately. They just wouldn't even think twice.

2123 MR. INLOW: You are saying that investors would not even look at the risk that might be attendant in the hurdle rate that was set?

2124 MR. TALBOT: Yes. To someone who has choice, they would just drive on straight away. Because earnings sharing, when you have that it means that all of a sudden you are operating on a completely different playing field from what you would in any other normal investment.

2125 And frankly, you know, investors -- there are certain rules of investing that are pretty basic and that is certainly one of them, is that the company is being run for the benefit of its customers and its shareholders.

2126 MR. INLOW: Those are my questions, Mr. Chairman.

2127 Thank you.

2128 THE CHAIRPERSON: Thank you, Mr. Inlow.

2129 We will take our morning break now, then, for 15 minutes.

2130 I believe the next party to cross-examine is AT&T.

--- Upon recessing at 1030 / Suspension à 1030

--- Upon resuming at 1040 / Reprise à 1040

2131 THE CHAIRPERSON: So we will call the next party to cross-examine.

2132 AT&T Canada. Mr. Ryan.

2133 MR. RYAN: Thank you, Mr. Chairman.

EXAMINATION / INTERROGATOIRE

2134 MR. RYAN: Good morning, gentlemen. My name is Michael Ryan. I am appearing on behalf of AT&T Canada, as you know.

2135 If I may, Mr. Nicholson, I would like to start with some questions for you. I distributed some documents yesterday to you through your counsel that I understand the Commissioners have before them. Perhaps I can just say by way of introduction to try and ease the paper flow here, I put a handwritten number in the upper left hand corner of the documents. I will refer to the documents by that number until they have exhibit numbers.

2136 MR. NICHOLSON: Okay.

2137 MR. RYAN: The first documents I would like to refer to are number 12 and number 9.

2138 MR. NICHOLSON: Twelve and nine. Can you just describe them qualitatively so I have some idea --

2139 MR. RYAN: Yes. Number 12.

2140 MR. NICHOLSON: Okay.

2141 MR. RYAN: It is entitled "Bell Canada per cent return on average common equity 1995-2000".

2142 MR. NICHOLSON: Right.

2143 MR. RYAN: Number 9, some share price performance documents.

2144 MR. NICHOLSON: Okay. I have them.

2145 MR. RYAN: Mr. Nicholson, when we look at document 12, the per cent return on average common equity for the company from 1995 to 2000, I think we can see that price caps have been very, very good for Bell Canada, haven't they?

2146 MR. NICHOLSON: I'm not sure that I would draw that conclusion from the picture, but --

2147 MR. RYAN: What conclusion would you draw looking at that picture in respect of your performance under price caps?

2148 MR. NICHOLSON: Well, first of all, this is Bell Canada in total, as I understand it. We certainly have a good return in 1998 and it looks like it has been trending down since.

2149 MR. RYAN: And is that what you are expecting?

2150 MR. NICHOLSON: No. I think what really has to be done with a picture like this is to look behind the factors that were changing from year to year and what is responsible for the pattern that we see. Just as an example of that, the peak in 1998 I think reflects a substantial write-down of the company's common equity at the end of 1997, so the denominator and the ratio probably explains that spike that you see in 1998.

2151 In fact, each data point here has a story behind it. I don't think you can draw any simple conclusion just from the pattern.

2152 MR. RYAN: We know this much. Your returns on average common equity were constrained prior to the introduction of price caps. Is that not so?

2153 MR. NICHOLSON: They were.

2154 MR. RYAN: And the returns that you are achieving now are far in excess of anything that was ever allowed during the previous rate base of return regime.

2155 MR. NICHOLSON: I'm not sure that that's true. I don't know historically what the pattern of allowable rates were, but --

2156 MR. RYAN: Let me ask Mr. Farmer then. Mr. Farmer, were you ever permitted a return on average common equity under rate base rate of return in the order of 22.1 per cent as we see in 1998 or 19.3 per cent as we see in 1999?

2157 MR. FARMER: Well, not that I recall, Mr. Ryan. As you know --

2158 MR. RYAN: Would you remember if they had ever authorized a number like that for you?

2159 MR. FARMER: Let me come back to that in a second. I will answer that.

2160 I just wanted to point out there is a difference here. You will recall that in 1998 when prices were reset they were reset on (a) a regulated basis and (b) for the utility itself and that rate of return was 11 per cent, but those numbers are rather difficult to compare to accounting returns for the company generally speaking.

2161 Would I have remembered a 22 per cent? Yes, I am sure I would have.

2162 MR. NICHOLSON: Obviously the climate of the industry and the way in which the industry was regulated changed completely in 1997 and the risk profile of this company and others in the industry would have changed at that time. Higher risk requires higher reward, other things being equal.

2163 MR. RYAN: And that experience with price caps which I think you have been reluctant to concede has been a good one, but whatever we refer to it as, it has had a very positive effect on your share price as well, hasn't it, as we see in document number nine. The first page we see BCE Inc.

2164 MR. NICHOLSON: Yes.

2165 MR. RYAN: The figures for the period October 1996 to October 2001.

2166 MR. NICHOLSON: Yes.

2167 MR. RYAN: And this is versus the TSE index, the 300 index.

2168 MR. NICHOLSON: Well, yes, but the factor responsible for the shape of that relative price trend of our stock versus the TSE is overwhelmingly what happened to Nortel. This has got very little to do with the telecom operations of BCE.

2169 Once the spin-off of Nortel was completed, if you look near the peaking point of that graph, the pattern has been flat to obviously down in recent time for a number of the factors that Richard referred to.

2170 This graph doesn't tell you anything about the performance of Bell or almost nothing prior to the point of the spin-off. Subsequent to the point of the spin-off the picture is basically flat to declining.

2171 MR. RYAN: So your evidence is that the market wasn't valuing the Bell Canada asset in the period prior to the spin-off of Nortel?

2172 MR. NICHOLSON: Well, it was implicit in the BCE stock price obviously, but it became swamped by the Nortel component in BCE's share price as Nortel took off, so there is very little -- there was very little Bell that showed up in the BCE stock during that period where the graph rises sharply.

2173 Richard, do you want to comment on that?

2174 MR. RYAN: Just before we do -- I will give you that opportunity, Mr. Talbot, if you want, but the parting of the ways with Nortel hasn't had a negative effect on the company, has it? It has maintained its stock price versus the TSE through the period post divestiture of the Nortel shares, if I can put it that way.

2175 MR. NICHOLSON: Well, I mean we see the picture there. You would have to put a point on the graph and then see what the trend has been and depending on exactly at what point you choose to measure your percentage change, it either looks like it's flat, either going -- well, actually, there is no point I think at which it has gone up, but the overall trend is, if anything, down.

2176 MR. RYAN: If we go on to the next page, Mr. Talbot, I said I would give you an opportunity if you wanted to say something about that --

2177 MR. TALBOT: If I may, I mean to give you a sense of our own numbers, the vast majority of the appreciation in our view, and it is admittedly somewhat subjective, but to the best of my ability to tell.

2178 Before Nortel had been spun out of BCE, there was obviously a very big discount. If you added up all of the assets which BCE held and ascribed a value to that and then look at where the market price of where BCE stock actually was in the market price, you would have had a gap there before of about $30 of discount.

2179 In other words, what the market was saying is "It's very nice that you have this Nortel in here, but it's totally different from Bell Canada. It has got a completely different business that it's in, a totally different growth profile, a totally different risk profile and, therefore, we are going to effectively put what we call a discount to net asset value on BCE's shares so we will only trade them -- we will trade them for about $30 less than what the sum of the parts might be".

2180 Now, if you take the starting point of your graph here at the end of October, I think it worked out to about $7 a share for BCE.

2181 MR. RYAN: October 1996 we are talking about. Right?

2182 MR. FARMER: Excuse me. October 1996. I beg your pardon. Again, this is to the best of my ability. I would say that the contraction, the discount to that NEV has accounted for about $20 of the appreciation. I think the closing price of BCE yesterday was in the $34 range.

2183 If you took the $7 starting point, added the $20 of discount that was effectively erased by spinning Nortel out, that would get you to about $27 as the starting point back in October of 1996 and today it is at $34, so that's a 25 per cent return over effectively a five year period.

2184 MR. RYAN: Looking at the next page, MTS, does Nortel play a part in the valuation put on MTS?

2185 MR. FARMER: No, it doesn't, but it has a very big growth asset that is ascribed to it in the form of -- first of all, there are two comments on MTS.

2186 First of all, I think they have the lowest debt leverage position of any telecom company on the planet that I can determine. So, frankly, where investors are putting an enormous premium on liquidity, and by liquidity what I am talking about here is the conservative nature of their balance sheet -- this is a company which is very appealing for people. It has much less in the way of financing costs that have to be covered.

2187 The second aspect is the fact that it does have a very attractive growth strategy, primarily through Bell and Intrigna. It's a relationship it has with Bell Canada enabling it to expand into the western part of the country.

2188 Obviously with Bell it provides it with the brand name and recognition and a nice platform for growth. I think that that -- I use our own numbers -- we have just taken them down as of yesterday, but about $7 of the $34 value of its stock is for Intrigna alone and that wouldn't have amounted to anything before, I guess, two years ago.

2189 MR. RYAN: Well, let me see if I understand you properly, gentlemen. The thrust of your evidence is that the introduction of price caps has not made a positive contribution to the performance of the stock of the company. I thought I had understood your evidence up to this point to be that price caps was the thing that the company valued highly versus the rate base rate of return regime that you had previously been under.

2190 MR. NICHOLSON: No, I think other things being equal, price caps is certainly preferable. We didn't say that it didn't contribute. All we are saying is that the pictures that you presented grossly exaggerate any contribution by any standard. That's really the only point.

2191 MR. FARMER: And I think from a stock market perspective you have to keep in mind that there are many different factors that will influence a stock. They range everything from balance sheets and cash flow, but also the kind of growth profile that a company has and also the level of risk that investors perceive it to encompass.

2192 Certainly in the case of Manitoba Tel, most people perceive it to be a lower risk investment.

2193 MR. NICHOLSON: Ironically, the one contribution of Nortel to this graph on Manitoba Tel is to drag down the TSE.

2194 MR. RYAN: The third page of the exhibit shows for completeness as much as anything else, shows the share performance of Aliant. It hasn't obviously been as dramatic during the price cap period as -- I'm sorry, this is 1999 to 2001 because Aliant has a much shorter corporate history than the other two companies, but still a very positive trend versus the TSE. Is that so?

2195 MR. TALBOT: It does from that time frame, yes.

2196 MR. RYAN: All right. Well, let's --

2197 MR. TALBOT: I think, however, if I could add, if you looked at the price of the other telco which isn't included in the charts from TELUS, at the end of October of 1996 it was at $26, today it's at $18. In fact, it doesn't appear that the same trend has occurred. I would think that there are other factors that have influenced its stock price.

2198 MR. RYAN: Well, TELUS is another day's work, gentlemen. I'm sure we will be coming to that in due course.

2199 If we could look next at document number two, please. That's a series of bar charts.

2200 MR. NICHOLSON: Yes.

2201 MR. RYAN: The first page is headed "Bell Canada net income", probably more properly speaking net income to common by segment.

2202 MR. NICHOLSON: Right.

2203 MR. RYAN: You will see that you would have recognized when you reviewed these documents prior to your cross-examination that what these depict -- what we have tried to depict here is based on the information you have provided in response to a CRTC interrogatory, what share of the net income to common of Bell Canada derives from utility services and what share derives from the other segment as it's called during the period 1997 to 2000. I think you will -- or perhaps you won't -- but will you agree with me, Mr. Nicholson, that Bell Canada continues to derive a very large portion of its net income from the traditional utility services?

2204 MR. NICHOLSON: Yes, both the utility and the competitive. We were looking at both on these pictures, yes.

2205 MR. RYAN: Yes. Well, specific --

2206 MR. NICHOLSON: Yes. Oh, no, I don't dispute the point.

2207 MR. RYAN: Yes. All right.

2208 The trend, if we just look at the -- perhaps it's a little bit easier to follow if we look at the numbers below the individual bar charts -- the trend in the utility segment revenues has been very much an upward one. In 1997 we see revenues of 521 --

2209 MR. NICHOLSON: Yes.

2210 MR. RYAN:  -- million dollars going to 670, going to 782, going to 819.

2211 MR. NICHOLSON: M'hm. Yes.

2212 MR. RYAN: A similar sort of picture for Aliant on the next page, except I think we can see from the bar charts that the weighting of utility, it's probably fair to say, is heavier for Aliant than it is for Bell Canada. Would that be so, Mr. Nicholson?

2213 MR. NICHOLSON: Yes, on the basis of the picture that is here.

2214 MR. FARMER: I just wanted to add one comment on Aliant, Mr. Ryan, if you extended 2000 to 2001 and I believe we filed the 2001 numbers for the utility, it's true that the number increases yet again from 131 to 145. But when you take into account the changes in the contribution regime which happened between 2000 and 2002, then the trend reverses and rather than one -- as it grows from 131 to 145 and then you superimpose the impact of contribution, it goes down to 110. So just to say that looking at these years perhaps it's dangerous in extrapolating.

2215 MR. RYAN: Would you explain your comment please about the contribution and the adjustment that I think needs to be made to --

2216 MR. FARMER: Sure. Yes.

2217 MR. RYAN:  -- to the year 2001 which isn't part of this document, of course.

2218 MR. FARMER: Yes. No, I'm happy to. It's really this. There have been some changes to the contribution regime as I know you know. And when -- and two things happened. One the contribution is now collected on a different basis and so rather than it being on the basis of long distance, it's collected on the basis of revenues and applied as a percentage. And the second element is that that percentage will change going forward to 2002.

2219 So when you look at Aliant, one thing you discover is the amount of contribution revenues that they are going to receive and 2002 goes down drastically. For Aliant it's by $78 million, which is a lot of money for Aliant. That is the net impact of the fact that they are going to be paying in 2002 less contribution than they will in 2001, but also it takes into account the fact that they will be receiving less contribution revenues. Both numbers, of course, on the utility side of the business and that $78 million is worth about 5.4 per cent on the utility rate of return.

2220 So just again my only point was just to say that one might draw a wrong conclusion if one were to just extrapolate.

2221 MR. RYAN: The corresponding figure for the utility segment for 2001 would be $145 million?

2222 MR. FARMER: That is correct.

2223 MR. RYAN: So as you say it would continue the upward trend?

2224 MR. FARMER: Until you superimpose the impact of the contribution changes in which case it goes to 110.

2225 MR. RYAN: Is there any particular explanation for the negative experience in the other category in 1999 for Aliant where you actually lost money in the provision of all services other than utility?

2226 MR. NICHOLSON: We can certainly -- we can provide an answer to that. We will have to speak to our colleagues from Aliant.

2227 MR. RYAN: No, that won't be necessary but I thought there might be something you could offer by way of explanation.

2228 Could we look at MTS then. A similar sort of picture would you agree, gentlemen. Utility segment again carrying the burden of the company as it were in terms of net income performance?

--- Pause

2229 MR. FARMER: Maybe you could repeat the question. I think we left the question dangling.

2230 MR. RYAN: Yes, I think I will.

2231 I asked you to acknowledge that in the case of MTS as we have seen in respect of Aliant and Bell that it continues to be the utility segment that is making the most significant contribution to the net income of the company?

2232 MR. FARMER: I think that is a fair characterization of this chart. That is right.

2233 MR. RYAN: Okay. Now, there is a fourth page on this document that probably really shouldn't be here, Mr. Chairman, because it deals with TELUS and I'm proposing just to remove it and deal with our friends from TELUS at another time. So I won't ask that it form part of the exhibit.

2234 Now, I would like to next take a look at BCE and its earnings position, gentlemen, and in particular we could look at document number 4. That is a two-page document entitled "Contribution to BCE Earnings, 1997-2000."

2235 Now, my understanding is that BCE is currently the most profitable company in Canada. Would that be an accurate statement, Mr. Nicholson, or the company that earns the largest profits, put it that way?

2236 MR. NICHOLSON: No, actually the banks are currently earning more than we are. I know that Scotia Bank is and the Royal is and perhaps some others.

2237 MR. RYAN: Well, maybe I'm a bit dated because although I don't have it here the source of my information was the Report on Business for July 2001. But in any event, times are not lean for Bell -- BCE. I think that is all we really need to know. But Bell Canada, as this document would indicate, has been really the source of BCE success, hasn't it, in terms of earnings of the company? And if we could just take a minute to explain --

2238 MR. NICHOLSON: Yes, it's obviously a very important contributor to BCE's earnings. There is no question about that as we would expect it to be.

2239 MR. RYAN: We have the figures for BCE on the left-hand portion of this graph showing BCE's total earnings and the success of bar charts, gentlemen, are the contribution to the BCE total made by each of the other companies represented there. Bell Canada or groups of companies: Bell Canada, Bell Globemedia, Teleglobe, BCE Emergis and BCE Ventures.

2240 In fact, Bell Canada is at the moment carrying the rest of these investments, isn't it? Bell Canada standing on its own has larger earnings than BCE?

2241 MR. NICHOLSON: Yes, it does and the reasons for that are primarily related to the earnings impact of investments that have to be made in new businesses. We are looking at the final accounting results here and you have got a very mature company in Bell Canada and you have got a number of start ups and rapidly expanding companies in the rest of the -- in the rest of the chart that is shown.

2242 MR. RYAN: Bell Canada as I think was indicated by Mr. Talbot in the passage from the report on the portable telecom directory is providing the cash flow that is allowing these additional investments, isn't it?

2243 MR. NICHOLSON: No.

2244 MR. RYAN: No?

2245 MR. TALBOT: I mean you can speak, Peter, but from my perspective there is no question that Bell does generate dividend income up to BCE. But there being two sources of additional capital that BCE has used over the last three years, the first was the investment that Ameritech made in Bell Canada where that was worth $5.1 billion Canadian. The second being, of course, the retention of a share or portion of the shares in Nortel which represented about another 4.1 billion. So there combined you have over $9 billion of capital that have been used to reinvest in many of these other areas.

2246 MR. NICHOLSON: I would add to that that we disposed of a number of assets in Bell Canada International in Asia and I can't vouch for the number but it raised on the order of a billion, in fact, I think slightly more. We also made the Teleglobe purchase with a share issue, which at the time was valued on the order of $8 billion but it didn't reflect a cash outlay.

2247 So in fact all of the investments can be accounted for by the sources that Richard and I have just enumerated.

2248 MR. RYAN: Looking at the figure or the reference to BCE Emergis, could you tell me what activities form part of BCE Emergis?

2249 MR. NICHOLSON: Yes, BCE Emergis is what we call an e-commerce solutions provider. It provides technical systems to enable e-commerce, primarily in relation to the financial services and the health care services industries. That is where it is specialized both in Canada and the U.S.

2250 MR. RYAN: And BCE Ventures, that would incorporate what?

2251 MR. NICHOLSON: BCE Ventures incorporates our investment in Bell Canada International, in CGI, in Telesat, BCE Capital. I think that those would be the primary components of BCE Ventures.

2252 MR. RYAN: Finally, Bell Globemedia?

2253 MR. NICHOLSON: I should say that BCE Ventures incorporates what we consider to be not the core ongoing businesses of BCE. Teleglobe?

2254 MR. RYAN: Yes.

2255 MR. NICHOLSON: Teleglobe is --

2256 MR. RYAN: Bell Globemedia.

2257 MR. NICHOLSON: Bell Globemedia is our investment in CTV and the Globe and Mail and also in the new media properties both of the Globe and Mail and the former, well, even the present Sympatico web site. Sympatico/Lycos Incorporated, actually is the company.

2258 MR. RYAN: Would you agree with me, Mr. Nicholson, at least from an earnings perspective, looking at document 4 here that BCE, from an earnings perspective, it is still essentially a telephone company?

2259 MR. NICHOLSON: Yes, I mean that is evident from the numbers. But that is not the conclusion that I would draw from a revenue perspective. There is a substantial fraction of our revenue now coming from these other entities and if you look at growth potential, this is where a great deal of it is but within Bell Canada there is also considerable growth in new services that have been mentioned many times: wireless data, internet.

2260 So the way we think of the company is not in terms of the picture that is presented here. We think of the bars on the right-hand side or at least certainly Emergis, Teleglobe, Globemedia is to be very important growth components for our future, and we are prepared to undergo the earnings drag that that implies.

2261 MR. RYAN: Yes, well as long as I suppose you have a healthy utility segment, that is a tolerable situation for you.

2262 MR. NICHOLSON: No, I think that the healthy utility segment is obviously important to us but there is a great deal more going on in Bell. We have a very healthy competitive segment which is even shown in your earlier chart and becoming more so.

2263 MR. RYAN: You are referring to document 2 there?

2264 MR. NICHOLSON: Yes. Right.

2265 MR. RYAN: Could we go next, gentlemen, to your evidence at page 3. It would be useful if at the same time -- I am going to look specifically at paragraph 2.8 -- if we could at the same time we could look at companies AT&T, 26 June 201 supplemental.

2266 The last sentence in paragraph 2.8 of your evidence, you say:

"Competitors have captured approximately 13 per cent market share in the business access market in Bell Canada's territory and approximately 22 per cent in Band A". (As read)

2267 I have noted in your opening statement that you have used slightly higher numbers, 15 per cent for market share in the business access market.

2268 MR. NICHOLSON: Twenty-three in Band A.

2269 MR. RYAN: Twenty-three in Band A.

2270 MR. NICHOLSON: Yes.

2271 MR. RYAN: Right. That was on page 3 of your opening statement.

2272 MR. NICHOLSON: Right.

2273 MR. RYAN: When I look at your response to AT&T 201 -- and let's start with page 3 of 6 -- and since the example you gave in your evidence is Bell Canada, if we look at the figures for Bell Canada, competitor market share business, we scroll down to the Bell Canada figures. I'm looking first at the aggregate figure which is 4.1 per cent and in Band A we have a figure of 8.5 per cent for a competitor market share.

2274 Could you explain --

2275 MR. NICHOLSON: Hold on --

2276 MR. RYAN: Sorry. Are you ready, gentlemen?

2277 MR. NICHOLSON: I'm just trying to understand the numbers.

--- Pause

2278 MR. NICHOLSON: Okay, carry on.

2279 MR. RYAN: Yes, so in your opening statement and in your evidence you said that Bell Canada has lost approximately 13 per cent market share in business access market and 22 per cent in Band A. In the response to the interrogatory, page 3 of 6, you indicate that the competitor market share is 4.1 per cent in aggregate and 8.5 per cent in Band A in Bell Canada territory.

2280 My first question for you is: What accounts for the difference between those two numbers?

2281 MR. FARMER: If you could just give me a moment. I just want to check a couple of numbers.

2282 MR. RYAN: Yes, absolutely. Take your time.

--- Pause

2283 MR. FARMER: We have perhaps part of the explanation for you, Mr. Ryan. The numbers that we see in 201 describe market share loss on a facilities basis, and by that we mean that competitors would be serving the customer, either entirely through their own facilities or through the use of an unbundled loop that they take from us.

2284 The 23 per cent and 15 per cent numbers that you pointed to earlier include both facilities-based and resale as the competitive loss.

2285 MR. RYAN: I see. So if we are talking about market share and facilities-based competitors the number is in the order of 4 per cent in Bell Canada territory. It would be a mistake to read the 13 or the 15 per cent as indicative of facilities-based competition. That would include resale.

2286 MR. FARMER: Well, it was 4 per cent in 2000. It's 7.1 in 2001. So there is obviously a certain amount of forecasting for 2001, but these numbers were pulled together when we already had some experience in 2001, and clearly lots of experience in 2000 and the years before.

2287 MR. NICHOLSON: I think that there was a slight inaccuracy that crept into the premise there too and that is that some facilities-based carriers also offer service through resale. In other words, there are facilities-based carriers who have their own on-net facilities, who have unbundled loops and who also resell.

2288 MR. RYAN: Sticking with actuals and looking at the figures for competitor market share in the business segment then, and moving outside of Bell Canada territory, we still see as of the year-end 2000 no competition in IslandTel territory, 7 per cent market share for competitors in MT&T, and so on, NBTel and NewTel still registering zero and MTS registering 3.6 per cent and SaskTel registering zero.

2289 MR. FARMER: That's correct. Again, those are facilities-based only and year 2000 numbers.

2290 MR. NICHOLSON: And those clearly reflect the choices made by the competitors and I think it has been an ongoing theme of our testimony that capital goes first to the most promising opportunities are and this would be anticipated.

2291 MR. RYAN: Anticipated in what respect, Mr. Nicholson?

2292 MR. NICHOLSON: Anticipated in the sense that the most attractive markets in this country are by and large the larger urban markets, and it's not surprising that that's where competitors would first make their investment.

2293 MR. RYAN: That wasn't the view that The Companies took at an earlier stage, is it? Perhaps we could go to the response to 208, same series, The Companies AT&T 208.

2294 Here AT&T asked The Companies to provide a facilities-based local market share loss estimate projections that they filed in connection with the proceeding initiated by Public Notice 96-8 which was dated 10 June, 1996, and to compare those projections to the actual estimated market share loss that has subsequently come about. We see the response of The Companies in tabular form at the bottom of the page.

2295 Let me look first at, for instance, MTT. Back in 1996, you projected that the market share loss to competitors by 1998, 1999 and 2000 would be in the order of 1.8 per cent, 3.6 per cent and 6.9 per cent for MTT. The actual experience -- perhaps you can confirm for me, Mr. Farmer, that I am reading this correctly -- is zero for 1998, zero for 1999 and 2.8 per cent for the year 2000 which is still in the order of half or less of what was projected back in 1996.

2296 MR. FARMER: Well, that's right. I mean, the numbers are as the numbers are. What you are seeing here, of course, as well is a depiction of the total market, including both the business and the consumer market.

2297 I suppose another way of describing it for MT&T is they look to be a little bit more than a year out in terms of their projections. They had projected 3.6 in 1999. They are at 2.8 in 2000. So just an alternate way of describing the trend.

2298 MR. RYAN: Well, the competition has been, as that response indicates, a lot slower to get off the ground than had been anticipated.

2299 MR. NICHOLSON: I think it was a year slower, perhaps. In fact, if you look at the Bell numbers in that Table 8, they overlay very closely that the prediction was 1.4 in 1998, but in fact it was 1.3 per cent loss in 1999. It was 2.9 originally predicted in 1999; the actual was 2.9 in 2000. Then it was 5.7 projected in 2000, and in fact it came in roughly estimated at 4.4 in 2001. So there is a one-year delay roughly in those figures.

2300 MR. RYAN: Yes. There is a one-year delay in Bell Canada territory.

2301 MR. NICHOLSON: Yes.

2302 MR. RYAN: If we look at NBTel, we haven't got off the ground at all there.

2303 MR. NICHOLSON: NBTel has been a very effective competitor obviously.

2304 MR. RYAN: And that would be your explanation in respect --

2305 MR. NICHOLSON: I think I was being a bit facetious. I think the choice there is where the competitors again chose to focus their effort.

2306 MR. FARMER: Another point I might make for NBTel -- and it gets back to an earlier discussion we had on the effect of price in the market -- NBTel has, for most of that period, had one of the lowest business prices. In fact, it continues to be the lowest where a single line business price in NBTel's territory right now is $30 and $40 for a multi-line.

2307 Again, until fairly recently, NBTel had a flat rate of around $20, I think it was, for local residential service. So I think price is playing a role as well.

2308 MR. RYAN: Could we go next to paragraph 214 of your evidence, please?

2309 Here The Companies make reference to -- let me use the term "new sources of competition" or "new types of competition" entering the market. Express reference is made, for instance, to AOL Time Warner in the media sector.

2310 What services does AOL provide that compete with The Companies' services, Mr. Nicholson?

2311 MR. NICHOLSON: Well, AOL is a very significant Internet portal effectively and they would compete directly with our portal service for advertising and transaction revenue.

2312 MR. RYAN: And your portal service is what?

2313 MR. NICHOLSON: It's Sympatico.

2314 MR. RYAN: That's part of --

2315 MR. NICHOLSON: That's part of Bell Globemedia.

2316 MR. RYAN: Bell Globemedia.

2317 MR. NICHOLSON: Yes.

2318 MR. RYAN: Not part of Bell Canada, I take it.

2319 MR. NICHOLSON: No.

2320 MR. RYAN: If I wanted to access the AOL service, how would I do that?

2321 MR. NICHOLSON: Well, AOL is an Internet service provider and you could subscribe to it. It's a subscription service.

2322 MR. RYAN: And the facility I would use to access AOL, would that be constructed by AOL or provided by --

2323 MR. NICHOLSON: Well, no, AOL doesn't have its own physical network per se. I mean, it does through Time Warner. There's a cable network there in the U.S., but AOL uses networks in Canada and I'm not sure who their primary underlying service provider is, but I suspect Bell is part of that. I could stand corrected.

--- Pause

2324 MR. RYAN: The next example you refer to is the cable industry and you specifically mentioned Rogers and Shaw. Has Bell Canada, or indeed have Aliant or MTS, lost any telephone customers to Rogers or Shaw?

2325 MR. NICHOLSON: No, we haven't lost any telephone customers through Rogers or Shaw. Aliant has certainly lost telephone customers to EastLink, as I mentioned yesterday, which I think has roughly between 13 and 14,000 subscribers now between residence and business. That's actually a fairly substantial loss primarily in the Halifax market, but they also have competing facilities in a number of other markets in the Atlantic.

2326 MR. FARMER: If I might add, Mr. Ryan, I think what you will find is that Shaw has made a clear strategic decision not to engage in the telephony business but to stick to its core cable and high-speed services.

2327 MR. RYAN: So we can discount Shaw then as a potential competitor in the telephony business, can we?

2328 MR. FARMER: I think that that has been their strategic decision.

2329 MR. NICHOLSON: Well, they have said that, and I guess it remains to be seen whether we can discount them in the future. I think that there is a lot of wait and see in the cable industry as they are waiting for certain technological developments that will improve the performance and the economics of that industry. What is significant, I think, is not only the EastLink example in the Atlantic, but also what AT&T broadband and Cox Cable have done in the U.S. where those two companies together have well over one million cable telephony subscribers and has experienced a growth rate of roughly 100 per cent per year. AT&T broadband, according to the latest numbers I have seen, has about 850,000 cable telephony subs and they are rolling out this service very aggressively.

2330 MR. RYAN: Well, whatever the experience might be in the United States, if I understood Mr. Talbot correctly, Shaw has disclaimed any interest in being in the telephony business.

2331 MR. FARMER: Well, perhaps I can just expand on that a little bit. That is a decision that they have made in the near term based on the current progress of what they would like to move to which would be full voice over cable as opposed to circuit switch telephony, and that's driven largely by reasons for economics where there would be a more attractive model there.

2332 I think another point is that they have decided to focus their efforts in the near term on businesses which are clearly experiencing very strong growth and to focus their management and capital on that particular -- on that focus.

2333 The other point that they would make very clearly is that at this point in time their current customers are familiar with them for video service and data service. They want to build on that expertise and that reputation before going into telephony. But it is really more of a timing issue as opposed to whether or not they will ultimately be there.

2334 MR. NICHOLSON: Yes, I would like to underline that. I have a page here which, obviously, can be tabled, formerly from a Shaw investor presentation this September where they explicitly show IP telephony as a significant potential revenue in the order of the $25 to $45 a month in three to four year's time, which gives an explicit underline to the point that Richard has just made.

2335 So it really is a question of the strategy of the various cable companies vis-à-vis the development of the technology of telephony over cable plant. It i's inevitable it is going to happen.

2336 In fact AT&T Broadband, in a presentation in June to investors, estimated that IP telephony would be -- would be rolling out by 2003 in their case.

2337 MR. RYAN: The next example you cite in paragraph 2.14 is the software and computer industries. Perhaps you could tell me how you expect Microsoft and IBM, which the two examples you cite, to impact on your market share in --

2338 MR. NICHOLSON: Well, in the case of IBM, I mean they are a competitor today in the so-called e-business segment, both with respect to Bell's initiative in that respect and emergence in other parts of the family.

2339 With respect to Microsoft, there is no question that their corporate strategy now is to become more and more involved in communications. This is part of their embrace of the Internet. They already have a voice offer for long distance in the market. It obviously has relatively small take-up now.

2340 But the new operating system that they have just released, the so-called Windows XP, has extremely advanced voice and messaging functionality -- not only voice but video capability -- which represents a quantum improvement in the quality of voice calls made from a PC.

2341 By the way, those calls don't have to be made just sitting at the keyboard, you can have a wireless connection to a PC via a portable phone and it feels just like ordinary voice service in your home. We, in fact, have demoed that internally in the last few weeks.

2342 So the bottom line is that Microsoft is bundling routinely now in their new operating system very, very sophisticated voice and video communications capability.

2343 MR. RYAN: Now, I take it that like AOL Time Warner, or at least AOL component, this is -- Microsoft is not a company that you would expect to be investing in their own facilities in Canada, they are more likely to obtain facilities from you or another --

2344 MR. NICHOLSON: Well, Microsoft in this respect is a software provider and anyone who has the Windows XP operating system and, let's say, a high-speed Internet connection from a cable company or from Bell or from anyone else, will automatically inherit that functionality.

2345 MR. RYAN: Right.

2346 MR. NICHOLSON: So if you have a cable modem and you have PC with Windows XP in it, you are going to be able to make Internet phone calls with that software automatically.

2347 MR. RYAN: The only part you are missing there is you didn't mention the line from Bell or another facility provider.

2348 MR. NICHOLSON: Yes.

2349 MR. RYAN: You have the modem and the PC --

2350 MR. NICHOLSON: Sure, it could be --

2351 MR. RYAN:  -- you still need, in most cases, to --

2352 MR. NICHOLSON: Yes, it does. Of course, there needs to be a physical connection.

2353 But I think what is true is that over time a lot of the value and the rich functionality that is going to attract customers and the things for which they will pay is going to be in software and not just in the physical connection. Clearly, the physical connection is going to be needed but that, ultimately, is a commodity service that anyone can provide who does have a network.

2354 MR. RYAN: Can we go -- and this question is for you, Mr. Talbot -- to your evidence at paragraph 3.20.

--- Pause

2355 MR. RYAN: You show in the table that we have at the top of page 31 of your evidence how the market capitalization of a range of telephone companies has changed from the first of January 2000 to the 26th of May 2001.

2356 First of all, perhaps you could tell us the significance of the date 26 May 2001?

2357 MR. TALBOT: I believe that was the date just before the submission was filed.

2358 MR. RYAN: Now during that time period, as you note in paragraph 3.20, the combined market capitalization of the 16 telephone companies that are represented in your chart was, as of January 1, 2000, $1.7 trillion; as of the 26th of May it was about half of that, $0.9 trillion.

2359 MR. TALBOT: That's correct, yes.

2360 MR. RYAN: I am saying it correctly?

2361 MR. TALBOT: Yes.

2362 MR. RYAN: Just one other remark about this table, 16 companies are represented but in the case of seven of them they are grouped together in the category Canadian telcos, the first two bars we see.

2363 MR. TALBOT: Yes. That is correct.

2364 MR. RYAN: You explain in Footnote 1 that Canadian telcos is the combined sum of the market caps of Aliant, AT&T Canada, B.C. CallNet, GT Group Telecom, Manitoba Telecom and TELUS.

2365 Am I reading that correctly?

2366 MR. TALBOT: Absolutely.

2367 MR. RYAN: Now, looking at what has happened to market capitalization here, Mr. Talbot, what I find particularly interesting is that notwithstanding the overall very significant fall in market capitalizations reflected in the table, that uniquely the group of companies Canadian telcos actually had their market caps rise collectively during that period of time?

2368 MR. TALBOT: Yes.

2369 MR. RYAN: So the experience wasn't entirely different than the experience of major carriers such as Sprint, BT, Worldcom, et cetera, that are represented in the chart?

2370 MR. TALBOT: Yes, that is right.

2371 I think that you would find that by far the largest component was the market cap of BCE, which rose from about $25 billion to $32 billion. That, in large part, was due to the spin-off of the stake in Nortel which would have absolutely collapsed the discount and, therefore, the shares would have appreciated.

2372 To give you a bit of an update, if I can, I thought it would be useful to have a look at the information at the end of September.

2373 The total market cap for this whole chart which, as you referred to, is $1.7 billion at the beginning of 2000 and had fallen to $0.9 -- excuse me -- $1.7 trillion U.S., had fallen to $0.9 trillion U.S., has now declined a further $100 billion U.S.

2374 And if we were to look at the Canadian telco market caps, they were at $33.7 billion at the beginning of 2000, rose to $36.3 billion at May 26, 2001 and are now below $30 billion U.S. So they have lost about $7 billion U.S. in the last four months.

2375 MR. RYAN: Thank you for that update.

2376 But looking at the figures from the first of January 2000 to present date, and you said the market cap at 1 January 2001 for the Canadian telcos group was in the order of 33.7?

2377 MR. TALBOT: That is the beginning of 2000.

2378 MR. RYAN: The beginning of 2000, pardon me.

2379 MR. TALBOT: Yes.

2380 MR. RYAN: And it is now in the order of 30?

2381 MR. TALBOT: That is correct.

2382 MR. RYAN: So the Canadian telcos have declined in the order of about 10 per cent as a group, whereas the sample as a whole, including the Canadian telcos, has fallen by more than 50 per cent?

2383 MR. TALBOT: Approximately 50 per cent, yes, that is correct.

2384 MR. RYAN: Now, within the Canadian basket, the seven companies, some fared better than others, some fared worse than others, is that right?

2385 MR. TALBOT: That is the market, yes.

2386 MR. RYAN: Within the group of seven companies, which are the ones that fared best during this period of time?

2387 MR. TALBOT: If we looked at it over that period of time I believe the number one return would have been Manitoba Telecom, followed by BCE and then Aliant. Those would be the top three.

2388 I can give you the rest of them if you would like.

2389 MR. RYAN: So it is those three that accounted for the rise in the Canadian telco total market capitalization during the period 1 January 2000 to 26 May 2001?

2390 MR. TALBOT: Yes, that is correct.

2391 I think just to put this in an overall context, what we have seen really right across the board is I can't overemphasize the amount of debt that has been incurred by many of the global telecom operators in pursuit of 3G wireless spending and in particular international investments.

2392 Obviously, it may sound trite and I apologize for that, but the more debt you take on that has a prior claim on the value of the asset and so it takes away from the equity. So, in effect, it is a bit of a self-fulfilling statement that the more you put hard currency up against asset values that may have been inflated, obviously the more the equity will collapse.

2393 I think we are fortunate that we didn't have the same degree of investment exposure in Canada over the last two years as other countries have seen.

2394 MR. RYAN: I understand what you are saying.

2395 I must say, it wasn't the impression that I took when I first read that paragraph of your evidence. I thought the picture you were attempting to portray to the Commission was that the overall situation in the telecommunications markets was a very negative one for equity values when, in fact, when one looks at the Canadian experience separately from that of the international experience we are not really doing that badly at all, at least the companies aren't, are they?

2396 MR. TALBOT: I think we found that we have fortunately taken a different path in terms of, as you mentioned, investment in 3G wireless spectrum which has, I think, obviously disappointed a lot of people, as well as acquisition activity. What you found in many cases is that the PDTs have struggled with growth in their own markets and have made investments in other countries in particular which have now fallen on significantly harder times.

2397 Frankly, they made some fairly big bets. In Canada the bets, although they were made, were not made to the same extent and we did not have the same kind of situation with 3G wireless spectrum in terms of the way that the spectrum was auctioned off.

2398 Overall, to put it in a more general context, yes, you are absolutely right, the performance in Canada has been different.

2399 I think the fact of the matter, though, from a capital market perspective, is that you don't just access -- Canadian companies just don't go to Canadian markets and fund their business plans, they go to the U.S., they go overseas and what happens in the telecom sector overall internationally will have a direct bearing on what the cost is of raising those funds.

2400 Unfortunately, even though they may not directly relate to the Canadian situation, that is the fact of the matter. That is the cost that you bear for operating in a global environment.

2401 M. RYAN: I guess, assuming that the Commission adopted the proposal that the company has on -- the company has put forward, that wouldn't really have terribly significant bearing on the view international equity markets took of Canadian companies in any event, would it, based on what you are saying?

2402 MR. TALBOT: I'm not sure that I follow. Can you just expand on that, please?

2403 MR. RYAN: Our international equity markets are going to be driven in terms of their analysis of Canadian companies by international experience or by Canadian experience, or some mixture of the two.

2404 MR. TALBOT: It is a combination of the two. I think you have to look at the macro level and the fact is that the risk premiums in the industry have increased. So investor focus on telecom sector relative to the financials or the health care sector, or what have you, has clearly changed.

2405 So from that perspective there is an overall increase in the risk level towards the telecom business.

2406 Then you need to come down a level and say: All right, what is the state of play in the Canadian environment? So it is going to be an interplay of those two, but it is very difficult to disaggregate one from the other.

2407 MR. RYAN: All right. We shouldn't be misled then or allow ourselves to conclude based on the evidence you are giving in that portion of your testimony that the experience in international markets is such that the companies are going to have difficulty raising capital in the future. That would be to overemphasize the experience in international markets at the expense of the Canadian markets?

2408 MR. TALBOT: I don't want to leave you with a mistaken impression, because I think that if, let's say hypothetically, one of the operators were to come to us and say: All right, we would like to go and raise some money right now, frankly we would have to look at all markets and I would have to say right now, although the markets do fluctuate from day to day, that the telecom industry is a very, very challenging one to raise any new money in, period. You have to have a very, very compelling story. And I am just talking access to capital.

2409 Then you talk about the cost of capital, the cost of accessing the markets. That cost will have gone up relative to where we have been in the last couple of years.

2410 So I think that while there are differences on a country level, we are also dealing in a very integrated global environment and that does have a bearing, a very solid bearing on the Canadian companies.

2411 MR. RYAN: Can we go next to paragraph 30 of your evidence, Mr. Talbot. That is on page 35.

2412 Perhaps I can just read from what you have said there. You say:

"From time to time there may be a tendency among many regulators to become impatient at the scope and pace of competition. The risk that such impatience brings is that there is a temptation to provide `a quick fix' solution such as price discounts for services used by competitors. Recent changes in terms of revised loop rates for competitors. Decision 2001-238 are a case in point." (As read)

2413 Could you just remind us all what was decided in that decision that you have referred to?

2414 MR. TALBOT: Well, certainly I think that there were a number of points made there, but effectively it had to do with the costs to alternative operators for accessing the local loop rates of the incumbent operators.

2415 MR. RYAN: What was the Commission's decision?

2416 MR. TALBOT: The Commission's decision was to pass along a greater level of discounts to the alternative operators. And I think the overall intention is to try to provide an additional boost to competitive entry into the local market.

2417 MR. RYAN: On what do you base that understanding of the decision?

2418 MR. TALBOT: Having read it to the best of my ability as a follower of the industry.

2419 MR. RYAN: Did you note in that decision a discussion of the costs of providing loops?

2420 MR. TALBOT: There were, I believe, discussion of costs.

2421 I must admit I would need to go through the decision in greater detail if you have a specific point on it, but I do recall that discussion.

2422 MR. RYAN: Do you have a copy of that decision?

2423 MR. TALBOT: I'm sure we --

2424 MR. FARMER: I would be happy to discuss with you, Mr. Ryan, about the discussion in terms of the costs that they talked about there.

2425 MR. RYAN: Well, I would like to get Mr. Talbot's evidence on it first, because he is the one who has described this decision as "a quick fix".

2426 Do you have a copy of it there in front of you, Mr. Talbot, because if you don't I can get you one?

--- Pause

2427 MR. TALBOT: I have it, yes.

2428 I don't have any copies of this available for the Commission, excuse me, Mr. Chairman, but I am not going to dwell on the details of it.

2429 THE CHAIRPERSON: I think we are familiar with the motivation behind the decision, Mr. Ryan.

2430 MR. RYAN: Yes.

--- Laugher / Rires

2431 MR. RYAN: You talked about discounts being provided to competitors as a result of this decision.

2432 Can you point to anywhere in this document, Mr. Talbot, where the Commission talks about offering of discounts?

2433 MR. TALBOT: I would need to just refresh myself on it, but my understanding was that there had been -- that the Commission had been looking at reducing the overall level of accessing the local loops of the incumbents primarily through a discount mechanism.

2434 MR. RYAN: Through a discount mechanism.

2435 The first page of the document there is an index and there is a heading corresponding to page 70 called "Loop Costing Issues". Do you see that?

2436 MR. TALBOT: I do, yes.

2437 MR. RYAN: You will see that under that there are entries such as: plant service lives, expense productivity, average working fill factors and the inclusion of capital productivity and, carrying on, integrated digital loop carrier system overlay solution costs, loop length estimation.

2438 I don't see any reference there to discounts. What I see, I would suggest, is a reference to the normal sorts of elements you take into account when one was costing loops.

2439 MR. TALBOT: Yes. That would appear to be the case, yes.

2440 I think that overall, from an investor's perspective I will admit I am not someone who studies the regulatory technicalities in great detail but rather to take the decisions from the Commission and, to the best of my ability, build the implications into our financial forecasts.

2441 So the differences between -- or the technical differences between costs and discounts is probably something that you would have much greater understanding than I.

2442 MR. RYAN: Well, I would expect you, coming before this Commission as an expert in respect to financial matters, to have at least the understanding of these issues that I would have, Mr. Talbot. Is that not a fair expectation of you?

2443 MR. TALBOT: I would try to interpret these for investors as being my primary focus, but I have an understanding, yes.

2444 MR. RYAN: Do you have an understanding of the difference in the way at least this Commission would use the terms "discount" and "cost"? Would you see a distinction to be drawn between those two terms?

2445 MR. TALBOT: Well, I think there is a difference between costs and discount from a regular business perspective I would think, yes.

2446 MR. RYAN: Just before we go on, this decision was -- as you will see at the document to refresh your memory -- delivered on the 27th of April 2001.

2447 MR. TALBOT: Yes.

2448 MR. RYAN: If you turn to the inside page, paragraph 1, it begins with the words:

"On 18 February 2000 the Commission issued Public Notice CRTC 2000-27." (As read)

2449 That, you may recall, is the Public Notice that initiated the inquiry that resulted in this decision. Do you recall that?

2450 MR. TALBOT: I would take it as a fact, yes.

2451 MR. RYAN: So the period of time during which this issue was under consideration by the Commission runs from 18 February 2000 to 27 April 2001, something in the order of 15 months?

2452 MR. TALBOT: I think that is accurate, yes.

2453 MR. RYAN: The decision itself, never mind the voluminous submissions that were put before the Commission, it is in the order of 36 pages or so?

2454 MR. TALBOT: Yes.

2455 MR. RYAN: In light of that, do you think your description of the proceeding that led to this decision and the decision itself as "a quick fix" is perhaps not the most apt way to describe the Commission's work on this subject?

2456 MR. TALBOT: Well, I mean, we can discuss the words, but I think the meaning of what we were trying to portray is the fact that when looking at the various rules for encouraging entry into a market, those can be done from various time perspectives. Obviously to kick-start the momentum in order to have competition come in can be just one component of a much longer term solution or framework.

2457 I think in this particular case one thing that I would point out is that investors were very interested in this decision. I understand that there is obviously a lot of debate and discussion about the costs and I think that this has led to a fairly significant amount of uncertainty and perhaps even confusion among the investor base.

2458 MR. RYAN: Excuse me, gentlemen, I would like to address these questions to Mr. Talbot.

2459 MR. FARMER: Mr. Ryan, I --

2460 MR. RYAN: No, excuse me.

2461 MR. FARMER:  -- let me --

2462 MR. RYAN: Excuse me, Mr. Farmer. I am speaking to Mr. Talbot at the moment.

2463 MR. HENRY: Mr. Chairman, he did say that he would allow Mr. Farmer an opportunity to clarify.

2464 This panel is here to give their views. Certainly he is entitled to have Mr. Talbot's views, I think he has them, but at some point I would like Mr. Farmer to have the opportunity to provide his views as well.

2465 THE CHAIRPERSON: I take your point, Mr. Henry, but I understood Mr. Ryan was questioning Mr. Talbot and, as he has indicated earlier, he would allow the others on the panel to respond, should they choose, after he has finished questioning Mr. Talbot.

2466 MR. HENRY: Thank you.

2467 MR. RYAN: Just to be clear on that, Mr. Chairman, that wasn't a general offer I made. That was with respect to a particular item.

2468 Mr. Talbot has been put on a panel with some internal people from Bell Canada. In other circumstances, such as with the testimony of Mr. Taylor, one might expect to see him testifying on his own.

2469 I think I am entitled, given the fact that he is put forward as an expert in this area by the company, to direct my questions to him and to him alone if I choose to.

2470 THE CHAIRPERSON: That's fine.

2471 MR. RYAN: We are still on the quick fix point, Mr. Talbot.

2472 I asked you if you thought perhaps your choice of language there wasn't entirely apt in light of the length of the proceeding and the character of the decision that was eventually delivered by the Commission and I don't know that I got a direct response to that.

2473 MR. TALBOT: I think the overall view from an investor's perspective is the fact that due to the changes that are going on in the industry and the fact that investors are particularly sensitive to significant changes, in not only the business and operating decisions but also the regulatory environment, that these matters are of very grave concern for the investment community.

2474 Investors are focused primarily on some fairly basic things. They would like clarity and visibility on many issues, of which costing -- as an accountant by training I know -- can be interpreted in many different ways. This has caused a fair degree of uncertainty. Investors in the Canadian telecom sector will welcome, I think, a fair amount of visibility as to exactly where the costs will come out.

2475 From that perspective I think it is important that the group realize that this is an important issue and it is one that investors will focus intensely on.

2476 I think that changes that are made in terms of introducing local competition should be taken from the perspective of a clear framework so that investors can make those decisions. They can have some certainty about what the financial forecasts are likely to look for both the alternative carriers as well as to the incumbents.

2477 MR. RYAN: I'm not sure of your answer to my question.

2478 You are standing by your testimony that this decision represents a quick fix for competition. Is that the case or not?

2479 MR. TALBOT: That is what we have -- that is what we have said.

2480 MR. RYAN: When you say "we", Mr. Talbot, who other than you are we referring to?

2481 MR. TALBOT: "We" is RBC Dominion Securities, who is providing this report.

2482 MR. RYAN: But this evidence has your name on it. Is that your choice of words that we see, "quick fix"?

2483 MR. TALBOT: My name is on it, preparing it on behalf of RBC Dominion Securities, who is responsible for this report.

2484 MR. RYAN: That was your choice of words? I just want to understand.

2485 MR. TALBOT: That is correct.

2486 MR. RYAN: Because when you say "we" I got a bit confused for a moment.

2487 MR. TALBOT: I don't want to leave any misinterpretation in your mind.

2488 MR. RYAN: Can we go next to paragraph 25 of your evidence.

2489 You say there that:

"Following the initial wave of local competition a second wave of new start-up local operators emerged." (As read)

2490 You mentioned Bell Intrigna, TELUS Integrated GD Group, Norigen, Axxent, C1 Communications, Cannect, Stream and EastLink.

2491 Then you go on to say:

"Performance has been mixed and there has been a process of attrition." (As read)

2492 Saying "performance has been mixed" is perhaps a bit of understatement, isn't it, given the number of failures in the industry?

2493 MR. TALBOT: I don't think so, no.

2494 Clearly we have gone through various waves in the process globally where as access to capital has been fairly easy a lot of money has been raised right across the globe for entry into the telecom business built on growth expectations that in the light of day do appear to be overly optimistic. We have seen, I think it would be fair to say we have seen the same situation happen in Canada.

2495 What that would mean is that a certain number of the business plans would be marginal at best, built on expectations that just simply were either unrealistic or where the operating decisions and the execution were flawed.

2496 There are, however, I think, certainly some operators who still have built very strong businesses. So from that perspective you have had a shake-out, some who clearly didn't meet the grade and others who are operating effectively in the market.

2497 MR. RYAN: Do you have a copy of my document 13 there in front of you? That is a single page marked "CLECs who have Exited the Market".

--- Pause

2498 MR. TALBOT: Yes, I have it.

2499 MR. RYAN: Have you had a chance to look at that list of companies, some of whom are included amongst those you mentioned in paragraph 25 of your evidence, others not so. Have you had a chance to take a look at the list?

2500 MR. TALBOT: Yes, I have.

2501 MR. RYAN: Is that document accurate insofar as it suggests that the companies named have exited the market in one way or another that is indicated in brackets beside their names?

2502 MR. TALBOT: Yes, I believe that is true.

2503 I might also add 360 Networks. I'm not sure if they had actual CLEC status, but I think that would be another one to put on the list.

2504 MR. RYAN: Who were the survivors in this market?

2505 MR. TALBOT: I think there would be five probably. We would have AT&T, Sprint Canada, Group Telecom, put Bell Intrigna and also TELUS in that camp.

2506 MR. RYAN: All right. The latter two being affiliated with incumbent operators?

2507 MR. TALBOT: Yes, that's right.

2508 MR. RYAN: You say with specific regard to Bell Intrigna and TELUS Integrated in paragraph 25 -- and I'm looking at the third last line of that paragraph -- you say:

"Bell Intrigna and TELUS Integrated appear to be making progress." (As read)

2509 That is in terms of their status in the market, I take it.

2510 What can you tell us about the current operations of Bell Intrigna that led you to the conclusion that it was one of those making progress?

--- Pause

2511 MR. TALBOT: I think looking at the financials which are reported as part of Manitoba Telecom that they have showed fairly strong growth in revenues. While they are not cash flow positive from an EBITDA perspective, they have been making significant progress.

2512 I think if we look at the number of access lines which they now serve, that would demonstrate that they have made a fairly significant entry into that market.

2513 MR. RYAN: And how many access lines do you understand this to be serving?

2514 MR. TALBOT: I am just trying to go by memory. I believe it was somewhere in the order of -- rather than guess, let me just have a look.

--- Pause

2515 MR. TALBOT: I'm afraid I haven't got the figure right at my fingertips, but it's in the -- certainly more than a hundred thousand lines.

2516 MR. RYAN: Where do you understand Bell Intrigna to be operating?

2517 MR. TALBOT: In Alberta and in British Columbia.

2518 MR. RYAN: And specifically where? Can you be more specific?

2519 MR. TALBOT: Oh, sorry. I think they have focused their initial attention on the three major metropolitan areas of Calgary, Edmonton and Vancouver and they are spreading out into the other centres. Obviously it is on a tiered approach.

2520 MR. RYAN: And when you say they have in the order of a hundred thousand access lines, do you recall the source of that number?

2521 MR. TALBOT: It's in excess of a hundred thousand and I believe the source was the Manitoba Tel results where those are reported.

2522 MR. RYAN: Okay. Now, in terms of the financial performance, I don't know if you had an opportunity to have a look at the Globe and Mail this morning or to read any of the reports on Manitoba Tel's financial results that were released yesterday.

2523 My understanding, and I will pass this on to you if you don't have it available to you, is that Bell Intrigna said that it will take longer than expected for the unit to have a profit before EBITDA, interest, taxes, depreciation and amortization. Did you see that report?

2524 MR. TALBOT: I read it very briefly, yes.

2525 MR. RYAN: Is it fair to say on the basis of that that Bell Intrigna is behind plan in terms of its expectations, penetration of the market in TELUS operating territory?

2526 MR. TALBOT: I think that is fair. The extent of being behind plan I wouldn't over-exaggerate. I think it is more of a short term nature to the best of my knowledge at this point.

2527 MR. RYAN: And why do you say that?

2528 MR. TALBOT: Well, the company had a meeting with investors and analysts on Friday and that was the impression we were left with. Obviously it's fairly recent information and the company wasn't able to quantify the delay at this point, but the explanation of why they might be behind schedule appears to be more short term than a fundamental change of their business plan.

2529 MR. RYAN: When you say it appears to be more short term, did they provide any more information that has allowed you to draw that conclusion?

2530 MR. TALBOT: That's what I'm saying. I believe they said that they expect to be cash flow even early in 2002 where they had expected to start breaking even at the cash flow level by the end of this year, so I would take early 2002 to be a short term change and one more of timing than of the business plan.

2531 MR. RYAN: So, would it be fair to say looking back at paragraph 25 of your evidence that perhaps you would now say that although they appear to be making progress, perhaps not progress as fast as had originally been anticipated by you?

2532 MR. TALBOT: We say appear to be making progress and I think I would stay with that wording.

2533 MR. RYAN: Now, TELUS Integrated, can you tell us on what facts you base your conclusion that they appear to be making progress? Let me be more specific. What can you tell us about their current operations, revenues, service territory and their profitability?

2534 MR. TALBOT: The financials I am just having a look for here. The company has been combining the way it reports different lines of business, so I am just trying to look at the change, but I think overall the comments that we have seen from the company are that they are making progress in terms of initially, as you can appreciate, the build of the network. I think that that should be complete by mid-2002.

2535 They have obviously made good progress in terms of building a Quebec based franchise as well as a wireless based franchise. I will have a look for the actual financials at this point, but I think overall the commentary from the company is that they are on track with their plan of building in the east and then obviously the marketing and operations will have to follow.

2536 MR. RYAN: Now, with information like this, do you make your own assessment of its reliability or are you relying entirely on company reports of its situation?

2537 MR. TALBOT: No. We would not rely solely on a company, absolutely not. This would be one -- obviously one very important part of our analysis, but that would just be one part. We would obviously want to go and do our own independent work.

2538 MR. RYAN: That's why I am a little bit surprised you haven't been able to give me a bit more definitive information about Bell Intrigna or TELUS Integrated.

2539 MR. TALBOT: I would be happy to supply that. It's just not at my fingertips, but I am sure that we can get you the specifics that they reported in the most recent quarterly results.

2540 MR. RYAN: So what information did you have available to you when you filed your evidence in May?

2541 MR. TALBOT: Well, we would have had the financials at that time. As I say, we will endeavour to have those for you after the break. I do know that they report fairly regularly in terms of the number of lines, numbers of fibres, fibre kilometres that they build, the number of buildings that have been accessed.

2542 To the best of our ability, they are making progress expanding outside their territory.

2543 MR. RYAN: Now, I think the other three companies you mentioned in the five, your list of survivors -- correct me if I don't recall correctly -- were GT Group, AT&T and CallNet.

2544 MR. TALBOT: That's correct.

2545 MR. RYAN: I won't ask any questions about GT Group deliberately because they will be here to speak for themselves later on, but let's say a few words about AT&T and CallNet.

2546 Now, is it fair to say that their position in the market has been a difficult one?

2547 MR. TALBOT: What do you mean by that?

2548 MR. RYAN: Well, let's do it this way. I have given you documents five and seven. Can we go to those. It will allow us to focus a little bit better.

--- Pause

2549 MR. TALBOT: All right.

2550 MR. RYAN: Did you have an opportunity to satisfy yourself that the information portrayed on those documents is accurate for the two companies?

2551 MR. TALBOT: It appears to be, yes.

2552 MR. RYAN: And just by way of clarification, Mr. Talbot, when you say losses in the case of AT&T and losses/earnings in the case of CallNet, I am referring to net income here. Does that tally with your understanding?

2553 MR. TALBOT: That sounds fair. I think with any company that is growing its business, it's not unreasonable to expect losses in the early years. I think we have certainly seen that from some of BCE's operations and we would expect it with just about any company in a capital intensive industry.

2554 MR. RYAN: So you are not concerned from your perspective with the financial performance of these two companies.

2555 MR. TALBOT: I don't know that I said that. I think that clearly the bottom line is showing deteriorating performance absolutely. I think if we look at why that might be, I think frankly you would see a couple of factors at work.

2556 First of all, the overall marketplace is something you would need to look at in terms of the pricing and the quality of the service. You would find that Canada is a very demanding market where people have come to expect digital quality from one of the earliest countries in the world to have full digital service.

2557 In terms of the pricing in this case and AT&T's case, the business market in the case of CallNet, perhaps a combination of business and also the residential market, you would find it is simply a very demanding customer base.

2558 Secondly, something that has to be kept in mind is the overall debt leverage that the company has capitalized at. You know, without going into specific companies, I think if we were to look at the balance sheets and then looked at the cash flows, you would find at this point it's -- well, neither of the three of you mentioned are currently generating significant sufficient cash flow to cover their financing costs. They have got a lot of debt on the books and that's the fact of the matter.

2559 I think you would also want to have a look at the kind of service that they have focused on. In the case of some of those companies there is a very high reliance on long distance. Long distance is a commodity business. It's one where pricing competition has been extreme and where a differentiation of service, to be quite frank, is challenging.

2560 What that has resulted in is an erosion of revenues and obviously that's reflected in the bottom line results.

2561 MR. NICHOLSON: What I have got to say with respect to that --

2562 MR. RYAN: Excuse me, Mr. Nicholson.

2563 MR. NICHOLSON: You have put up the picture here and I think it's important to put on the record --

2564 MR. RYAN: Excuse me, Mr. Nicholson.

2565 MR. NICHOLSON:  -- that if you look at the EBITDA --

2566 MR. RYAN: Mr. Nicholson, I haven't asked you a question.

2567 MR. NICHOLSON: Well --

2568 MR. RYAN: This is all about me asking questions and getting answers.

2569 MR. TALBOT: If I can add a point, I think that coming back to my original comment, which is that businesses that are early in their stage of development will have losses and that's quite reasonable, that might be at the net income line. I was commenting on the interest expense due to the debt on the balance sheet as well also the depreciation cost.

2570 Frankly, if you keep working your way up the income statement you would find in fact the EBITDA, the earnings before interest, taxes, depreciation and amortization, has in fact been growing and increasing over each of the last three years.

2571 I think you have to be a little careful in terms of resorting to just one metric, particularly a net income one.

2572 MR. RYAN: Those are all my questions.

2573 Thank you, Mr. Chairman.

2574 Thank you, gentlemen.

2575 THE CHAIRPERSON: Thank you, Mr. Ryan.

2576 Mr. Secretary, then if we could have exhibit numbers for Mr. Ryan's exhibits that he used.

2577 MR. SPENCER: Thank you, Mr. Chairman.

2578 We have nine documents from AT&T to enter as exhibits. The first exhibit is AT&T letter dated 20 September providing CVs for AT&T's panel of witnesses. It will be Exhibit No. 1.

EXHIBIT NO. AT&T-1: Letter dated 20 September providing CVs for AT&T's panel of witnesses

2579 MR. SPENCER: Opening statement of AT&T Canada will be Exhibit No. 2.

EXHIBIT NO. AT&T-2: Opening Statement of AT&T Canada

2580 MR. SPENCER: Bell Canada performance return on average common equity 1995 to 2000 Exhibit No. 3.

EXHIBIT NO. AT&T-3: Bell Canada performance on average common equity 1995 to 2000

2581 MR. SPENCER: Stock performance of BCE versus TSE 3000 index, October 1996 to October 2001, will be Exhibit No. 4.

EXHIBIT NO. AT&T-4: Stock performance of BCE versus TSE 3000 index, October 1996 to October 2001

2582 MR. SPENCER: Bell Canada net income by segment 1997 to 2000 will be Exhibit No. 5.

EXHIBIT NO. AT&T-5: Bell Canada net income by segment 1997 to 2000

2583 MR. SPENCER: Contribution to BCE earnings 1997 to 2000, Exhibit No. 6.

EXHIBIT NO. AT&T-6: Contribution to BCE Earnings 1997 to 2000

2584 MR. SPENCER: CLECs who have exited the market will be Exhibit No. 7.

EXHIBIT NO. AT&T-7: CLECs who have exited the market

2585 MR. SPENCER: AT&T Canada - Losses for the Years 1997 to 2000 will be Exhibit No. 8.

EXHIBIT NO. AT&T-8: AT&T Canada - Losses for the years 1997 to 2000

2586 MR. SPENCER: And CallNet Losses/Earnings for the Years 1997 to 2000 will be Exhibit No. 9.

EXHIBIT NO. AT&T-9: CallNet Losses/Earnings for the Years 1997 to 2000

2587 MR. SPENCER: Thank you.

2588 THE CHAIRPERSON: Thank you, Mr. Secretary.

2589 I think in light of the hour we will take our lunch break now and we will reconvene at a quarter to two. I understand the next party then will be CallNet. At a quarter to two.

--- Upon recessing at 1215 / Suspension à 1215

--- Upon resuming at 1345 / Reprise à 1345

2590 THE CHAIRPERSON: Order, please.

2591 Before we turn to the next party for our cross-examination, I would just note for the record and for ease of future reference that the "Report to the Governor in Council: The Status of Competition in Canadian Telecommunications Market, September 2001" will be added to the record of this proceeding. It has already been referred to at least once and no doubt will be again.

2592 Are there any procedural matters anyone wishes to bring to the attention of the Chair before we turn to cross-examination?

2593 Mr. Henry?

2594 MR. HENRY: No, Mr. Chairman.

2595 Well, I just might mention in terms of our panel line-up --

2596 THE CHAIRPERSON: That is what I thought you wanted to mention.

2597 MR. HENRY: Yes.

2598 I have been advised now that there may be some questions for the Aliant witnesses, of which there are two. So I have spoken to Commission staff and counsel and what we thought might be best is if we put up the panel of company-specific witnesses immediately following Panel 3. So we could call that Panel 3A perhaps, but not have Mr. Bruckshaw join Panel 2. We will put him on the separate panel with the company-specific witnesses.

2599 THE CHAIRPERSON: Okay. Thank you for that.

2600 Anybody else?

2601 Okay. Then the next party to cross-examine, I believe, is CallNet.

2602 Mr. Koch.

EXAMINATION / INTERROGATOIRE

2603 MR. KOCH: Thank you, Mr. Chairman.

2604 Good afternoon, gentlemen. My name is Michael Koch and I represent CallNet Enterprises. With me is my colleague Peter Ruby.

2605 Could I ask you to turn, please, to The Companies rebuttal evidence for a moment?

--- Pause

2606 MR. KOCH: Do you have that, Mr. Nicholson?

2607 MR. NICHOLSON: Yes.

2608 MR. KOCH: Okay. This is a report prepared by Mr. Taylor dated 20 September 2001. I would like to ask you to turn to page 2 of that report, paragraph 4.

2609 The subject matter of Mr. Taylor's report is, of course, a rebuttal of the evidence filed by CallNet and AT&T Canada, but I would like you to focus on the second sentence of this paragraph where Mr. Taylor writes:

"Moreover, while different parties can interpret the same evidence differently, it is still too early in the development of local competition to determine whether the competitive glass is half empty or half full." (As read)

2610 Do you see that, Mr. Nicholson?

2611 MR. NICHOLSON: Yes.

2612 MR. KOCH: I take it from your evidence thus far that it is The Companies position that the glass if half full. Is that correct?

2613 MR. NICHOLSON: The way I would characterize it is that the glass is filling.

--- Laughter / Rires

2614 MR. KOCH: You disagree with your own witness that the glass is half full?

2615 MR. NICHOLSON: No, I mean I think that obviously we have got a clash of metaphors here and I wouldn't want to disagree with a metaphorical characterization.

2616 But the point I want to make and I think I have made before is that local competition is increasing. Whether it is halfway there or not, I wouldn't care to say. I think, frankly, it's not. I think the glass is probably less than half full in that sense but is definitely filling and I wouldn't characterize that as a disagreement at all.

2617 MR. KOCH: So your evidence, then, is that it's filling. It's only 4 per cent full, is that not correct, local competition?

2618 MR. NICHOLSON: Well, yes, overall if we -- there are many, many figures on the record obviously but we know what they are and I don't think there is any disagreement over the numbers. It clearly varies by whether we are talking pure facilities of resell, whether we are talking the low-cost bands or the high-cost bands, whether we are talking residence or business. So with all those caveats that are well known.

2619 MR. KOCH: That is very fair, Mr. Nicholson.

2620 So I would take it you would agree with Dr. Taylor that we are all interpreting the same evidence to arrive at our conclusions as to whether there is a problem here that requires some kind of regulatory change?

2621 MR. NICHOLSON: Yes, I don't think that there is much difference on this side of the table but I can't say that there isn't on other tables.

2622 MR. KOCH: So in that vein I would like to take you then to the Commission's "Report to the Governor in Council: Status of Competition in Canadian Telecommunications Markets" --

2623 MR. NICHOLSON: Yes.

2624 MR. KOCH:  -- that the Chairman just introduced into the record.

2625 I would like to review some aspects of this and I take it you would agree with me that this is the best evidence we have regarding the state of competition?

2626 MR. NICHOLSON: Yes. Up to 2000, yes.

2627 MR. KOCH: Well, up to when the survey was conducted. Correct?

2628 MR. NICHOLSON: That is right.

2629 MR. KOCH: In that report, I suggest to you we have either learned or had confirmed for us a number of things about the state of competition and I would like to start with the state of competition in the long distance market for a moment.

2630 The report confirmed for instance that there is much greater competition for long distance services than for local services. Correct?

2631 MR. NICHOLSON: Which page are we looking at now?

2632 MR. KOCH: I can take you to page 2, but if you -- or rather page 16.

2633 MR. NICHOLSON: Page 16, okay.

2634 MR. KOCH: Actually that is not the right place either. I haven't pegged that, Mr. Nicholson. You don't disagree with that? The report shows greater competitive inroads in the long distance --

2635 MR. NICHOLSON: Yes.

2636 MR. KOCH:  -- market than the local market.

2637 MR. NICHOLSON: Yes. We will grant that.

2638 MR. KOCH: I take it The Companies' view would be that long distance competition has been a success overall?

2639 MR. NICHOLSON: Yes.

2640 MR. KOCH: I would like to take you now to page 16 of the report and I would like to focus on the paragraph under Figure 4.4.

2641 The language here is dealing with long distance revenues and it says:

"In recent years as illustrated in Table 2.2 long distance revenues have decreased on average by 8 per cent per annum. Unlike the incumbents, the wireline competitors have not been able to offset these decreases from revenues in other markets particularly given their recent entry into local markets." (As read)

2642 You don't disagree with that, do you?

2643 MR. NICHOLSON: No, that is -- for those that had a dependence on long distance I think that that is a fair statement. It's not the case that every competitor, of course, was a long distance company.

2644 MR. KOCH: But you will agree with me, will you not, that it is important for competitors, particularly those who have a history in the long distance market, to become integrated providers with both a local and a long distance product. Correct?

2645 MR. NICHOLSON: Yes. I mean larger bundles are typically better than smaller ones.

2646 MR. KOCH: Right. And you wouldn't want to be competing solely in the long distance market?

2647 MR. NICHOLSON: No, not solely. Of course not. No.

2648 MR. KOCH: The next thing that the Commission has confirmed for us is that overall there is much greater competition for business services than for residential services. Correct?

2649 MR. NICHOLSON: Yes.

2650 MR. KOCH: Okay. So if we were to go to page 17 of the report, at the top of the page the paragraph says:

"Competitors have taken a greater market share of the business market then residential market. In the business market their share of total wireline service revenue increased four years in a row to 26 per cent in 2000." (As read)

2651 This is combined, as I understand these figures, combined long distance and local. Correct?

2652 MR. NICHOLSON: Yes, I think it is. It calls it total wireline service.

2653 MR. KOCH: Okay. By contrast --

2654 MR. NICHOLSON: Yes.

2655 MR. KOCH:  -- between 1997 and 2000, their share of the residential market has remained relatively unchanged. 13 per cent in 2000 is noted.

2656 Do you see that, Mr. Nicholson?

2657 MR. NICHOLSON: Yes. Yes.

2658 MR. KOCH: I take it you would agree that the differential between the amount of competition in the business market and the residence markets, while the differential may not be identical in the two markets, in local and long distance, there is a -- I'm getting caught up in my own question.

2659 MR. NICHOLSON: We have got four things moving here.

2660 MR. KOCH: Right. You see where I am going --

2661 MR. NICHOLSON: Yes.

2662 MR. KOCH:  -- which is that there is a differential between the amount of competition in residence and business in both the long distance and -- or in each of the long distance and the residence --

2663 MR. NICHOLSON: Yes. Yes.

2664 MR. KOCH:  -- and the local markets. Correct?

2665 MR. NICHOLSON: I would be prepared to accept that.

2666 MR. KOCH: That said, you would agree with me, I take it, that the most dismal results in terms of competitive entry have been in the local market for residential services. Correct?

2667 MR. NICHOLSON: Well, that is certainly where competitors in the local market have not yet chosen to make major inroads, with the exceptions that I have mentioned before, primarily the EastLink Cable Company in Halifax. But with that exception and with some entry by CallNet itself recently, I think that is a fair comment.

2668 MR. KOCH: An interesting choice of words, Mr. Nicholson. You say that is where they have chosen not to make a significant entry. Is that your position that it is just --

2669 MR. NICHOLSON: Yes.

2670 MR. KOCH: It's just their choice.

2671 MR. NICHOLSON: Yes.

2672 MR. KOCH: It has nothing to do with the fundamentals of that market or the cost of serving that market?

2673 MR. NICHOLSON: Well, I didn't say that. I mean obviously choice is in response to fundamentals in the market and there are reasons why they have chosen not to.

2674 One of those, the primary reason, is that there are more attractive margins available in the markets where we have seen entry which is business in large urban areas, and for both pricing reasons and other cost-related reasons it has been less attractive to enter the residence market.

2675 MR. KOCH: So the choice was based on the fundamentals of the market?

2676 MR. NICHOLSON: Yes. When we say "fundamentals" here we mean very fundamental fundamentals related to the geography of networks and the amount of capital required and density and factors like that. I mean these are not arbitrary kinds of factors.

2677 MR. KOCH: No. That is my point exactly.

2678 In the residence local market we have not seen even 1 per cent market share gain by competitors. Correct?

2679 MR. NICHOLSON: That is correct. That is certainly correct overall, although it is certainly not correct in the Aliant -- well, in the Nova Scotia market and particularly not in the Halifax market.

2680 I keep coming back to that because I think it is a sign of things to come and it is the acorn from which a larger oak may grow.

2681 MR. KOCH: So you hold that out as the example that everyone is going to rush --

2682 MR. NICHOLSON: Well, I don't hold that out as the only example. I have stressed it because it's real, observable, customers are signed up, offers are in the marketplace, competition is taking place intensely in that market

2683 I have given lots of other examples from the U.S. where Cox and AT&T Broadband are rolling out vigorously with a similar technology.

2684 We know that the technology for voice over various forms of Internet protocol is already well proven in lab terms and it is just a matter of getting it up to carrier class and a number of competitors in Canada have been making that point.

2685 But I would like to give --

2686 MR. KOCH: And we are --

2687 MR. NICHOLSON: I would like to give one concrete example.

2688 MR. KOCH: And I'm going to come back to the other examples you give because my suggestion is going to be that there is only one concrete example and that is EastLink, but we will come back to that. You and I are not arguing about whether --

2689 MR. NICHOLSON: Sure. But one has to start somewhere.

2690 MR. KOCH: Absolutely.

2691 I would like to ask you to turn to Table 4.5, which is found at page 25 of the report.

2692 MR. NICHOLSON: Table 4.5 on page 25. Yes, I have it.

2693 MR. KOCH: Here on the right-hand side of this table, the Commission has set out local competitor share.

2694 MR. NICHOLSON: Yes.

2695 MR. KOCH: This is of overall lines. Correct?

2696 MR. NICHOLSON: M'hm, m'hm.

2697 MR. KOCH: Voice lines. For residential we see a 0.2 per cent overall local competitor share.

2698 MR. NICHOLSON: Yes.

2699 MR. KOCH: And business, an overall competitor local share of 10.3 per cent.

2700 MR. NICHOLSON: Yes.

2701 MR. KOCH: A total overall of 4.0 per cent.

2702 MR. NICHOLSON: Right. I believe that these are facilities-based numbers, aren't they. They would exclude pure resale.

2703 MR. KOCH: I would like to examine that with you.

2704 MR. NICHOLSON: Okay.

2705 MR. KOCH: Is that your understanding?

2706 MR. NICHOLSON: Oh, they do include resale. Sorry. I see the footnote now.

2707 MR. KOCH: Okay. So they do include resale.

2708 MR. NICHOLSON: That is just a matter of getting the definition straight.

2709 MR. KOCH: On the business side I take it you would agree with me that most of the entry has been in the core of Canada's largest urban centres.

2710 MR. NICHOLSON: Yes, that is shown in Table 4.6.

2711 MR. KOCH: Conversely there has been very little entry outside of those markets?

2712 MR. NICHOLSON: Well, I presume so. We don't have all those other -- there may be a community here or there that has significant entry for local regions. I just don't know.

2713 But let's accept that. I'm not going to dispute that.

2714 MR. KOCH: You are not quibbling with that as an overall characterization.

2715 MR. NICHOLSON: I'm trying not to quibble with the record here.

2716 MR. KOCH: No, I appreciate that, Mr. Nicholson.

2717 I take it you would agree with me that The Companies' position is that facilities-based competition is the only form of sustainable competition?

2718 MR. NICHOLSON: Yes, with the proviso that, of course, facilities-based competition is something that has to develop. It's not going to be there in every case from the first instance. So there is a migration path, but the migration path, in our view, should definitely be towards facilities-based competition.

2719 MR. KOCH: But there is a migration path, as you say.

2720 MR. NICHOLSON: Yes.

2721 MR. KOCH: Listening to you this morning I couldn't help but notice that you said that you see a lot of value as well in the functionality riding on the facilities.

2722 MR. NICHOLSON: Yes.

2723 MR. KOCH: I think you were --

2724 MR. NICHOLSON: Yes, I think I was referring to the value of software and applications which we are going to see more and more of.

2725 MR. KOCH: And the software could sit in the --

2726 MR. NICHOLSON: Less bits and more things being done to the bits.

2727 MR. KOCH: Right. So there may be value as well as we are getting to facilities-based competition to other parties innovating over an incumbent's facility.

2728 MR. NICHOLSON: Yes. I mean there will always be a need for interconnection and no one is going to overlay -- not every company who is a competitor is going to overlay every other company's network --

2729 MR. KOCH: That's fair enough.

2730 MR. NICHOLSON:  -- in every instance.

2731 MR. KOCH: Now, I suggest to you that the Commission's report also confirms that of the competition that has occurred -- and we looked at the 4 per cent number overall -- very little of that competition -- let me be precise.

2732 Only 33 per cent of that competition has been facilities-based.

2733 Why don't I take you to that part of the report.

2734 MR. NICHOLSON: Yes, there is chart to that effect, I think Figure 4.14, that also gives you competitor local lines by type of facility and the trend that is striking to me there is the steady decline in resold services. So the complement of that, because it adds to 100 per cent, are what we would call facilities-based services, either owned facilities or facilities purchased and constructed via the local loop tariffs and things like that.

2735 MR. KOCH: So just to focus on these numbers for a minute. I would like to turn your attention to page 23 of the report. At the top there we have a paragraph that talks about again this distinction between facilities-based competition, leasing ILEC loops and Centrex resale.

2736 I take it that your version of facilities-based competition, Bell's version, is that it does not include situations where competitors lease unbundled local loops. Correct?

2737 MR. NICHOLSON: No, I think  -- no, we would include that as a an element of facilities-based. I mean, what we wouldn't include in this case is pure resale, of course.

2738 MR. KOCH: Do I understand your evidence then that in Bell's position the resale of core loops is facilities-based competition?

2739 MR. NICHOLSON: Yes, I think we would agree with that. If I might editorialize a little, I think that eventually in many cases it will be advantageous for the competitor to pass increasingly to their own on-net facilities as opposed to on-switch, if you might put it that way, but again a migration path.

2740 What you have in the purchase of the incumbent's loops is part of the transition process, which in some cases may be a permanent feature depending on market situations.

2741 MR. KOCH: Now, the Commission here in its report has separated out, let's call it pure facilities-based competition --

2742 MR. NICHOLSON: Yes, okay.

2743 MR. KOCH:  -- from the kind of facilities-based competition that uses incumbents loops -- leases incumbents loops.

2744 MR. NICHOLSON: Yes.

2745 MR. KOCH: The statistics that we see are that the pure facilities-based competition, which I believe your evidence is that's the end game. Is that correct?

2746 MR. NICHOLSON: Yes.

2747 MR. KOCH: That represents only about 33 per cent of competitor lines in 2000. Correct?

2748 MR. NICHOLSON: Yes, I think that that's -- do I see these numbers here directly? But it looks about that. I'm eyeballing the chart.

2749 MR. KOCH: So on an overall basis, if we apply the 33 per cent to the 4 per cent overall competition.

2750 MR. NICHOLSON: Yes. It's about 1.2 or something.

2751 MR. KOCH: Yes, we are down about 1.33 per cent, are we not?

2752 MR. NICHOLSON: Okay.

2753 MR. KOCH: Okay. Yet it is The Companies' view, I take it, still that the glass is filling.

2754 MR. NICHOLSON: Absolutely. I think that every graph you look at gives the same impression. All of the slopes are up, including, I might say -- if I could just for a moment turn to page 15 -- the EBITDA, the earnings before interest, taxes and depreciation for competitors which is also trending up since 1998, which is a financial manifestation of the gains that are being made.

2755 I mean, one way you could look at it is through shares of loops, et cetera, but the other is that as the networks are building up the financials at the cash flow level are starting to mature as well.

2756 MR. KOCH: You don't disagree with me that the goal of the Commission's regulatory regime is to do better than a 1.33 per cent facilities-based market share?

2757 MR. NICHOLSON: Yes, of course. We are totally in support of that and have said so in our own evidence.

2758 MR. KOCH: So the challenge of this proceeding is indeed to figure out how we move forward. Correct?

2759 MR. NICHOLSON: That's one of the challenges. I mean, as I spoke to at length yesterday, there are other objectives, of course, the affordability objective and the investment objective, of which this is part, and they are all linked.

2760 MR. KOCH: Fair enough. That's fair and I should have prefaced by cross-examination by saying that I want to explore competitive issues with you.

2761 MR. NICHOLSON: Right.

2762 MR. KOCH: Now your position with respect to competition is detailed as well, I noted yesterday, in your opening statement which I believe has been identified as Exhibit 1.

2763 MR. NICHOLSON: Yes. Let's see. Does anyone have that for me? I actually wrote that one myself so I should --

2764 MR. KOCH: You wrote this one yourself? Maybe that's why it's a little more colourful then than some of the other evidence.

--- Laughter / Rires

2765 MR. KOCH: Do you have that?

--- Pause

2766 MR. NICHOLSON: Okay. Read to me. It's all right. Thanks. No, I do have it.

--- Pause

2767 MR. NICHOLSON: Okay, I have it now.

2768 MR. KOCH: Okay. Forgive me.

2769 If you could turn to page 3, please.

2770 MR. NICHOLSON: Yes.

2771 MR. KOCH: I'm interested in your statement at the top of page 3 with respect to the second objective and, of course, that's competition.

2772 MR. NICHOLSON: Right.

2773 MR. KOCH:

"Local competition has been advancing strongly in markets where margins are highest". (As read_

2774 Then you state in the last sentence of that paragraph:

"Competition has, of course, been slower to materialize in areas of lower population density and, therefore, of higher costs since competitors have gone first where the cream is thickest". (As read)

2775 So as I understand your position, one can expect that competitive entry will begin with cream skimming. Correct?

2776 MR. NICHOLSON: Yes. Will begin where?

2777 MR. KOCH: With cream skimming.

2778 MR. NICHOLSON: Okay, we could be put it that way to continue the metaphor.

2779 I mean, more seriously, obviously, most attracted where the margin opportunities are most attractive.

2780 MR. KOCH: It's your metaphor. Correct?

2781 MR. NICHOLSON: Yes, sure.

2782 MR. KOCH: These are your words.

2783 MR. NICHOLSON: Well, let's call it -- I don't mind the phrase.

2784 MR. KOCH: So what is reflected in the greater margins available in the core of these urban areas, Mr. Nicholson, is in fact that there is a lower cost of rolling out competitive service.

2785 MR. NICHOLSON: Yes.

2786 MR. KOCH: And that is partly because of the population density?

2787 MR. NICHOLSON: Yes.

2788 MR. KOCH: So when you are --

2789 MR. NICHOLSON: Yes, that is primarily the reason.

2790 MR. KOCH: When you roll out in these areas you have a much greater certainty of a return on the investment that you put into the ground. Correct?

2791 MR. NICHOLSON: Yes, particularly given the state of prices across some of the higher cost areas today, which is another objective of our proposal.

2792 MR. KOCH: But even without gong as far as the higher cost areas, that distinction applies as well to the core of the urban centres and it is gradual distinction as one moves out from the centre.

2793 MR. NICHOLSON: Yes, it is. It is. Exactly, and that is why Band A shows the highest percentage penetration.

2794 MR. KOCH: I would like to ask you to turn now -- there was a document, Mr. Chairman, that actually I was going to put to the witness and Mr. Ryan for AT&T circulated it. It is an interview with Mr. Monty from Telemanagement.

2795 It was never labelled when Mr. Ryan was cross-examining because he didn't in fact put it to the witness, but I thought there wasn't any point in circulating it again if everyone had it. It looks like this.

--- Pause

2796 MR. NICHOLSON: Yes, I have it.

2797 MR. KOCH: Can I proceed, Mr. Commissioner?

2798 THE CHAIRPERSON: Yes.

2799 MR. KOCH: Thank you.

2800 We may have extra copies for the Commission if it's difficult for you to find.

2801 COMMISSIONER LANGFORD: Excuse me, is this the one someone has numbered 8 in the corner? Is that the one?

2802 MR. KOCH: Thank you. Yes. Was it numbered?

2803 COMMISSIONER LANGFORD: Someone has handwritten the number 8 in the top left-hand corner.

2804 MR. KOCH: Oh, right. That is the one.

2805 MR. SPENCER: This is not an exhibit number, number 8.

2806 MR. KOCH: Now, this is a pretty recent issue of Telemanagement and it reflects an interview that was given by Mr. Monty to Ian and Lis Angus on August 8th.

2807 MR. NICHOLSON: Yes, it is.

2808 MR. KOCH: That's August 8th of this year. Correct?

2809 MR. NICHOLSON: Yes.

2810 MR. KOCH: Just going back to your point about -- or the point I think we agreed with each other on -- as you get out of the core of urban centres, certainly the return becomes a little less immediate on your investments.

2811 MR. NICHOLSON: Yes.

2812 MR. KOCH: When BCE developed its strategy for entering the western Canadian market, it didn't go out in an attempt to duplicate an entire wireline network overnight, did it?

2813 MR. NICHOLSON: No, and he states that here.

2814 MR. KOCH: I think it bears us focusing on that for a while.

2815 So at page 13 of this issue, it is actually the page with that great picture of Mr. Monty on it.

2816 MR. NICHOLSON: Okay.

2817 MR. KOCH: You will see under the picture in the column on the left-hand side about four or five paragraphs down he discusses the approach of BCE to the entry in Alberta and B.C.

2818 MR. NICHOLSON: Yes.

2819 MR. KOCH: The paragraph I would like to focus on is the one that says:

"Our approach has been very disciplined. We're not going to try to rebuild an entire wireline system in Alberta and British Columbia like we have in Ontario and Quebec. That makes no economic sense, any more than it makes sense for someone to build a complete wireline system here to compete with us".

2820 Mr. Nicholson, you will agree with me what Mr. Monty is saying that it makes no sense for an entrant to duplicate an entire or complete wireline system. Correct?

2821 MR. NICHOLSON: I think that is probably true if you are using the same technology. The exception I would make, for instance in the residential market, would be the other wireline network that already exists, which is, for instance, the cable network, but --

2822 MR. KOCH: And we will discuss that in a moment.

2823 MR. NICHOLSON: Yes, okay. Okay.

2824 MR. KOCH: But that's not his total answer, is it?

2825 A few paragraphs later, the paragraph starting -- and this is in the second column:

"We're doing it by segments, by business areas..."

2826 Do you see the sentence at the bottom of that paragraph? It says:

"When these initiatives have more scale, we'll see whether that continues to be the proper model for us to operate out west".

2827 In other words, he is going to revisit the business model once he has developed some economies of scale. Correct?

2828 MR. NICHOLSON: Both economy -- well, possibly economies of scale and certainly some knowledge about the characteristics of the market as well. There is a learning process here.

2829 MR. KOCH: Fair enough. There is a learning process for competitors.

2830 So you would agree with me he is acknowledging that developing economies of scale can alter the equation of whether it makes sense to duplicate elements of an incumbents' network. Correct?

2831 MR. NICHOLSON: Yes, it does. Although just parenthetically I would make the point -- and we may come back to this -- that the cost-based prices of the essential and near essential network elements involved in, let's say, Bell's network, do already reflect the full economies of scale of that network.

2832 So in a sense competitors can purchase into the economies of scale that have already been achieved.

2833 MR. KOCH: I would like to take you back to Exhibit 1, which is again the opening statement which you --

2834 MR. NICHOLSON: Yes.

2835 MR. KOCH:  -- appear to have personally written. Back to page 3.

2836 There you state that:

"In the local residence market, facilities-based competition using conventional technology is less attractive..." (As read)

2837 And you suggest that the reason for this is that the margins are lower because of the lower retail prices. Correct?

2838 MR. NICHOLSON: Yes, relative to business prices.

2839 MR. KOCH: The margins are also lower because of the cost of serving these customers, correct, of building out to these customers. Is that not correct?

2840 MR. NICHOLSON: Yes. Of course. We have density-dependent costs in this industry, there is no question about that.

2841 MR. KOCH: Now, I am coming to the subject which you are dying to talk about, which is the silver bullet, that:

"New technologies are already inroads..." (As read)

2842 You say -- and I am at the bottom here of the second paragraph --

2843 MR. NICHOLSON: Right. I see it.

2844 MR. KOCH:

"...that new technologies are already making inroads and will increasingly provide alternatives for consumers." (As read)

2845 MR. NICHOLSON: Yes.

2846 MR. KOCH: I would like to discuss some of those alternatives that you have suggested.

2847 Mr. Nicholson, you cite the example of EastLink in Halifax and I think we started down the road of the discussion of EastLink. It must be the company that has been mentioned most here in the last two days. I think your evidence was that they have somewhere in the order of 14,000 lines.

2848 MR. NICHOLSON: Yes, I think the latest numbers that I have seen are roughly 13,500 or so. Aliant will be able to provide us with precise numbers but it's roughly that and it is a mixture of residence and business.

2849 MR. KOCH: So your 10,000 number --

2850 MR. NICHOLSON: Yes, it is an underestimate.

2851 MR. KOCH:  -- is an underestimate.

2852 MR. NICHOLSON: Yes.

2853 MR. KOCH: Okay. And you make the point that it uses the same technology as -- or maybe that is not your point.

2854 MR. NICHOLSON: Yes. Well, it is using the same technology as AT&T Broadband and Cox in the U.S.

2855 MR. KOCH: It is using a circuit-switch technology?

2856 MR. NICHOLSON: It is using a circuit-switch technology over a digital cable infrastructure.

2857 MR. KOCH: Right.

2858 Now you will agree with me, whatever speculation one can engage in, none of the major cable companies in Canada has rolled out that technology. Correct?

2859 MR. NICHOLSON: That is correct.

2860 MR. KOCH: So Cogeco hasn't?

2861 MR. NICHOLSON: No. Rogers hasn't, Videotron hasn't.

2862 MR. KOCH: Shaw hasn't.

2863 MR. NICHOLSON: Shaw hasn't.

2864 MR. KOCH: Have we forgotten any? Are there any others?

2865 MR. NICHOLSON: No, that is a good enough list.

2866 MR. KOCH: Okay.

2867 MR. NICHOLSON: But AT&T in the U.S. has.

2868 MR. KOCH: Right. Leading to a question of why -- we can all sit here and question why it is that the Canadian cable companies haven't done it, but the fact of the matter is that they haven't done it. Correct?

2869 MR. NICHOLSON: Well, I would like to suggest why they haven't.

2870 I mean, there is no question that the priority for Rogers and Shaw and Videotron has been to roll out high-speed Internet access where they have proven to be exceptionally powerful competitors and I think that is where they have dedicated their marginal dollar of capital, before which, of course, they had to upgrade their networks to digital capability.

2871 So I think this is partly a question of just the natural phasing of any large capital investment.

2872 And, secondly, and perhaps most importantly, they have a view that the voice over Internet protocol technology is maturing quite rapidly and they have chosen not to go with an intermediate technology, this circuit-switch cable, and they preferred, in view of their other investment priorities, to wait for VOIP, as we call our voice over Internet.

2873 MR. KOCH: And Shaw, I think you said this morning, in your evidence --

2874 MR. NICHOLSON: Yes, I did.

2875 MR. KOCH: You cited Shaw as saying there was a significant potential income involved.

2876 MR. NICHOLSON: Yes. They cited, I think it was $25 to $45 a month in presentations to investors and they have been consistent with that estimate for some time.

2877 And Rogers and Videotron, Cogeco, all said that they intend to roll out IP-based telephony as well. The issue is only one of technology and timing, in their statements.

2878 MR. KOCH: So you are basing that on their statements?

2879 MR. NICHOLSON: Yes.

2880 MR. KOCH: Now, could you turn to your -- I have produced Stentor's evidence, or a portion thereof, from the price cap hearing of five years ago.

2881 It is hard to believe, Mr. Chairman, it has been five years, but --

2882 MR. NICHOLSON: I have that.

2883 MR. KOCH: I think we will all recognize some of this evidence.

2884 This is from a portion of your evidence, or the --

2885 MR. NICHOLSON: The Companies evidence.

2886 MR. KOCH:  -- or The Companies evidence --

2887 MR. NICHOLSON: Yes, The Companies evidence.

2888 MR. KOCH: It used to be called Stentor, now it is called The Companies.

2889 MR. NICHOLSON: Yes.

2890 MR. KOCH: That spoke of the competitive landscape. Here you have -- here Stentor in fact spoke of what the cable industry said at the time as to what it was going to do. Correct?

2891 MR. NICHOLSON: Yes.

2892 MR. KOCH: So at the time we can see, in paragraph 3-29, the first sentence:

"Although several cablecos are already active in the local market providing private line, data and PC access services, the cable industry has recently indicated its members intent to enter the local telecommunications market on a full-scale basis."

2893 Correct?

2894 MR. NICHOLSON: Yes, that is what it says.

2895 MR. KOCH: They haven't done that?

2896 MR. NICHOLSON: Well, I would say that they really have with their high-speed Internet access service. I mean, that is a telecommunication service obviously. It may not be local voice but it certainly is a telecommunication service. And that is what they have chosen, as I said a moment ago, to put their investment priorities on first.

2897 MR. KOCH: And we can all agree on that. But we are talking about local voice. They haven't entered the local voice market on a full-scale basis, have they?

2898 MR. NICHOLSON: No. Obviously they haven't. Again, I don't really want to quibble, but the statement here was a reference to local telecommunications and ---

2899 MR. KOCH: And that is a fair reading of that statement, Mr. Nicholson, that I am talking about, what they have done in the voice market. That is what this discussion is about. Correct?

2900 MR. NICHOLSON: Okay, I am not going to quibble here.

2901 MR. KOCH: So the cablecos, if you flip the page to paragraph 3-30:

"The cablecos have indicated their intentions to invest between five and six billion dollars to achieve these goals..."

2902 MR. NICHOLSON: M'hm. Yes, I read that.

2903 MR. KOCH:

"...including two to three billion dollars to increase their presence in local telecommunications."

2904 MR. NICHOLSON: Yes. And frankly, and I don't, unfortunately, have the investment numbers for the cable industry but a very substantial investment has taken place through the digital upgrading of their network which has permitted them, I would argue, to enter the local telecommunications industry through the provision of high-speed Internet access, which positions them, because of the digital nature of that network and the two-way network, to move to voice telephony applications in the near future.

2905 So a lot of that investment in fact has taken place, not exactly as we foresaw, but that is the way it is with technology.

2906 MR. KOCH: But it hasn't taken place in order to enable them, as they said, to compete with the telephone companies in providing telephone products. Correct? To date, it just hasn't happened, Mr. Nicholson?

2907 MR. NICHOLSON: Well, it hasn't happened, but I think that they recognize very clearly that the investments they are making are positioning them to do that and it's a question of their own priorities as to which they do first.

2908 Their view would be, I suppose -- and I am speculating here -- to gain customer share through high-speed Internet access really is setting the stage for adding telephony and other residential data services thereafter. It would be an first essential step in any event.

2909 MR. KOCH: You admit, though, you are speculating? That was your word.

2910 MR. NICHOLSON: Only slightly speculating. I would say that that is -- there is a pretty good bet that that is the strategy and it is certainly consistent with what they have said about their intention to roll out.

2911 MR. KOCH: Mr. Nicholson, perhaps we can explore that with the cable industry when they choose to call a witness in this proceeding.

2912 You would agree with me that in terms of predicting the dynamics of the roll-out of competition we are involved in a speculative exercise, are we not?

2913 MR. NICHOLSON: It's true. I just have one quote here. This is again from an Angus Telemanagement, July and August 2001, entitled "Whatever happened to phone service on cable?", which is an appropriate heading.

2914 Rogers spokesperson is Alexander Brock, who is the head of Rogers Telecom, and I will just quote very briefly.

2915 Rogers Cable won't predict a launch date, but says voice service is definitely on its agenda and it separated -- it has created a separate division, Rogers Telecom Inc. headed by Alexander Brock.

2916 He says:

"Rogers is waiting for IP-telephony technology to mature, but if all goes as he hopes, Rogers will run technical trials in early 2002 with commercial deployment possible in 2003." (As read)

2917 This is an important final quote:

"We aren't in control of developing the technology, so we can't be precise on dates, we will launch when the technology is ready." (As read)

2918 As I cited this morning, AT&T Broadband in the U.S. has predicted that this voice over Internet protocol will be ready for the cable network in 2003.

2919 MR. TALBOT: If I can interject, I would just add that one of the rational for COMCAST's bid for AT&T Broadband in the U.S. is exactly to provide telephony.

2920 MR. NICHOLSON: Good point.

2921 MR. KOCH: But we can all agree, Mr. Nicholson, when you were quoting from that article, the point is that we are still waiting for the technology to mature. Until it has, we have no idea how viable it will be and whether it will in fact be a workable economic substitute for your services. Correct?

2922 MR. NICHOLSON: Yes. I would have to acknowledge that one can't be absolutely certain, but I think that the degree of roll-out --

2923 MR. KOCH: Mr. Nicholson --

2924 MR. NICHOLSON:  -- in the U.S., of even circuit-switch cable, at over a million customers and basically expanding a 100 per cent per year is an indication that there are pretty good odds that this is going to be viable. This is way, way beyond a tech trial or a market trial. This is a roll-out.

2925 MR. KOCH: Sorry, that was the circuit-switch technology --

2926 MR. NICHOLSON: That was the circuit -- that's the EastLink technology but nevertheless it is still competition.

2927 MR. KOCH: That is not being rolled out by any other cable company?

2928 MR. NICHOLSON: Yes, it is, by EastLink.

2929 MR. KOCH: By any other cable company, other than EastLink?

2930 MR. NICHOLSON: No, the others have chosen -- well, I would be repeating myself.

2931 MR. KOCH: I think we are both repeating ourselves at this point. So let's move on.

2932 MR. NICHOLSON: Okay.

2933 MR. KOCH: Another silver bullet you refer to is wireless. The wireless services you are referring to are mobile services. Correct?

2934 MR. NICHOLSON: Yes, although fixed wireless is also possible, but let's stick with mobile for now.

2935 MR. KOCH: Yes, let's stick with mobile partly because on the fixed wireless side we haven't had a lot of success in Canada, have we?

2936 MR. NICHOLSON: Not to date, but I am aware of technologies that are going to change that. But again, let's not get into speculation.

2937 MR. KOCH: Again, we are waiting for the technologies to mature.

2938 MR. NICHOLSON: Yes. But the mobile is there.

2939 MR. KOCH: Regarding mobile phones, you note in this same Exhibit 1 that -- and I think the quote is under the second bullet on page 3:

"Already the mobile phone is an alternative to wireline for many young singles and a substituting for second lines in a growing number of residences." (As read)

2940 MR. NICHOLSON: Yes.

2941 MR. KOCH: You would agree with me that mobile phones are not widely accepted as a substitute for a primary exchange local service, would you not?

2942 MR. NICHOLSON: Not widely. Although, as I said, among singles who don't really need a separate number associated with the household, because they are the household, I think you are seeing more of it.

2943 But I take your point. In terms of the mass market, no, it is not the primary service yet in any mass sense of that term.

2944 MR. KOCH: And only one wireless provider has taken up the opportunity to become a CLEC?

2945 MR. NICHOLSON: A CLEC.

2946 MR. KOCH: Is that correct?

2947 MR. NICHOLSON: Microcell in Alberta and B.C., I guess.

2948 MR. KOCH: And it's just Microcell and it's just in Alberta and B.C., and it was just within the last couple of weeks, I believe, that it was certified as a CLEC there. Is that not correct?

2949 MR. NICHOLSON: The chairman would be able to answer that.

--- Laughter / Rires

2950 THE CHAIRPERSON: I only ask questions.

2951 MR. KOCH: That's my policy by the way too, Mr. Nicholson.

2952 And you will agree with me, we can look around this room and Microcell isn't here to talk about the state of the local market or local competition, is it?

2953 MR. NICHOLSON: They don't feel that they have to be, yes.

2954 MR. KOCH: It's not important enough to them.

2955 MR. NICHOLSON: No. But we were talking about Microsoft as a CLEC, but all of the other mobile companies, of course, are participating in the substitution that I refer to here. You don't have to be a CLEC.

2956 MR. KOCH: But not in the substitution, as you said, not in the mass market?

2957 MR. NICHOLSON: As in the primary service. Mass market primary service, not yet.

2958 MR. KOCH: Okay. You have said a lot about a third silver bullet already, which is, of course, voice over IP.

2959 MR. NICHOLSON: Yes.

2960 MR. KOCH: We have been talking about voice over IP travelling over the cable network. Correct?

2961 MR. NICHOLSON: As well as the DSL network, yes.

2962 MR. KOCH: And in the case of -- I mean in both cases, voice over IP, we are really talking about a service, not a distinct facility. Correct?

2963 MR. NICHOLSON: That's right, it is a service associated with having an Internet connection of high-speed two-way.

2964 MR. KOCH: You, in fact, refer to DSL, which is fitting because, of course, your high-speed --

2965 MR. NICHOLSON: Yes.

2966 MR. KOCH:  -- your company's high-speed offering is a DSL service?

2967 MR. NICHOLSON: Yes.

2968 MR. KOCH: That offering is dependent on copper connectivity, is it not? DSL runs on copper?

2969 MR. NICHOLSON: Yes.

2970 MR. KOCH: Okay. And you will agree with me that the incumbents are likely to be the -- or to remain the only source of the supply of copper loops for the foreseeable future, would you not?

2971 MR. NICHOLSON: In terms of -- well, I don't know whether that is the case or not. I am not familiar with what is happening in the metro area networks and what sort of overbills there might be.

2972 But, sure, in most places that is true. It is certainly true in the residential market in terms of the raw copper.

2973 MR. KOCH: Perhaps I could turn to you, Mr. Talbot.

2974 I take it a major thrust of your evidence is that the telecommunications business is capital-intensive. Correct?

2975 MR. TALBOT: That is correct.

2976 MR. KOCH: I think it has also become a major part of your evidence that this is not a great time for telecommunications companies in that capital markets. Correct?

2977 MR. TALBOT: It certainly has its challenges, yes.

2978 MR. KOCH: Yesterday you read into the record a list of statistics regarding the rating of the bonds of various companies and you described the industry as being in a financial penalty box. I take it you would agree with me that notwithstanding the fact that your view the entire industry is in a penalty box, it is still easier for incumbents to raise money that it is a CLEC?

2979 MR. TALBOT: Perhaps in general, but I wouldn't say that is always the case. We have had a couple of recent examples, this year for example, which I think is being fairly challenging, AT&T Canada raised $500 million U.S. of fixed income securities. Group Telecom raised over $100 million of equity in a very difficult market in May.

2980 So while I would agree generally, I wouldn't say that it's impossible.

2981 MR. KOCH: If AT&T Canada were able to raise money in this market, the rates that it would be paying for that capital would be very different than the rates that a TELUS or a Bell would be paying. Is that not correct?

2982 MR. TALBOT: I think you would have to be careful there because AT&T Canada is in the unique position where it does have a parent which it is able to use in terms of access in the capital markets.

2983 However, I do have to point out that last week there was a very interesting quote from a Board member of AT&T Canada who is also the head of AT&T Corp's global operations who said that while AT&T Corp considered that they had an obligation to the equity holders that they did not consider they had an obligation to the debt holders.

2984 Frankly, in that particular case I think they have cut off access to the debt markets in the near term.

2985 MR. KOCH: And you would expect, Mr. Talbot, if we took a GT or a CallNet, that if it went to the debt markets it wouldn't be able to raise debt at the same rates that Bell or TELUS would raise.

2986 MR. TALBOT: I think that's quite fair.

2987 MR. KOCH: And I don't think GT would be able to turn around tomorrow and raise $3 billion as TELUS did last March. Correct?

2988 MR. TALBOT: I think that's absolutely right. In fact, a very big issue right now for the equity holders of Group Telecom is the ability of the company to meet its debt covenants. Frankly, I would say that's an issue for a number of the operators.

2989 MR. KOCH: Could I ask you to turn to page -- paragraph 3.28 of your report. That's, I believe, at page 33 of The Companies' evidence.

2990 MR. TALBOT: Yes.

2991 MR. KOCH: In this paragraph, and particularly I want to get you to focus on the last sentence of this paragraph here. Here you are talking, are you not, about the combination of factors that have made it very difficult for CLECs. Correct?

2992 MR. TALBOT: That's correct.

2993 MR. KOCH: And in the last sentence you say:

"In combination with the weakening overall economy and a stringent tightening of world capital markets, CLECs have experienced a devastating combination of factors."

(As read)

Correct?

2994 MR. TALBOT: Yes.

2995 MR. KOCH: You will agree with me that's not consistent with Mr. Nicholson's view that competition is proceeding as one would expect it.

2996 MR. TALBOT: Well, I think you have to be careful here because there will be different pockets of competition.

2997 I think certainly the cable companies are in a different situation where, if you looked at their equity market values, they have held up very well.

2998 MR. KOCH: In fairness, Mr. Talbot, my discussion with Mr. Nicholson, with the exception of EastLink, was about the market share numbers which aren't coming from cable. Correct?

2999 MR. TALBOT: Fair enough.

3000 MR. KOCH: I'm focusing on the CLECs numbers and it is The Companies' position, as I understand, whether the glass is half empty or half full that it's filling and it's filling as one would expect it to. That is inconsistent with your evidence, is it not?

3001 MR. TALBOT: Well, I think a lot has to do with the access to capital and that does change. It has changed obviously over the course of the past year. We have seen that there has been some progress in the competitive arena, but I would say that this access to capital is a very big issue.

3002 Frankly, The Companies like Bell Intrigna and TELUS will likely be able to sustain themselves through a difficult competitive environment. It i's uncertain about the others.

3003 The cable companies are in a different position and the technology is evolving and they will likely have fairly strong cash flows from an incumbency perspective in the video market to help to fund that investment in telephony.

3004 MR. KOCH: But I think, as I understand your evidence, and I also made a note of some of your evidence this morning, you were referring to CallNet, AT&T Canada and GT. You said that none of them are generating sufficient cash flow to carry or to cover their financing costs. That is a real concern, is it not?

3005 MR. TALBOT: Absolutely, and it has directly -- has a direct implication of some of the acquisitions and the debt that has been taken on by these companies.

3006 MR. KOCH: In any event, whatever the cause of the problem is, you will agree with me that if these companies fail that will have a significant adverse impact on the level of competition in this country. Is that not correct?

3007 MR. TALBOT: Well, competition, as we said -- and I don't want to repeat Mr. Nicholson, but competition can evolve in many different ways, but certainly I think the debt levels and the cash flow that several of the competitors have is going to make it difficult to access the capital markets going forward.

3008 MR. KOCH: Yes, and now you are agreeing with me that it is going to be very difficult for the CLECs to raise capital. Correct?

3009 MR. TALBOT: I think that's pretty consistent with what we say.

3010 MR. KOCH: And without competitors it is very difficult to have competition. Correct?

3011 MR. TALBOT: Well, it is. I think that's why it is very important that they decide where to invest money and where not to. You know, frankly, I can't help it that the debt is there, but the fact is the interest costs for a number of the operators, in fact all of them, is well more than the cash they generate internally.

3012 MR. KOCH: And one of the themes of your report is your opinion that CLECs should be well funded and facilities-based in order to be successful. Is that not correct?

3013 MR. TALBOT: Absolutely.

3014 MR. KOCH: At paragraph 3.25, perhaps I could take you there. Here you are discussing competition and various CLECs in the market. The second sentence, that is what I would like you to focus on:

"Performance has been mixed and there has been a process of attrition, particularly for those operators that were not well financed or that focused heavily on reselling unbundled local loops from the ILECs to provide voice telephony."

(As read)

3015 MR. TALBOT: Yes.

3016 MR. KOCH: You seem to be implying here that failures were due to the entry strategy chosen. Is that right?

3017 MR. TALBOT: Again, I wouldn't want to make a generalization for all operators, but certainly that has been a big issue. I think that -- you know, from a basic investor's perspective, there are a couple of fundamentals that are critical.

3018 In the long term you have to own your own facilities. You can't just exist on resale because you are just not going to have the margins, plus I think customers want to know that they have some security in terms of the infrastructure that they are running on.

3019 A big part of that is to be able to go end to end on one network so that if there happens to be a difficulty, you are not left -- the customer is not left claiming "Well, where's the problem?". So a facilities-based approach in our view is a very important one.

3020 In addition, to get there you have to be well funded in order to see your way through not only the investment, but also through the working capital that is required upfront. Investors look at that as being a pretty important model which a number of the operators simply, you know, didn't see fit to put in place, either through a heavy reliance on resale or undercapitalization or, frankly, some who focused strictly on voice and didn't focus on data. The end result --

3021 MR. KOCH: In the end, when I indicated that you were implying that the entry strategy taken was not -- was in fact the cause of these failures, you agreed with me that you can't generalize, can you?

3022 MR. TALBOT: I think you have to be careful about generalization anywhere, but I think that what we can say is that we have had a number of companies which have attempted to enter the market and that through one reason or another -- but in many cases I think it comes back to the basic business plan and the execution didn't make it.

3023 Unfortunately, this entry strategy was planned when capital was relatively easy. Now that capital is not easy to obtain, that creates -- obviously the tide is going out and it means that a number of operators are left in difficult situations.

3024 MR. KOCH: The reality is that competitors typically employ a mix of their own facilities and facilities leased from the ILECs.

3025 MR. TALBOT: Fair enough.

3026 MR. KOCH: Isn't that right?

3027 MR. TALBOT: Certainly to begin with, yes. Obviously you have to start from somewhere and build.

3028 MR. KOCH: And that's the case for CallNet, that it is a mix.

3029 MR. TALBOT: Yes.

3030 MR. KOCH: And that is the case for GT, that it is a mix.

3031 MR. TALBOT: Yes, although GT has a much higher proportion of on-net. I think it's somewhere in the range of 78 or 79 per cent.

3032 So that is an approach right there that does have to be highlighted because what you have is a company here which succeeded in raising a significant amount of capital, I think in excess of a billion dollars, decided that they could focus that investment in specific areas, primarily in the downtown core.

3033 They had a very focused business approach, very focused on the data market, which is growing quite fast I might add, as opposed to voice which suffers from a lot of the drag of, let's say, a traditional legacy business.

3034 So they had those three components: business focus, with data and well funded. As a result, they had made a fair amount of progress. Unfortunately, the capital markets being as they are, still putting a lot of pressure on everyone in the sector and GT recently has found that that has been the case.

3035 MR. KOCH: So one of your points about GT is, of course, that while acknowledging that they have a mix of their own facilities and leased facilities, they have a higher proportion of their own facilities in your view.

3036 MR. TALBOT: Yes.

3037 MR. KOCH: But as well that they are very focused. In addition to having a data focus, they are very focused on downtown urban cores. Correct?

3038 MR. TALBOT: That's right, and I think that was part of the reason why there were able to attract a fair amount of investor interest and a lot of support, because it was a very focused plan where investors felt that there was a good opportunity to make a very solid case and they made a lot of progress.

3039 You have seen 20 per cent sequential, that's quarter-to-quarter revenue growth, albeit from a small base, but they have made good progress. I think in terms of funding we are through the 2003 into the 2004 time frame.

3040 We will have to see how things unfold, but that is the kind of model that I think investors prefer to see, where it is grounded in facilities-based operations in growing markets where there is less price competition, where you do have more of a new data focus as opposed to a legacy data focus and where the funding is sufficient to get you through that initial start-up time frame.

3041 MR. KOCH: And they also have a customer segment focus, primarily the small, medium enterprise market.

3042 MR. TALBOT: Yes.

3043 MR. KOCH: Yesterday GT's share price closed at $1.15, did it not?

3044 MR. TALBOT: Yes.

3045 MR. KOCH: And in March when you wrote your annual telecom directory entitled "Back to Basics", GT's share price was at $11.

3046 MR. TALBOT: Yes.

3047 MR. KOCH: And your target was $24.

3048 MR. TALBOT: Yes.

3049 MR. KOCH: You would agree with me that even the best analysts can't predict what the market is going to do. Correct?

3050 MR. TALBOT: I'm afraid it's pretty challenging times in this particular industry. I think you have to say "Well, how can someone on the surface be so totally off". Well, the fact is that it is difficult to predict.

3051 We are asked to essentially look at forecasting the cash flows of the company and then determining what the present value of those should be. Frankly, there can be a lot of variation and things can change very quickly. I think this speaks to the overall volatility in the sector as a whole.

3052 MR. KOCH: Okay.

3053 MR. TALBOT: It has been a big disappointment because, frankly, I think the company has executed according to the plan. They have met or exceeded every single expectation that we have set for them. The difficulty is that the market right now is fixated on liquidity. It's fixated on ability to meet debt covenants and, frankly, if the investment community senses that there is any kind of loose edge, they focus on that very, very intensely and so you do end up in situations like this which are very unfortunate.

3054 MR. KOCH: So the fickleness of the market makes your job difficult to predict.

3055 MR. TALBOT: I wouldn't just say that investors are fickle. I mean they are rational people, but they are also dealing in an environment which is particularly difficult right now where access to capital is tight and so it means that every single business plan is explored in depth.

3056 Exactly the same thing has happened with TELUS. We have seen that stock down 40 per cent or more this year. We have seen, you know, declines right across the board for just about every -- including B.C. in the last two weeks if you have seen it.

3057 MR. KOCH: Not a spectacular decline like this. I mean, Mr. Talbot --

3058 MR. TALBOT: Fair enough. But this is a younger company and you are working off a much smaller base. You have a lot of debt up front, so as the debt is put up front, the equity -- the tail can effectively wag quite a lot, whereas in the case of BCE, let's say, you have a lot more cash flow which reduces that volatility.

3059 But nevertheless, one of the reasons for the decline in the BCE price in the last two weeks has been concerns, believe it or not, about liquidity. We can produce reports, I'm sure, from a couple of my colleagues that competitors that said in fact there are some real liquidity concerns about even BCE in terms of funding Teleglobe and funding Bell Canada International and a number of their other operations.

3060 Frankly, there are very few people or few companies out there who can escape these pressures. TELUS exactly the same situation, how is it going to fund the debt.

3061 MR. KOCH: Yes. And when we talk about all of the factors and you talk about execution and specific decisions made by companies, I think BCE is widely recognized it overpaid for Teleglobe. Correct?

3062 MR. TALBOT: I think that created --

3063 MR. KOCH: Is that correct, Mr. Talbot?

3064 MR. TALBOT:  -- in Mr. Monty's article in fact. Yes.

3065 MR. KOCH: A simple yes or no will do, Mr. Talbot. It will make this go a lot more quickly.

3066 Perhaps TELUS us overpaid for ClearNet as well. Correct?

3067 MR. TALBOT: We believe so.

3068 MR. KOCH: Okay. But with your example of GT with the equity tail -- there was a dog and a tail analogy there -- wagging quite widely, that is an additional challenge faced by smaller competitors. Correct?

3069 MR. TALBOT: Absolutely.

3070 MR. KOCH: Okay. Again, you can't generalize and say that facilities-based players were all successful, correct, facilities-based entrants.

3071 MR. TALBOT: Certainly not. I think that they have, however, been more successful and have had more staying power than operators who rely primarily on resale however.

3072 MR. KOCH: Norigen wasn't successful?

3073 MR. TALBOT: Correct. I think we went through the list.

3074 MR. KOCH: Maxlink wasn't successful?

3075 MR. TALBOT: Yes, we had a list, I think this morning. Yes.

3076 MR. KOCH: So it is overly simplistic, you will agree with me, to simply point to the strategy of the entrant to identify why it failed. Correct?

3077 MR. TALBOT: I think that is right.

3078 But at the same time I think you have to be aware that we have a situation where the incumbents are also new entrants in each other's market and so we will have competition but it may not take perhaps the form of things as they are today. We probably will have to have further consolidation to try and bring this balance between supply and demand back.

3079 MR. NICHOLSON: If I might say, there is a relevant comment again in the --

3080 MR. KOCH: I would sort of like to take the Michael Ryan approach and say I'm discussing Mr. Talbot's report with him.

3081 MR. HENRY: Mr. Chairman, this is not Mr. Talbot's report. This is a general question, I think, and I think the panel is entitled to answer in the way they see fit.

3082 So I would ask that Mr. Nicholson be allowed to give his answer.

3083 THE CHAIRPERSON: Well, I will allow Mr. Nicholson to answer, but I believe this started, although it has gone a long way around the circle here but at 3.25, which was Mr. Talbot's report and the issues that Mr. Koch raised regarding GT Telecom.

3084 Mr. Nicholson.

3085 MR. NICHOLSON: No, a very, very brief comment but it is relevant to what Richard has just said, and that is that as the consolidation has been taking place the Commission notes in it's competition report at the bottom of page 24 that generally their customers, that is of the failing flags, have been transferred to other CLECs and not to the incumbents.

3086 MR. KOCH: The reality, Mr. Talbot, is that the companies that have failed were the smallest players. Correct?

3087 MR. TALBOT: 360 Networks was actually quite a large player.

3088 MR. KOCH: Let's talk about the local market.

3089 MR. TALBOT: I think -- yes. Okay.

3090 It did have some local assets, but yes -- your point, sir.

3091 MR. KOCH: So these companies were not able to fund the enormous investments necessary to roll out an alternative before they had developed a significant customer base. Correct?

3092 MR. TALBOT: That certainly is one part of the -- important part of the equation. Yes.

3093 MR. KOCH: In fact, your point about GT, CallNet and AT&T Canada is that even these three remaining players -- and they are the largest, leaving aside for a moment the incumbents affiliates -- that even these three large players are not generating enough cash flow to cover their financing costs. Correct?

3094 MR. TALBOT: That is correct. By, you know, a fair margin. The last quarter, I believe, if we were to take AT&T the EBITDA was $25 million. The interest costs were $100 million for that quarter, $65 million of it being cash interest and that is excluding the capital plan.

3095 So frankly, yes, it is a big concern.

3096 MR. KOCH: The funding that is so necessary to competitors to succeed, you will agree with me it can come from two sources. It can come from an external funding or from cash flow generated on their operations?

3097 MR. TALBOT: That is correct. The external funding could both be from the public markets, equity or debt, as well as the private markets from let's say a parent.

3098 MR. KOCH: I would like to ask you to turn to the interrogatory response, which actually is entitled "Portable Telecom Directory: Back to Basics." This is your full-blown report on the industry as of March 23 of this year. Right?

3099 MR. TALBOT: Correct.

3100 MR. KOCH: It's The Companies RCI 26 June, No. 23, Mr. Chairman.

3101 Actually before I take you to the portion I wanted to speak to you about, if I could ask you to turn to page -- let's see if I can get the page number here, I think my clip is over it -- page 139.

3102 MR. TALBOT: That is the page on BCE, is it?

3103 MR. KOCH: In the bottom left-hand corner -- I don't know whether the Commissioners have that -- there is a note:

"Within the past 12 months, RBC Dominion Securities has undertaken an underwriting liability or has provided advice for a fee with respect to the securities of this company." (As read)

3104 Could you explain why that note is there?

3105 MR. TALBOT: That is standard procedure. It is required as part of any disclosure. If you have either an underwriting fee or other work with a company, that should be disclosed. You would see it in the above page for AT&T Canada as well, for example.

3106 MR. KOCH: At page 10 of your report you pick up this theme that I have been discussing with you, which is the importance of access to capital.

3107 Do you see that? It is the first bullet at the top of page 10.

3108 MR. TALBOT: Oh, I'm sorry. Page 10.

3109 Yes.

3110 MR. KOCH: You say:

"The importance of access to capital, at its essence the telecom services business is highly capital intensive thereby making access to low-cost capital a key success factor. The current environment in the capital markets underscores the importance of having a fully funded business plan and/or strong internal sources of low-cost cash flow." (As read)

3111 That is the case, isn't it? You need one or the other, or preferably both.

3112 MR. TALBOT: I think that is fair. Yes. Absolutely.

3113 MR. KOCH: I wonder if I could ask you to turn next -- I handed out an exhibit which is actually a CRTC decision, or its an order actually, Order CRTC 2001-184.

3114 It seems that for some reason the witness didn't get a copy.

--- Pause

3115 MR. KOCH: Do you have it now, Mr. Talbot?

3116 MR. TALBOT: Yes, I do.

3117 MR. KOCH: I take it you are familiar with this decision?

3118 MR. TALBOT: The sunset clause on your central facilities. Yes. Yes. It basically extended the length of the time that alternative operators could access a portion of the facilities.

3119 MR. KOCH: I notice from your report that unlike the rate rebanding decision, which you covered with Mr. Ryan this morning, you aren't critical in your report of this decision of the Commission's, are you?

3120 MR. TALBOT: I wouldn't -- I would hope you wouldn't say we were critical of the first one, just merely to point out the fact that, you know, I think from an investor's perspective consistency and visibility and having a clear idea of where things go is very important. That is just, I think, a comment that is fairly important from an investor's perspective.

3121 But we did not comment, I think would be the word I would use, on the sunset clause no.

3122 MR. KOCH: Presumably if you had a concern about this decision, it being an -- you understand this to be an important decision in the evolution of the framework for local competition in this country?

3123 MR. TALBOT: Well, all of the Commission's decisions are important.

3124 But yes, we recognize that this is a very important one as well.

3125 MR. KOCH: Okay. Some are more important than others.

3126 MR. TALBOT: Yes.

3127 MR. KOCH: You didn't even mention this in your report. Is that right?

3128 MR. TALBOT: We didn't. That is correct. Yes.

3129 MR. KOCH: Okay. I think you indicated this morning you are not someone who studies the technicalities of the regulatory regime in great detail. Right?

3130 MR. TALBOT: I would say that there are a lot of demands on one's time and that certainly while we would read the decisions and be aware of the most important ones that we would not be, let's say, studying 100 per cent of the Commission's decisions. So I would agree with you.

3131 MR. KOCH: I'm not being critical. We are all busy people presumably and you have other things to do, including coming here to testify about the Commission's regime and how it meshes with the capital markets.

3132 I would like to take you in the sunset decision to the Commission's conclusions. I have an Internet copy of this, Mr. Chairman. I'm really going to paragraph 28 of the decision. So for those with a printed copy it may be on a different page, but on the Internet copy that I handed out it's at the bottom of page 7.

3133 You see at the bottom here, Mr. Talbot, the comment:

"The Commission considers ..."

3134 And this is under its conclusions.

3135 It has concluded now that it is going to remove the five year sunset period or drop dead date for making available to competitors near -- what have come to be known as near essential facilities of mandated rates. Correct?

3136 MR. TALBOT: Correct.

3137 MR. KOCH: It comments on its rational. It says:

"The Commission considers that not extending the current mandated access period for near-essential facilities would make it more difficult for entrants to acquire the critical mass of customers necessary to make entry and expansion of their own networks economic, and would significantly limit the development of competition in the local exchange market."

3138 You will agree with me, Mr. Talbot, that what the Commission is recognizing here is that entrants need to develop customers and cash flow before they can be expected to expand their own networks. Is that not the case?

3139 MR. TALBOT: Fair.

3140 MR. KOCH: Okay. And as an expert in the capital markets, you don't disagree with that?

3141 MR. TALBOT: No, I wouldn't.

3142 The only point that I would make is that to the extent that investors can have a good sense as to how long a particular regime might run, it is very helpful to have a time period as opposed to an indefinite point. But I certainly recognize that in some cases it may be difficult to put a time frame on it.

3143 MR. KOCH: Thank you very much.

3144 Those are my questions, Mr. Chairman.

3145 THE CHAIRPERSON: Thank you, Mr. Koch.

3146 Mr. Secretary, we would have numbers for CallNet's exhibits.

3147 MR. SPENCER: Thank you, Mr. Chairman. We have five documents.

3148 The first document is a letter dated 19 September from Mr. Bowles providing the CV of CallNet's Panel members, which will be CallNet Exhibit No. 1.

EXHIBIT NO. CALLNET-1: A letter dated 19 September from Mr. Bowles providing the CV of CallNet's Panel members

3149 MR. SPENCER: The Angus Report on Business Telecommunication in Canada, September 2001 will be CallNet Exhibit No. 2.

EXHIBIT NO. CALLNET-2: The Angus Report on Business Telecommunication in Canada, September 2001

3150 MR. SPENCER: Stentor Resources Centre Inc. Price Cap Regulations and Related Issues, Telecom Public Notice CRTC 96-8, Evidence 10 June 1996 will be CallNet Exhibit No. 3.

EXHIBIT NO. CALLNET-3: Stentor Resources Centre Inc. Price Cap Regulations and Related Issues, Telecom Public Notice CRTC 96-8, Evidence 10 June 1996

3151 MR. SPENCER: Order CRTC 2001-184 will be CallNet No. 4.

EXHIBIT NO. CALLNET-4: Order CRTC 2001-184

3152 MR. SPENCER: Mr. Chairman, I would also like to assign exhibit numbers to five CRTC documents, four of which are undertakings.

3153 The undertakings for Bell Canada regarding SIP will be CRTC Exhibit No. 1.

EXHIBIT NO. CRTC-1: The undertakings for Bell Canada regarding SIP

3154 MR. SPENCER: Undertakings for TELUS regarding SIP will be CRTC Exhibit No. 2.

EXHIBIT NO. CRTC-2: Undertakings for TELUS regarding SIP

3155 MR. SPENCER: Undertakings for NTS regarding SIP will be CRTC Exhibit No. 3.

EXHIBIT NO. CRTC-3: Undertakings for NTS regarding SIP

3156 MR. SPENCER: Undertakings for Aliant regarding SIP will be CRTC Exhibit No. 4.

EXHIBIT NO. CRTC-4: Undertakings for Aliant regarding SIP

3157 MR. SPENCER: And finally, CRTC Report to the Governor in Council: Status of Competition in Canadian Telecommunications Markets will be CRTC Exhibit No. 5.

EXHIBIT NO. CRTC-5: CRTC Report to the Governor in Council: Status of Competition in Canadian Telecommunications Markets

3158 MR. SPENCER: Thank you.

3159 THE CHAIRPERSON: Thank you, Mr. Secretary.

3160 I understand those, then, are all the parties who had wished to cross-examine this panel.

3161 So we will turn to Commission counsel.

EXAMINATION / INTERROGATOIRE

3162 MS MOORE: Thank you, Mr. Chairman.

3163 First, I would like to explore with you some questions relating to the possibility of an earnings sharing overlay mechanism and the interrelationship of such a mechanism with reporting requirements.

3164 So in paragraph 4.22 of your evidence -- and I will just paraphrase a couple of sentences -- you have indicated that if there were to be an earnings sharing overlay to avoid unwarranted regulatory intervention in those markets where competition has taken root, it would also be necessary to exclude these service areas from the financial results to be considered in an earnings review.

3165 At the end of that paragraph you state:

"It was just such a consideration that led to the split-rate base initially. To maintain the same competitive safeguards, the utility segment itself would have to be further segregated into competitive and non-competitive segments." (As read)

3166 I would like to put an example to you for illustrative purposes. I would like you to assume that a company's earnings are calculated using the current methodology that is based on revenues, expenses and investment base of the utility segment as currently defined by Phase 3 split-rate base.

3167 Let's also assume that the Commission implements an earnings sharing mechanism in which all company earnings above a preset percentage must be returned to subscribers. Suppose the company drops prices of its more competitive utility segment services right down to cost, as low as the imputation test will allow. This would presumably cause the company to have lower earnings than it otherwise would have had and possibly remain below the upper earnings threshold, thus avoiding the requirement to refund any excess earnings to subscribers.

3168 So I wonder if you could comment on whether this would be an example of the possible cross-subsidization that The Companies have alluded to in their evidence which would occur if an earnings sharing mechanism were applied to the utility segment as currently defined?

3169 MR. FARMER: I guess that is an example. If one calls it a cross-subsidization, that is perhaps not the right term. If one is still passing the imputation test, then it is not a cross-subsidization.

3170 But obviously the less competitive and the more competitive areas in the utility, which I assume we are talking about here in the context of your question, they are not separated from one another so that one can take an action.

3171 It is, I suppose at the time, in the eye of the beholder as to whether that action was required because that was really the, say, market dynamics that were driving that. It felt necessary to lower a price, or that it was viewed upon as a scheme to reduce revenues generally speaking. And I suspect that one is never going to be able to tease out of just looking at the numbers afterward what actually was the intention or the requirement.

3172 So that is an example of the sort of thing that one would have to consider and I think that is the same sort of thinking that was behind the split-rate base originally.

3173 MS MOORE: Can you provide any other examples beyond that one in relation to this concern you have expressed about subsidization of competitive offerings by non-competitive offerings.

3174 MR. FARMER: Well, there is, I suppose, another example. It's almost the reverse. It's linked. It's not unrelated to the one that you gave and it's the following. Again it comes into the question of what is driving what.

3175 Let's assume one has a situation where for whatever reason we are actually doing very poorly in the competitive market and frankly we have to lower our prices, maybe out costs are too high or whatever it is, and through the combination of lowering prices and the loss of market share -- let's call it the business market in Toronto just to use an example.

3176 Let's assume we start to lose a lot of money there.

3177 Let's also assume that overall the rate of return drops below -- in fact, let's say it is quite a low number where the lower threshold kicks in, where one would look to the mechanisms of rate of return regulation to bring us up to what used to be called the "allowed rate of return."

3178 Now, the accusation would be, and I think there could be some justification for it, that because the two markets haven't been separated that in fact we are using the regulation to allow us regain what we have lost in the competitive market, not through pricing in the business market but perhaps pricing in the residential market or other markets that aren't as competitive.

3179 MS MOORE: Thank you.

3180 Are there any other examples that come to mind or are those the two major --

3181 MR. FARMER: Well, that is probably the basic dynamic that we had in mind when we talked about that. I'm sure if I sat back and thought about it long enough I may be able to come up with others.

3182 MS MOORE: Well, perhaps you might wish to undertake to provide some if you wish but --

3183 MR. FARMER: Sure. I will take advantage of the opportunity if we can come up with something else.

3184 MS MOORE: Thank you.

3185 You take the view that under earnings sharing, as we have discussed, it would be preferable to further segregate utility segment results into competitive and non-competitive. I wonder if you could comment on what basis such separation could be undertaken and particularly, for example, what yardsticks would be used to measure the level of competitiveness of various services?

3186 MR. FARMER: Well, that is a really tough one I have to say. I can put forward some suggestions and I will.

3187 What we were trying to illustrate here, of course, was that if you wanted to include in, let's call it an earnings sharing model, if you wanted to include earnings sharing inside the price cap then we would have to put in place the same kind of safeguards that the split rate base was intended to do when one looked at the business in terms of those services which are competitive and those services which are competitive and those services which at the time were not competitive.

3188 How one would put it into effect then is perhaps more problematic. I wouldn't want you to feel that we had a solution to this. It was really presented as to put in these kinds of safeguards something would have to happen. Just exactly how we would put that into place is frankly not clear to us.

3189 One is the issue of just how would one work the numbers to come up with the rate of return for some portion of the utility business. Again, if we looked at it long enough and hard enough, maybe we could come up with some kind of suggestion.

3190 On the issue of what is competitive and what is not competitive, well, again I suppose the degree of competition is always in the eye of the beholder as well. We have in the context of proposing again a competitive safeguard, in our own price cap proposal we do have a competitiveness test which I suppose might be of some use, and as competition rolls out I suspect we would fairly quickly find that a good part of business moves off into the competitive area.

3191 But again it is a question as to whether a 5 per cent market share is the right threshold or a 10 or a 15. It would be, I think, probably a subject of quite a debate.

3192 MS MOORE: So you would agree that it would be a relatively complicated exercise to attempt to separate the services that you have mentioned?

3193 MR. FARMER: I think it would be complicated, that is right. Whether it is possible or impossible, I'm just not in a position to say right now.

3194 It is absolutely complicated and I guess our main -- yes, it's complicated and controversial.

3195 Also something that I think is quite avoidable, but I won't bother going through, you know our position on earnings sharing. We just simply don't think that we should be going there at all.

3196 MS MOORE: Would it be fair to say that the non-competitive services to which earnings sharing might apply would likely be the same set of services to which upper pricing constraints under your proposal would apply?

3197 MR. FARMER: Well, now we get back a bit to the answer I gave you just a moment ago as to whether one would think that that competitiveness test that we put forward is the right one for purposes of testing competition. I can't really go any further than to say I think for the purposes we are talking about here I suspect it would be rather controversial.

3198 Another point I think as well is what one would do with other services which are currently in the utility, which will stay a monopoly for all intents and purposes, and that is if we define correctly what the essential services are.

3199 We have, of course, a rule that talks about basing the prices for those on cost, which I think is actually a sound rule for a number of reasons and we can talk about that later.

3200 So then the question becomes, "Well, what would you do with those services if, in fact, they were within the context of a general kind of rate of return approach that one takes generally speaking? Does that mean we would be permitted to increase prices in days of low rates of return for competitor services?" I suspect not because I think it would work against the other objective of having those services priced in a way which captures our economies of scale. So it is another complicating factor.

3201 MS MOORE: But you have proposed that a per pricing constraints under your proposal would apply to a certain set of services. Is that correct?

3202 MR. FARMER: Oh, that is right. Certainly we have.

3203 MS MOORE: And my question is: If earnings sharing were to apply, would the earnings sharing mechanism likely apply to that same set of services that under your proposal would be subject to pricing constraints?

3204 And if your answer is no, can you tell me what the differences would be between the sets of services under one scenario as opposed to another scenario?

3205 MR. FARMER: Well, I am trying not to be terribly definitive because I don't know that I have given it enough thought.

3206 I would say that for services that are subject to "monopoly" supply -- "monopoly" put quotation marks around it if you will -- would be the ones that I think would be the only ones one would consider for purposes of putting into the rate of return.

3207 On the same token, for services which are also not subject today to a great deal of competitive pressure, like for instance our line features, I would continue to say that they should not be capped, and so I would leave them outside too.

3208 So I suppose as a very rough guide -- the complicating factor being these competitor services, I suppose as a rough guide I would look to those services that are still subject to upward pricing constraints in our proposal as fitting into, say, the less competitive area.

3209 MS MOORE: I would like to explore just a little bit further the implications of a possible further subdivision of the utility segment as we have discussed.

3210 I wonder if you could just offer some opinion for me on the order of magnitude difference that would be involved in terms of supporting an earnings sharing regime and the reporting mechanisms that would be involved versus the current reporting requirements that are in place?

3211 MR. FARMER: Let me make sure I understand the question. It was: You are asking me to explore whether the reporting mechanisms that we currently have in place would change if we were in a regime where there was some form of earnings sharing, perhaps on a subset of the utility.

3212 MS MOORE: Actually I'm exploring whether in your view the reporting requirements under an earnings sharing mechanism would perhaps be more onerous than the current reporting requirements that are in place? I wonder if you would agree with that?

3213 MR. FARMER: Oh, I think without any question it would, particularly in terms of frequency, if I can put it that way.

3214 And it is not just a question of reporting. We do report, as you know, certain financial indicators as we go through the year on a semi-annual basis and I suspect that that reporting would still be -- well, it would absolutely be required under an earnings sharing mechanism. They would certainly be complicated if we were to be talking about a subset of the utility. There is no question about that.

3215 But it's not so much the reporting, which would be onerous enough, but actually it would be what do you do with it.

3216 In an earnings sharing mechanism what one does is obviously makes a determination as to what the rate of return is. Presumably there is a preset target at which certain other pricing mechanisms come into account.

3217 But in determining what the actual rate of return is, certainly our experience with rate of return regulation has been that hasn't been a simple task, simply because there are -- there is a lot of controversy around those three items that you mentioned, investment, expenses and revenues, and I suspect that we would be into an annual process that would take most of the year.

3218 MS MOORE: In paragraph 10.23 -- and I don't think there is any need for you to turn to this -- The Companies submit that there is no further need for Phase 3 split rate base reports and that these consume significant company resources. In fact, The Companies own witness suggested yesterday during cross by ARC et al that it would not be unreasonable to expect the Commission to examine a company's earnings if those earnings were particularly egregious.

3219 Of course, monitoring a company's earnings requires some kind of reporting mechanism in order that the Commission would have some basis from which to determine if a company's earnings had been egregious.

3220 So assume that the Commission were to decide that some form of financial reporting for The Companies would be required, whether there is an earnings sharing mechanism or not, and also assume that the Commission were still to require the segmentation of information and to utility and other, what type of reporting would The Companies propose a replacement for the Phase 3 SRB reports in such a scenario?

3221 MR. FARMER: And the premise of the question was there would still be a desire to report on financials?

3222 Well, given that that would be the desire, I suspect that if one still wanted to track utility financials, the split-rate base reporting is about good and as effective as you are going to get and the mechanisms are already in place.

3223 I suppose one could think of trimming it down and just reporting revenues and expenses and investment on a broad basis but whether that would be considered to be sufficient to the task, I'm not sure.

3224 MS MOORE: Now, I would like to discuss a scenario which does not include an earnings sharing mechanism and I wonder if some type of reporting were nevertheless required, would The Companies consider it preferable to replace the current Phase 3 SRB results with financial statements which reflect total company results, given that those are likely less labour-intensive for example?

3225 MR. FARMER: They are probably less labour intensive, I agree. There is always, of course, work moving from our statutory books to our regulated books. So there is a certain amount of effort involved in that and that would continue.

3226 So just from a straight labour point of view, I don't suppose one would say that that would be tremendously onerous.

3227 If, however -- and I think this was the context of your question -- if we are in a situation whether there isn't any earnings sharing in the model, then I would have to wonder why we would bother, if I can put it that way.

3228 In other words, it is not so much the question of whether it's a whole lot of work but really whether it's necessary at all. And if it wasn't going to be put to a use, then I don't know why one would undertake it.

3229 MS MOORE: Well, let's assume that there is financial reporting on a total company basis but that the Commission were concerned to be able to isolate markets in which competition had not yet developed in order to consider whether companies were earning supernormal profits for example?

3230 MR. FARMER: I'm sorry. I'm just having a little bit of difficulty with the question. Could you repeat it?

3231 MS MOORE: I'm suggesting that you suggest that Phase 3 SRB is no longer required.

3232 MR. FARMER: Right.

3233 MS MOORE: I have asked if the Commission were nevertheless concerned with the need for some type of financial reporting, then you said, "Well, why would there be financial reporting?" And I have said what if the Commission were concerned about being able to identify markets where competition hasn't yet developed.

3234 I am just wondering what alternatives you can offer if you wish to remove --

3235 MR. FARMER: Okay. I think I understand it then.

3236 Well, if the concern was the development of competition in markets, then I guess I would suggest that the reporting be done on parameters that get more directly at that particular issue rather than financials which, on a corporate basis or a utility basis, are at best quite indirect.

3237 If one wants to know is there competition in a particular market, then one can measure parameters that relate to that, like for instance well how many lines have been lost to how many competitors, how many competitors are available and in what locations, and so on, but I am really kind of summarizing or paraphrasing the many things that are reported in the monitoring report.

3238 MS MOORE: I would like to turn now to the competitiveness test that you have mentioned earlier, which is at page 87 of your evidence, in paragraph 6.109.

3239 Just to summarize that, you propose a test in which, if there were competitive alternatives available to 30 per cent of customers in a relevant market and if, secondly, 5 per cent of the relevant market has actually been lost to competitors, then a service would be deemed to be competitive.

3240 So, first, I wonder if you could confirm that the phrase "competitive alternatives are available to customers" means that competitive carriers have access to buildings, they have access to rights of way and support structures as needed so that they can actually provide service.

3241 MR. FARMER: Certainly, it carries the concept that there would be other competitors in the market who are in a position to offer services. There is no question about that, yes.

3242 MS MOORE: But what I am asking you is, when you propose this test and if this test were to be employed, would it not be relevant to consider whether competitors were generally able, not just in theory to provide service but were able to achieve the appropriate access arrangements in terms of rights of way in buildings?

3243 MR. FARMER: Well again, I don't disagree. In fact, that's exactly the concept we are looking at. So when we talk about competitive alternatives are available to 30 per cent of the customers, we really do mean that those 30 per cent of customers or more could actually get service from those alternative carriers.

3244 MS MOORE: Thank you.

3245 I also wonder whether you consider wireless services provided by a carrier that is not a CLEC to be a competitive alternative for the purposes of the test that you are proposing?

3246 MR. FARMER: That's a good question and I hadn't really thought about it in those terms. So, let me see what I can do with it.

3247 Quite frankly, I had not been thinking of wireless when we have written this. So I suppose the short answer would be no for right now.

3248 I think the reason I would say that right now is because we don't see, as Mr. Nicholson talked about, though perhaps in the future we are going to see some changes, I mean it is quite clear that the case of second lines is aside and young singles, as Mr. Nicholson spoke about, there isn't a great deal of penetration into local markets strictly as a substitute for wireline. I think there are numbers perhaps on the record, but I have certainly seen them elsewhere that talk about 4 per cent of customers take something like -- I'm sorry, take wireless services as substitute for wireline.

3249 But that may change. The reason I say that is because there are alternatives right now in the wireless business to the wireline that are actually quite cheap, if I can put it that way, priced in a fairly low way. I mean, Bell has services which are available, called Solo that, for $25, which offers 300 minutes and two features; Rogers has something for fewer minutes but a lower price, and so on.

3250 We have done some price comparisons between wireless and wireline as well, looked at average billing related to both the -- sort of the usage of the line plus features, and we find that, right now, even in the consumer market, that we are about, if I can put it, one feature price away from having an equal price in the wireline and the wireless market, i.e., the difference in price, given the take that both our wireline and wireless customers have for feature, the difference is about the price of the single feature that we offer.

3251 So only to say -- I'm sorry for the long-winded response to this, but only to say that it may happen in the future that in fact we can look at wireless as a substitute for wireline. I don't think that we would say that is the case now and we would have to make the case, if we wanted to use the competitiveness test in that way.

3252 MR. NICHOLSON: Just once again to echo that, and it comes back to one of my constant themes here, is that technology is a very big factor. Wireless technology is another one of these Moore's law technologies, it is fundamentally improving with the power of computation. That's what a cell phone is, it's really a computer.

3253 So the quality, not only the quality at lower price but the quality in absolute set terms, is eventually going to make wireless a completely viable alternative with all the quality that you now have in a PST and for voice service.

3254 MR. FARMER: Thank you, Mr. Chairman.

3255 I have about 15 more minutes of questions, so perhaps we would like to take a break now.

3256 THE CHAIRPERSON: Yes, thank you, counsel.

3257 We will take our afternoon break now, then, and reconvene at a quarter to four.

--- Upon recessing at 1530 / Suspension à 1530

--- Upon resuming at 1548 / Reprise à 1548

3258 THE CHAIRPERSON: Order, please.

3259 So we will return to questioning of The Companies Panel 1 by Commission counsel.

3260 Counsel Moore.

3261 MS MOORE: Thank you, Mr. Chairman.

3262 THE CHAIRPERSON: Could we have quiet at the back of the room, please?

3263 MS MOORE: Thank you, Mr. Chairman.

3264 I would like to turn you to interrogatory, The Companies, CRTC, 26 June, 13-06.

--- Pause

3265 MS MOORE: Just while you are turning that up I will contextualize this. This is where you are discussing your competitiveness test, and at page 3 of 3 in the last paragraph you state, in part:

"While these standards are deemed suitable to deregulate a cable distributor..." (As read)

3266 That is the 30 per cent and 5 per cent test.

"...The Companies are not proposing that they should result in forbearance of telecommunications services. Rather, they are merely proposing to remove upward pricing constraints from telecommunications services that meet these criteria." (As read)

3267 I wonder if you could explain for me what the practical difference is between removing the upward pricing constraints and forbearance from rate regulation?

3268 MR. FARMER: In terms of upward price movement, there probably isn't any difference.

3269 In terms of other regulatory constraints, then there well could be.

3270 For instance, being regulated one still has to file tariffs and get approval and that takes a certain amount of time. There may be some terms and conditions that are not related to pricing which one would -- the Commission may want to look at in some more detail. So that would be a difference.

3271 The other issue is one of the averaging which we had proposed, again a question of making the case that the competitiveness test applies and then requiring us not to de-average our prices within the area of interest.

3272 I guess those are the three differences. As I said, probably nothing in terms of upward but in terms of these other conditions, there would be some differences.

3273 MS MOORE: So I wonder in your view whether removing the upward pricing constraints as opposed to forbearance would give The Companies more or less pricing flexibility?

3274 MR. FARMER: Well, in terms of pricing flexibility, clearly it is -- the competitiveness test would give less because of this de-averaging issue, which I talked about.

3275 In terms of the upward pricing constraint, if there wasn't any then obviously both forbearance and uncapping would really achieve the same effect in terms that there wouldn't be any upward pricing constraints from a regulatory point of view. Clearly, there would be market constraints which, of course, is what one relies on entirely under a forbearance test.

3276 MS MOORE: Thank you.

3277 In your evidence, paragraph 2.14, you discuss your views about the roll-out of new technology and its impact on competition in the telecommunications market. You state in part, in that paragraph, that:

"The new spaces being contested in Canada by players from the media sector, the cable industry and the new portal ISP players..." (As read)

3278 Later on in that section you use the phrase "convergence competition".

3279 I wonder if you could just elaborate on what you mean exactly by "convergence competition" and if you could provide specific examples of what this might be.

3280 MR. FARMER: Well, the phrase "convergence competition" is put in quotes, I suppose, for a good reason. It is a general notion of competition from and among a number of players who traditionally haven't been competitors but as a result of the digital revolution in communications and the Internet transformation in particular are now meeting each other in the marketplace.

3281 So as cable has gone digital, they are now able to compete directly with telephone companies for DSL service, for instance. Companies like Yahoo and Microsoft and AOL, who have messaging functionality in their web sites and in their software, are now enabling telephone calls effectively, voice services.

3282 Other dimensions, of course, are just simply nontraditional competitors to the cable industry, for instance, whether it's broadcast satellites or ultimately -- and at this stage I would agree it is not so much a commercial service but regular broadcast video over telephone lines. I mean, there is an example of that in the Aliant territory with the Vision service, for instance, where a high-speed version of DSL technology is actually delivering broadcast video signals over telephone infrastructure.

3283 I could go on but, there are many, many examples.

3284 MS MOORE: We had some discussion earlier this afternoon about the speed of roll-out of cable IP technology in the local telecom services market.

3285 MR. FARMER: Yes.

3286 MS MOORE: I wonder if you would be able to now, or as an undertaking, provide your view of realistic forecasts of market shares of cable IP-based technology in the local telecom market?

3287 MR. FARMER: That's a good question.

3288 I don't know if I could give you a strong undertaking on that because one of the quotations that I cited earlier from Rogers indicated some uncertainty on their part, for instance, when the technology would mature.

3289 I think, in fact, it would be worthwhile doing a little more work on that, if you would find that to be useful. I'm not sure that we can bring it to the point where we could forecast market share, but I think we could put more information on the record than I have been able to do orally. That will involve looking into some of the technology issues on both the cable and the telephony side and there is a tremendous literature on this right now.

3290 MS MOORE: You say that, I believe, it is not possible at this time to forecast market shares per se.

3291 MR. FARMER: No.

3292 MS MOORE: You have mentioned the possibility of putting more on the record, but I wonder if you could be more precise about what it is that you would put on the record that would relate to forecasting the market shares?

3293 MR. FARMER: Well, I think the issue is when is it likely -- and this will largely be testimony related to what is happening technologically.

3294 When is it likely that the services themselves are going to be of sufficiently robust quality from a technical point of view that they could be implemented as a substitute, probably initially for second lines and ultimately maybe even as primary service. That is one aspect of it.

3295 Where I think we could probably say a little bit more is with respect to this so-called circuit-switched cable, which is the EastLink technology. We may be able to forecast that one a little bit better.

3296 The problem there, in a Canadian context, is that most of the other cable companies have said that they are going to wait for the voice over IP and not go to that intermediate step. So I am not sure how much we will be able to go beyond what we may -- what EastLink may be prepared to forecast.

3297 MS MOORE: So just to clarify the scope, you will be able to undertake to provide us with a forecast of when voice over IP technology would be -- could reasonably be contemplated as a substitute.

3298 MR. FARMER: Yes, I think ---

3299 MS MOORE: That is the first part.

3300 The second part is some more detailed forecasting with respect to the EastLink type circuit-switched.

3301 MR. FARMER: We will certainly try to do that. Yes, I think we can definitely add to the record in both those respects.

3302 MS MOORE: Can I have your undertaking to do that --

3303 MR. FARMER: Yes.

3304 MS MOORE:  -- by perhaps when? October 12 or --

3305 MR. FARMER: I don't know. What's reasonable? October 12.

3306 MS MOORE: I would like to turn now to The Companies evidence at page 14 where The Companies state:

"Where market forces are not yet sufficiently developed there must be flexibility to allow prices to move towards levels that will attract competitive entry, subject to reasonable limits designed to ensure that prices for basic service remain affordable." (As read)

3307 I also would like to turn you to RCI's evidence, paragraphs 25 to 29, and particularly paragraph 27.

3308 In those paragraphs RCI has provided an estimate of the extra revenues to Bell Canada. I would like to discuss a scenario in relation to that.

3309 If we first assume that with a traditional price cap formula, that is average prices change by the rate of inflation less productivity growth, rates would be expected to fall during the next price cap period, if that were the regime that were to be imposed.

3310 The Companies have proposed to deviate from these rates by not adjusting rates by productivity in order to attract additional investments and competitive entries. So under your proposal there would be no productivity offset.

3311 RCI, in the reference that I have given you, has estimated that under such an approach the extra revenues to Bell would be in the order of about $1.25 million -- billion in the first year of the next price cap period compared to what Bell would receive with traditional price cap.

3312 I wonder if you agree with the estimates that have been put forward in paragraph 27.

3313 MR. FARMER: You are perhaps catching me a little bit short on this one, Ms Moore. I hadn't done the arithmetic, frankly, on this one and would be happy to do it, just to perhaps give our assessment as to whether we think the RCI evidence is even close to being accurate.

3314 I have to say looking at it it looks a bit high but, at any rate, I will be happy to undertake that.

3315 MS MOORE: So you will undertake to provide in your view what an accurate estimate of that would be of the extra revenues under the scenario that RCI is discussing here?

3316 MR. FARMER: Yes, within -- again, I hate to -- I suspect when you see our undertaking you will find some words that sound like hedging, let me just put it that way. It is only because there is always going to be some uncertainty as to whether one actually employs the flexibility that one gets.

3317 Within that general framework, certainly we will undertake to provide an answer.

3318 MS MOORE: Perhaps one can avoid some of that hedging by assuming that in your undertaking you will provide two scenarios, one where the maximum flexibility is employed and one where some lesser amount is employed.

3319 MR. FARMER: Yes. We will take that approach.

3320 MS MOORE: Thank you.

3321 So you agree in general, though, that Bell would receive more revenues under the proposal that it has put forward than with a traditional price cap plan such as has been used in the first period.

3322 MR. FARMER: Yes. I think generally that is a fair characterization. Again, it depends on how things would actually roll out in the market and, of course, if things got much more competitive in the business market and in the residential market then who really knows, but I would say that I would expect that overall not being required to reduce the prices by some "X" factor would probably in the final analysis generate some additional revenues, at least for some period of time.

3323 MS MOORE: So I would ask you now to contemplate a scenario where there is insufficient competitive entry to limit ILEC pricing power so that rates at the end of a future price cap period could be much higher than they would have been under a traditional price cap approach where there would have been a productivity offset.

3324 Absent competitive entry to discipline rates, how would you propose that these rates should be treated at the end of the next price cap period, these what some might call excessive rates?

3325 MR. FARMER: Some might call them excessive rates and I guess that really comes to the heart of my answer.

3326 First of all, of course, we are not talking about uncapping these prices. We are talking about increases that on average can be as high as the rate of inflation over a broad basket of residential and business services.

3327 One can put a limit, just thinking about it as to how big that might be and we can do the calculation as we talk about it.

3328 I suspect if you are looking at an average price today of around $22 -- $22.50 I think in Bell Canada's case, you apply a 2 per cent inflation for four years, you are still -- I think, and I don't have the arithmetic in front of me -- so you are talking maybe less than $2.00 at any rate over that period of time. That is the non-high cost areas. It is different in the high cost areas. So the rate will be whatever the rate could possibly be in terms of the inflation.

3329 I would suggest that the approach that should be taken the next time, if, say, four or five years from now we are in the same proceeding, I would expect that various parties would bring forward once again various objectives, as we have here today.

3330 For instance we have, and I will not repeat it all, but I mean our objectives are competition, affordability and investment to very much paraphrase the discussion before and I would ask the Commission to look at in the light of those things.

3331 If prices were still considered to be affordable and quite reasonable by international standards, then I don't think one would have to worry about whether they would consider to be excessive rates at that point. They are actually quite reasonable rates.

3332 That is looking forward four or five years from now. I really can't take it any further than that.

3333 MS MOORE: What if rates weren't considered to be affordable? Would some sort of rate rebalancing be appropriate at that juncture, if your proposal were to be adopted and yet competitive entry didn't develop?

3334 MR. NICHOLSON: Yes. I think that that's always the prerogative of the Commission, of course.

3335 We propose this upward cap of inflation and I think it's a fair assumption that over a four year period -- perhaps not over the next year but over a four year period that, for instance, personal disposable income is going to grow faster than inflation.

3336 In that sense our rate would decline relative to disposable income over the period. I think that's one of the important indices of affordability. If that constraint were violated, then clearly one could reconsider.

3337 But I think it's very unlikely to be violated. I would be quite confident in suggesting that rates capped at inflation are going to decline relative to personal disposable income over a four year period.

3338 MS MOORE: Thank you.

3339 Those are my questions, Mr. Chairman.

3340 But first I would just like to clarify the timing of the first undertaking regarding examples of what you term subsidization of competitive offerings by non-competitive offerings in an earning sharing scenario. When would you propose?

3341 MR. FARMER: How about the end of the week?

3342 MS MOORE: Thank you.

3343 And, finally, just also the timing of your estimate of the revenues akin to what RCI have put forward.

3344 MR. FARMER: Oh, I think that this would be the same time period.

3345 MS MOORE: Thank you.

3346 Thank you, Mr. Chairman.

3347 THE CHAIRPERSON: Thank you, counsel.

3348 While we are on undertakings, the one you agreed to provide yesterday, the same time?

3349 MR. FARMER: Yes.

3350 THE CHAIRPERSON: Now I understand we have questions from a couple of the Commissioners.

3351 Commissioner Langford.

3352 COMMISSIONER LANGFORD: Thank you.

3353 My questions are far more general than some of the ones you have been getting. I think it will give the people in the back row a little rest. They will probably have carpel tunnel syndrome from pulling those books before it's over.

3354 The questions I have kind of stem from some of the comments we heard from the members of the public who called in yesterday and from the people who made the effort to come here.

3355 It became obvious to me, as perhaps it became obvious to you, that because they are not in this game, if I can put it that way, or they are not in this business, they see things a little differently.

3356 As I listened to some of the earlier responses that the three of you gave on this first panel and looked at your opening statement and at the similar remarks that were made in the billing insert that I think the lawyer from ARC has entered as one of the exhibits, it occurred to me that some of the terms that seemed to be used so comfortably on one side of this, shall I call it industry subscriber equation are used somewhat differently on another side.

3357 I would just like to explore with you very generally some of your responses to that and perhaps see what kind of comfort we can bring to the other side of this equation.

3358 The first one would be affordability, which is the term that is used almost everywhere.

3359 What we heard from people like Florence Crandall of Elgin, New Brunswick, and Doreen Gee of Victoria, British Columbia, is that they, in their own words, don't think they can afford the phone any more. If it goes up to $30 or $35 they won't be able to afford it, in other words pay for it I gather. They just simply don't have the money.

3360 Yet when you talk about affordability you seem to draw a very simple and perhaps very accurate relationship: If the penetration levels are high, it must be affordable. But when you listen to the sort of people who called in yesterday, do you think that relationship is in fact accurate?

3361 MR. NICHOLSON: Well, it will not be accurate for every individual. I think here is one of the dilemmas of making policy. In any society with 30 million souls, you will always find exceptions to any policy. It doesn't matter whether we are talking about telecom or any other area of public policy.

3362 As I once said, there will always be at the margins of any policy frauds and victims. If you make the rules too lax, there are too many frauds and if you make them too stringent there may be too many victims. The art is to somehow balance things so that the sum of frauds and victims is minimized.

3363 I think in the terms in which we have to speak in a public policy forum like this there will always be the anecdotes of the individual who can't afford it. It's not only in terms of telephony obviously, but any other number of things that affect people's lives.

3364 What I have been struck by, I guess -- and excuse me if I put one more piece of numerical evidence on the record -- is the series that looks at the proportion of family income or expenditure by quintile, so we begin to get at some of the things that Ms Lawson was trying to tease out yesterday over time.

3365 I do have some Statistics Canada figures on that here. It's part of the interrogatories. It was the company's ARC et al, 26 June, 202-PC.

3366 But if we look at the proportion of household expenditure spent on telecom -- telephone services by income quintile -- and these are the StatsCan numbers -- for the lowest quintile it was 3.2 per cent in 1996, 3.2 per cent in 1997, 3.3 in 1998, 3.1 in 1999 and as you go to the higher quintiles the numbers fall of course. The highest, it went from 1.1 per cent down to .09 per cent.

3367 In every case this pattern over time has been pretty stable. Similarly, when you look at proportion of disposable income, again even in the lowest quintile there has been a marked stability over time at numbers that I think are pretty low.

3368 As I said a moment ago, if we are freezing prices at inflation overall relative to personal disposable income, I think affordability by that measure, which I think is not a bad one, is going to increase over time with our proposal, not decrease.

3369 Having said that, there will be the individual who, because of individual circumstances, is disadvantaged and this becomes the straw that in the sense breaks the metaphorical camel's back.

3370 It is beyond me how we can make telecom policy to take that into account. That becomes a matter more for income support policies that we have coming through other channels in our society. We simply cannot make policy so that everyone is satisfied with the result and that deals with every individual's case.

3371 That's about all I can say as a generalization. I mean our hearts as individuals go out to these people, but I'm just not sure what we can do about it in terms of telecom policy.

3372 COMMISSIONER LANGFORD: Maybe we could explore that, but first let me just ask for a couple more clarifications.

3373 MR. NICHOLSON: Sure.

3374 COMMISSIONER LANGFORD: When you talk about penetration -- and I am sure the way these terms are figured is well known to you but perhaps less well-known to others -- who isn't counted? Are the homeless counted? Who is not on? If one of these people who phones in drops off, will they be counted? How do you figure penetration levels of 99 per cent? 99 per cent of what?

3375 MR. NICHOLSON: That's a good question. It has to relate to household surveys.

3376 Bob, you know the methodology.

3377 MR. FARMER: At least some of the methodology at any rate. Peter is right. It is households that are canvassed. We rely on Statistics Canada surveys to do that. So Statistics Canada performs these surveys on at least an annual basis as we see the numbers and canvasses something like 30,000 households; not by telephone but rather by going door to door, and as part of a much larger survey checks to see if the household is, in fact, taking telephone service.

3378 There are some exceptions, and prisons I think is one and I believe what you used to be called "Indian Reservations" is another. But other than that I am not aware of any other exceptions but certainly a household has to be formed for the questions to be asked.

3379 COMMISSIONER LANGFORD: Is there a factor in anywhere in your knowledge -- you have been at this a while, you reminded us yesterday that you have been at it quite a while -- is there a factor built in for people who don't have a house, don't have a household to visit?

3380 MR. FARMER: No, not to my knowledge. It is just the percentage of households canvassed that actually do have telephone service.

3381 COMMISSIONER LANGFORD: It must clearly, I assume, be households that can get a telephone? Not Mr. -- was it Cumming from Rock Island?

3382 MR. FARMER: I don't believe so actually. I don't believe it limits itself that way. I think part of the statistic that we see here of folks without telephone service is actually -- some small portion would be those people who do not have telephone service available to them.

3383 COMMISSIONER LANGFORD: So it might actually push your almost 99 per cent figure up higher rather than if you did reduce it to those who could actually have a telephone.

3384 MR. FARMER: I suppose it would, though the numbers varies by region. But the number of folks who don't have telephone service as a proportion of the general population isn't very large. But I suppose minusculely it could.

3385 COMMISSIONER LANGFORD: Assuming I'm not going to dispute Mr. Nicholson's claim that he shouldn't be making social policy, although one can't help but think there is some scope for it in your corporation but I will let it go for a moment, from your experience in this business -- and I leave this question, unlike some of the previous questioners I don't really care which one of you answers it and you can all have a go at it if you like.

3386 MR. NICHOLSON: Thank you.

--- Laughter / Rires

3387 COMMISSIONER LANGFORD: What do people like Julianne Tibbett of Saturna Island, British Columbia do if they go off the phone? What do people do to get access to a phone if they can't afford their own? Do you have any sense of -- have you ever done studies on this sort of thing or from your own knowledge? Do you have any sense of what people do?

3388 MR. FARMER: I do have yet another statistic I can throw at you, which again comes from the surveys that I talked about earlier or at least related surveys, where folks who did not have telephone service in the home, they were also asked whether they had telephone service available to them in the case of an emergency and about 90 per cent of them said yes, they did.

3389 Now, I haven't seen any statistics which breaks it down as to well just what was that availability. But I'm assuming public payphone, a neighbour's phone and perhaps those are the only two but perhaps a phone in the office. I'm not really sure. But those would be the sorts of access vehicles for them.

3390 COMMISSIONER LANGFORD: I hope it's not the payphone under the drip line that the gentleman from Nova Scotia, Mr. Vinish, said has been taken out or there could be some trouble in that community. Thank you for that.

3391 I would like to direct this to Mr. Nicholson but again it's certainly open to any of you.

3392 Moving along to another one of your kind of basic premises here -- well there are four on the billing insert but there are three on the opening statement. But this one would certainly seem to be number one in Mr. Nicholson's heart if I'm weighing it correctly.

3393 The real estate sales people like to say all that matters is location, location, location. As I listened to your earlier statements, Mr. Nicholson, and I say this in a totally objective and uncritical way: investment, investment, investment seemed to be the mantra.

3394 MR. NICHOLSON: Yes. Yes. That is a fair characterization.

3395 COMMISSIONER LANGFORD: It confused me on one level because if I read your submission, the Bell submission or the BCE submission, we are asked in a number of places to not look at earnings and to look exclusively at cost. But if we are trying to, at your request, put you in a situation where people will want to invest, surely we have to have some sense of your earnings.

3396 So how do we play this game? How do we not look at earnings when it comes to how much we are telling subscribers they have to pay, but we do look at earnings when we are worried about investment, investment, investment. Can you help me on that?

3397 MR. NICHOLSON: Well, obviously there is a balance among these objectives. Clearly that is the case and we are proceeding from a base of some knowledge as to what the current regime has delivered. I think when we consider, not in time for this Panel, but in the cross-examination to come, some of the other proposals that are being made to fairly dramatically change the cost structure facing the competitors who would use our services, for instance, then I think you can start to think hard about how that would affect investment incentives.

3398 The other point we have made is that it's part of this balance as long as the affordability constraint is met. We are reasonably confident that we can deliver a fair service to Canadians which at the same time will permit us to take our chances in attracting investment and we have designed our proposal with that in mind.

3399 I mean some of the risk in this is what I'm saying has to rest with us. We are not guaranteed anything here and we are not asking for any guarantees so there is some risk.

3400 COMMISSIONER LANGFORD: But at least two of yesterday's phone in -- one was phone in for sure, I can't remember whether the other was an appearance.

3401 MR. NICHOLSON: Right.

3402 COMMISSIONER LANGFORD: But Mr. Harold Dyck from Winnipeg who was a volunteer in that community and John MacDonell from Nova Scotia who I think was the MP from Nova Scotia who came here in person, both pointed to the high, what they saw, what they characterized as high earnings, far higher than the 11 per cent pre-price cap norm.

3403 MR. NICHOLSON: Norm.

3404 COMMISSIONER LANGFORD: They looked at that and then they looked at people on fixed income and I'm sure would have disputed, had they been here, your statement that, you know, as long as your prices don't rise above the cost of living everybody will be all right. But of course if you are on a fixed income that isn't rising at all, that might not apply.

3405 MR. NICHOLSON: Yes.

3406 COMMISSIONER LANGFORD: So how would you instruct us and them to look at the questions of incumbent earnings, which I think are averaging over 15 per cent, and what you term as affordability based on cost of living?

3407 MR. NICHOLSON: Well, I think looking at the earnings record for the first three years of the price cap period -- we have that on the record -- I think that the outlook this year in the case of Bell is for something less than 15 per cent -- there are reasons, and we haven't had a chance really to talk about this, why those earnings were trending upward over the last three or four years.

3408 Perhaps I should just say a word or two about that.

3409 There is no question that the incentive provided by the price caps mechanism worked in terms of what we were able to do with our costs. If I could put it metaphorically, there was some low hanging fruit that we were able to pick in these first three or four years. That gets to be harder to continue to deliver on. It has also been a period of extraordinary economic buoyancy where we had good growth in our basic line service.

3410 It's also the case that once you are no longer on a regulated return basis you do have inherently higher risk in your business so your cost of capital is going to rise as a result of that.

3411 The final factor that is really probably going to change things significantly, more so for some companies than for others going forward, are the consequences of the decisions in 2001 with respect to the contribution, with respect to the switching and aggregation costs, the loop costs to a lesser degree.

3412 So I guess I wouldn't -- from our perspective I would have to say that these returns not only have not really been excessive over the past three or four years. Certainly as one looks forward there is no guarantee that they are going to continue. In fact, one could make an argument that they are more likely biased down from those levels.

3413 But admittedly that is from our perception and we are people who deal in some of the esoteric aspects of analyzing investment behaviour and where earnings are likely to go and I wouldn't expect an ordinary ratepayer to have that same view.

3414 I can only reiterate what I said a moment ago, that it probably has to fall to some other components of the social policy framework, the social safety net to catch those few individuals in percentage terms, perhaps still large numbers absolutely, who, notwithstanding a quintile analysis of affordability and what have you, still find their personal circumstances very straitened. But we have other safety net procedures in this country to look after that.

3415 Just as we have other policies to look after that, I think in this case there is an obligation to be concerned about the investment future of this industry, which is a critical one for the country, and that is a responsibility that rests in large part with this Commission.

3416 COMMISSIONER LANGFORD: I mean is it good enough do you think? If the answer is yes, that is fine. We are just building a record here together. But is it good enough to say that none of it falls in your lap, none of the social responsibility?

3417 I mean surely one could make an argument that perhaps you could make payphones available in certain areas for certain rates. In your own submission you have put forward a two-rate system.

3418 I must tell you I see it as somewhat Dickensian that some have to go outside and some are allowed to stay inside, but we will save that for a later panel. I am just giving you a suggestion of where I might be coming from on that one.

3419 But there may be -- I call it privately the Oliver Twist submission, but anyway we shall see.

3420 MR. NICHOLSON: Yes.

3421 COMMISSIONER LANGFORD: Is there nothing you can do? Do you never turn your minds to this sort of thing?

3422 MR. NICHOLSON: No, we do. I mean we live in this society as individuals, of course, and ultimately human beings do manage companies believe it or not. We do think about it.

3423 We begin with a universal service obligation which is an element of social policy and it is one that we have accepted. There are a number of services that are tremendous that I suppose are more essential than others, like 9-1-1 -- and, Bob, you would know a number of the others where the rates remain frozen and we have not disputed that.

3424 We certainly have put forward in this proposal a continuation of service improvement for rural areas.

3425 So there are a number of dimensions where we feel a certain degree of obligation that goes beyond what may be required.

3426 There is some institutional responsibility that I sense sitting in the councils of this company. It is not often that you hear somebody in business say that, but I think if you sit around the table where decisions are made some of these issues are taken into account.

3427 We obviously operate under some pretty severe constraints and Mr. Talbot is more than familiar with what those are.

3428 We have an obligation to our shareholders. We are the most -- speaking now of B.C. -- the most widely held company, I think, in Canada. And it is not only the individual shareholders, but the fact is that B.C. has a core holding in virtually every mutual fund and pension plan in this country. So directly or indirectly the great majority of working Canadians are shareholders of the company. That is also a social obligation. That happens to be the one that we are perhaps better equipped to deliver on.

3429 COMMISSIONER LANGFORD: Yet in harkening back to some of Mr. Talbot's comments on duties to shareholders and duties to other investors, duty to subscribers, the point was made and I think at least two examples were given today that some bad decisions were made, perhaps innocently, perhaps on the best information at the time, too much build out I think was one of the examples that Mr. Talbot gave, the purchase of ClearNet, I don't think he was plodding as much as he would, or the purchase in fact of Teleglobe.

3430 Who should bear the responsibility of that? The investors and the shareholders or the subscribers? If these are bad decisions and money is being lost and earnings are down, why should the subscribers come to the rescue?

3431 MR. NICHOLSON: Well, I don't think we are asking the subscribers to come to the rescue in any of those cases. We are more than prepared to have our shareholders accept the consequences of our poor decisions and regardless of whether Teleglobe or any other decision may have been good, bad or indifferent, I think out position with respect to the issues before this Commission would be exactly the same.

3432 Enough said.

3433 COMMISSIONER LANGFORD: Well, that's clear. I have one final question. It's the kind of irony that was pointed out by the Honourable Walter Noel from Newfoundland and then you yourself said that it bothered you, Mr. Nicholson, at one point.

3434 I think if I can characterize it, it was something like what is the point -- how did you put it -- what's the point of raising the rates to encourage competition so you could lower rates.

3435 MR. NICHOLSON: Yes.

3436 COMMISSIONER LANGFORD: Perhaps you could take me through that one more time just so I will have a sense of that philosophy.

3437 MR. NICHOLSON: Well, you have to start somewhere. I think competition has developed its own dynamic once it's set in motion because it is going to evolve depending on advances in technology and learning about the market, learning to be an effective competitor.

3438 The analogy I think I made yesterday was the difference between starting friction and rolling friction, that you have got a boulder to move in many cases to get established. Then once it starts to roll, things happen.

3439 I think we have already seen that in the business market. I mean entry was attracted, but in those areas where the margins were high. Once that entry was attracted, the margins then began to contract.

3440 Clearly the competition went first and got itself established where there was an attractive margin. You have got to get things started. Our view, I think the way we put it repeatedly, is that to force prices down deliberately, in some cases significantly, is certainly going to make it much less likely that that competitive dynamic will start.

3441 It is very, very much a dynamic process. That is the way that you resolve this apparent paradox that you raise prices in order to lower them. You have to get the dynamic process going and that needs a certain amount of priming.

3442 COMMISSIONER LANGFORD: And yet on one of the exhibits, and I suppose I should have pulled it, I believe though that it was, interestingly enough, numbered 13, there was a list of a number of companies that had tried to get the dynamic going.

3443 MR. NICHOLSON: Yes.

3444 COMMISSIONER LANGFORD: Their dynamic is now gone.

3445 MR. NICHOLSON: Right.

3446 COMMISSIONER LANGFORD: So how high do we have to go to ensure that we don't have that kind of body count?

3447 MR. NICHOLSON: That's a very good question and that's an extremely important point that we haven't made enough of.

3448 There are going to be a lot of experiments in any competitive market. Some win, some lose. You inevitably begin with more trials, more business models being tried, more geographies where competition begins. Then there is a Darwinian process that winnows the competitors down, presumably not to just leave one standing but clearly leave a smaller number than you begin with.

3449 That's true in virtually every innovative market you can think of. One that we like to talk about is what happened to railways. In the latter part of the 19th century there were dozens and dozens of railway companies and we ended up with obviously much fewer everywhere in the world, but still there was competition in railway.

3450 The same happened in the automobile industry. There were literally hundreds of auto companies at the turn of the century. Now we have a much smaller number, but there still is very vigorous competition.

3451 We said that. We often make that point when people look at all the failures in the dot com world to bring it closer to home. That is not proof at all that competition has failed or that the Internet isn't going to be important. It's just part of the inevitable process of sifting out the better approaches from the less good approaches.

3452 I think what's significant, a point that I tried to make earlier and I will reiterate it, is that most of the customers of these failed CLECs have ended up with other CLECs rather than with the -- and the assets as well rather than with the incumbents.

3453 COMMISSIONER LANGFORD: There aren't many left and Mr. Talbot certainly I didn't think painted a very optimistic picture of where they stand at the moment.

3454 MR. NICHOLSON: There are, but you don't need a large number of competitors to make a market very competitive. We have four competitors in the wireless business and it's an intensely competitive market.

3455 Let me take another example. In Quebec we are competing against Videotron and in Ontario against Rogers in the high-speed access market. In each case it's what might be called a duopoly and yet it is intensely competitive, which has been shown by prices that are virtually the lowest in the world and yet both of us are rolling out investment at a pretty furious rate.

3456 In fact, you can get more effective competition with a smaller number of competitors than with a larger number frequently.

3457 Richard, do you want to --

3458 MR. TALBOT: I think I would like to echo -- in fact I couldn't say it any better than Peter has, but I think one point that you find from the capital markets is that where you do have some consolidation, some concentration that in fact you will end up with a stronger business case that investors will be willing to support as opposed to an industry that may be fragmented where you will have marginal players and that obviously raises the investment risk.

3459 Clearly, having that capital mass is very important I think in terms of galvanizing investors to pick from one perhaps or the other. That then I think enhances The Companies' chances of raising capital, long term capital, to provide that sort of bedrock competitive dynamic as opposed to plans which have evolved, perhaps overnight and perhaps may dissolve overnight as well.

3460 COMMISSIONER LANGFORD: And do you see this dynamic being reasonably alive and well five years down the road?

3461 MR. TALBOT: I have been asked that question actually in the last two weeks by investors who have gone through the ups and downs of the last couple of years. Frankly, I do.

3462 I think what we will end up with are fewer but larger operators and I think you will have a more sustainable competitive environment.

3463 COMMISSIONER LANGFORD: Those are my questions, Mr. Chairman.

3464 Thank you very much.

3465 THE CHAIRPERSON: Thank you, Commissioner Langford.

3466 Commissioner Cram.

3467 COMMISSIONER CRAM: Thank you.

3468 Gentlemen, I have only a few questions. The first one was about your competitive test, not the forbearance but the competitive test. You answered one of CallNet's questions at 601 saying that if the competitive test cannot be -- it can be shown that the competitive criteria don't apply, that market would be subject again to the constraints. It's 601 of CallNet's questions.

3469 I guess my question there is, does that then mean that you would have to annually report on your share of the market even though that's the competitive area that we leave the upward constraints go?

3470 MR. FARMER: No. I don't think it would be a question of annually filing. What we were really saying here was that if we were going to propose a price increase, which presumably would be the issue of concern, then we would have to show that the test continues to emit.

3471 COMMISSIONER CRAM: Thanks. I wanted to then go into the rock, the boulder, again just to see if I understand this correctly. I will be talking about primarily residential, local, non-high cost serving areas. Until I say I won't be, that's what I will be talking about.

3472 I heard you say, Mr. Farmer, don't force the prices down. That therefore means to me notwithstanding that the costs would be going down.

3473 MR. FARMER: That's correct.

3474 COMMISSIONER CRAM: And it isn't, keep it at a status quo to allow you the inflationary increases each and every year. If I then understand you, Mr. Nicholson, it is so competitors will see margins there and will essentially get involved in the market.

3475 If I understand that correctly, they would also, essentially because the business model you think is the correct one and we have so far, is facilities based, then if the margins are there they would build the facilities. Is that the context?

3476 MR. NICHOLSON: Yes, or in the case if we are thinking residential, because I think that's a good place to focus. They may already have, substantially, the facilities, certainly in the case of the cable industry and that's what makes cable such a viable competitor I think in the residential market.

3477 Now, they have to do more in order to convert that existing infrastructure into something that will be a primary voice service the people will buy in preference to the telephone companies, but, and I keep coming back to the EastLink example and it's a good one because this is not just a technology trial or a market trial, this is a roll-out where thousands of people are actually taking the service and not taking the phone company's service, so we have a real live example that it's possible, but it does require investment, it does require an incentive and a perception that the margin is going to be there.

3478 COMMISSIONER CRAM: Yes. I guess that's where I am getting into the dichotomy that I can't understand very well.

3479 MR. NICHOLSON: Right.

3480 COMMISSIONER CRAM: It's on the one hand, we could either, if we went with this, have new entrants going into the market, maybe building facilities and then you could drop your prices and we have stranded capital by the new entrants.

3481 MR. NICHOLSON: Yes.

3482 COMMISSIONER CRAM: And the risks -- you were talking about taking risks with price cap. I think the risks of a new entrant would be tremendous. But on the other hand, the silver bullets that you talk about, to me, the infrastructure is all there and almost all of it or the infrastructure will be there for another sector of the industry.

3483 Like when you talk about EastLink, the majority of their infrastructure is there. The marginal costs are minimal. So the business case is there at the present rates that are being charged.

3484 I guess my point is then why do we need to raise rates when the marginal costs of these technologies, these silver bullets that you are talking about, voice over, IP and the EastLink concept, the marginal costs appear to be minimal in relation to residential --

3485 MR. NICHOLSON: Well, I'm not sure that it is. I mean we don't know that yet. If it really were that attractive, then I think we would see it much more widespread much quicker. But if in fact that is the case, it won't take long before you will see the price starting to drop in a competitive market, which we saw in the case of business services in the central urban areas. I think that's a very instructive example.

3486 The wonderful thing about markets is that they make the calculation that, with all due respect, neither company officials nor regulators are able to make. We simply can't know enough. What we can try and do is tweak the system until you start to see it responding the way you want to and then the dynamic takes over.

3487 It's a dynamic based on more than just price too. I mean there are other advantages to this kind of competition. You don't always require -- well, it would always result in dramatic price reduction. You just make it a lot more innovative, a lot more service quality choice and what have you.

3488 I think we need to depend on market mechanisms to make that calculation. Until such time as we see the entry, there is at least a prima facia case that we haven't quite got the incentive there to get it started yet. The boulder still needs a little more push before it can start to roll.

3489 COMMISSIONER CRAM: If we authorized more than inflationary increases, would that be better? Would the boulder move faster?

3490 MR. NICHOLSON: Yes. If this were your sole objective, it would. We have accepted the notion that there is a balance here, a triangular balance. I discussed that yesterday.

3491 COMMISSIONER CRAM: Because I understood from Mr. Farmer that the objective really isn't -- the objective isn't reducing prices. If we left prices at the same, that wouldn't harm your objectives.

3492 MR. NICHOLSON: Well, I mean -- I guess we have said this. One could have different measures of this, but we have adopted the common -- the constraint of no real increase overall. In fact, that's a constraint that is in the existing price caps formula, so it was an extension of that.

3493 It allows a little bit of upward movement in nominal terms which we thought was well within the bounds of affordability, but still increased the incentive a little bit for competition that we feel is potentially there but is still not materialized to the degree we think will be possible. It's a judgment call.

3494 COMMISSIONER CRAM: Do you think in the long run though we don't run into the problem of stranded costs again, in the sense that we have your prices -- not your costs but your prices keep going up and we end up with somebody, even in some of these new technologies areas, overinvesting capital because the margins are good then but they won't be later.

3495 MR. NICHOLSON: Right, right.

3496 COMMISSIONER CRAM: Isn't that an uneconomic model?

3497 MR. NICHOLSON: It's possible. I know what you are saying. I don't think from a practical view there is a whole lot of risk of that right now given the conditions of the market that Richard has described.

3498 It is also the case, and it comes back to a point that I made yesterday, that the incumbent players perform a calculation that trades off market share against the cost to their revenue of down-pricing a market.

3499 We were quite reluctant to follow the market down in long distance competition. It wasn't until the market share began to leak away at an alarming rate that we were prepared to bring the prices down. The reason for that is just simple arithmetic.

3500 The incumbent has a huge base against which any down-pricing is multiplied. The new competitor has a very small base. Usually the incumbent will allow that competitor a price umbrella for a period of time. It's just the logic of revenue maximization.

3501 I think the practical -- well, again we look at what's happened in the business market. There has been down-pricing, but the competitors actually have increased their share.

3502 COMMISSIONER CRAM: Thank you.

3503 THE CHAIRPERSON: Thank you, Commissioner Cram.

3504 Commissioner Williams.

3505 COMMISSIONER WILLIAMS: Thank you, Mr. Chairman. Good afternoon panel.

3506 I was just following this rolling boulder. I guess you are assuming a level playing field or at least one tilted in your favour in order to achieve the result you described, i.e. certainly if you are rolling this boulder uphill, the starting friction may in fact be less than the rolling friction.

3507 In your panel's evidence we have heard that local telephone service is the financial bedrock of the Canadian telephone industry. Your evidence has also suggested that the local service is very economically priced compared to world marketplaces and in fact may be provided below cost.

3508 Could you please elaborate and clarify your panel's position given that your corporate parent, BCE's profit apparently comes from its Bell Canada unit as we were shown this morning and given the highly competitive nature of the long distance and data business which would suggest slimmer margins.

3509 I am having a bit of confusion around those two conflicting statements.

3510 MR. NICHOLSON: Well, yes. I mean there is a lot in -- the Bell Canada holdings really is the unit of which the Bell utility segment is a portion. It's an important portion, but there is a big competitive segment there. There is also wireless service, there is the directory service, et cetera.

3511 The fact is that notwithstanding the pressure, for instance, in the long distance market which has actually seen our revenue dropping absolutely both as a result of market share but particularly the downward pressure on average prices per minute. Notwithstanding that, we have been able to maintain or even increase some margins in that segment of the business as a result of cost efficiencies.

3512 There has been an enormous amount of progress in the company on lowering costs and, you know, whether we are going to be able to continue that trend in the future, time will tell. It gets to be tougher and tougher obviously.

3513 Fortunately, the rate of price decline in long distance has flattened out a little bit, but there is a lot more to the income generated by Bell than just the utility segment. I think that's really the point I was trying to make.

3514 COMMISSIONER WILLIAMS: All right. Thank you. I have no further questions.

3515 THE CHAIRPERSON: Thank you.

3516 Well, I think those are all our questions for this panel. I thank you very much, gentlemen, and your back-up team. You may step down. I understand Mr. Farmer is coming back, so we will consider that you continue to be sworn in.

3517 That will conclude our work for the day. I don't think we will bother getting on to the Bell or The Companies panel No. 2 today.

3518 I had instructed Messrs. Henry and Lowe to respond to the issue that in fact Mr. Lowe raised yesterday, followed by Mr. Henry, so could we have your response now, please.

3519 MR. LOWE: Thank you, Mr. Chairman.

3520 As I said yesterday, TELUS would have approached the case differently if the ruling in 618 was imbedded in the public notice, so we heard your direction and we looked at whether we could put together that kind of framework evidence that, you know, would have responded to those issues in 618.

3521 We have concluded that the short answer is no, we won't be trying to file that evidence in this proceeding. We don't think that it is feasible to do it. The short answer is we are just not going to be filing it, so I will leave it at that and stand by the comments that I made yesterday, sir.

3522 MR. HENRY: Our answer is essentially the same. Let me expand on the reasons.

3523 We reviewed again very carefully your public notice and your ruling of last Friday and, indeed, your remarks of yesterday. We are satisfied that it is now clear that the definition of essential services in the current classification of certain services as essential is not under consideration in this proceeding.

3524 If, of course, it were then not only would we have to file evidence, but as Mr. Koch mentioned yesterday, others would have to file evidence. I have no doubt that the Commission may have had further scenarios to ask in the interrogs and so on. I think that would be quite disruptive of the whole process we are in.

3525 On balance, we are satisfied that you are not considering these types of changes in this proceeding. Of course, should your ultimate decision do that or do something like that or something that amounts to in effect changing the classification or definition of essential services or make any other fundamental change to decision No. 987-8 then we of course would have a recourse at that time.

3526 We are satisfied that we can proceed with this hearing on the basis of the record as it stands and on the basis of our understanding of those rulings, so we won't be filing any further evidence.

3527 THE CHAIRPERSON: Thank you, Mr. Henry.

3528 Mr. Lowe, when you say you are standing by your position of yesterday, it's perhaps not as clear to me as Mr. Henry's comment just was, that you are satisfied that we are not indeed changing the definitions that we had for essential or indeed near-essential services yesterday, but pricing issues are squarely on the table in this proceeding as we have indicated in the original public notice and subsequent clarifications.

3529 It's not quite clear to me what you mean by standing by your position yesterday. Could you be more specific on that?

3530 MR. LOWE: What I meant was we are going to participate in the proceeding and we will respond to the 4200 interrogatory. I suppose that we are saying that we are going to participate on a without prejudice basis.

3531 If Mr. Henry is correct and there is no change to -- fundamental change to the local competition framework, then, you know, we will look at that. At the same time we look at interrogatory 4200 and it does seem to throw out the possibility of discounts which we think is antithetical to what was decided in the local competition decision.

3532 All we are saying is that the public notice didn't have anything like 4200 imbedded in it. It didn't seem to have anything like 618 imbedded in it, so we are going to proceed with the record the way it is, but we are not signing off on the process right now.

3533 I'm not sure that's helpful, but I don't know if I can add anything more.

3534 THE CHAIRPERSON: Well, I guess it's open to you to address some of these issues later on in the proceeding. I don't know how much more clear we can be in terms of your concern about the local competition decision.

3535 I guess in that respect I would encourage you to take a look at where the various definitions were indeed struck and the pricing flexibility was struck in the two decisions we rendered in 1997.

3536 Counsel.

3537 MS MOORE: Thank you, Mr. Chairman.

3538 Mr. Lowe, I just wish to clarify. You stated that it is not feasible, you have determined that it is not feasible to call more evidence, but your remarks suggest that in your view more evidence is required to be called.

3539 I would just wish to draw to your attention that it is of course possible for you to file evidence that would come into the Commission after the oral phase. The Commission can look at that evidence and determine what further procedures would be put in place to ensure fairness for all parties. For example, a further round of interrogatories and possibly a further oral phase.

3540 I wish you to be very clear when you raise a concern about process, whether you are waiving your right to file further evidence on this matter at this time or that you have acknowledged that that is open to you.

3541 MR. LOWE: Well, I hear what you are saying. I could take the position that we are saying now that we are not going to file any more evidence because we don't really think that is feasible to continue with the course of this proceeding.

3542 That is what we thought the nature of the undertaking was, do you intend to file evidence within the framework of this proceeding. To tell you the truth, we didn't consider the possibility of filing evidence, you know, a few months from now and then reconvening the hearing or anything like that.

3543 If you want, I can take that away. I just didn't think that was in the contemplation of what we were looking at.

3544 MS MOORE: I think that what we were looking for in your undertaking was an estimate of a reasonable time period that it would take for you to put together evidence to address this matter.

3545 It is always open to you to indicate to the Commission that you feel that you require further evidence to be filed and the Commission will take that under advisement and consider what further process might need to be put in place.

3546 Mr. Chairman, I would ask Mr. Lowe to undertake to provide the Commission with an estimate of what time frame would be required to put whatever evidence it is that he is concerned about so that the Commission can then determine an appropriate course.

3547 I would ask him to undertake to provide that information by tomorrow at lunch-time.

3548 THE CHAIRPERSON: Well, in fact that's what we were hoping for today.

3549 MR. LOWE: Sure. Well, I don't think that my answer is going to change. I don't think that we are -- we just don't think it's feasible to file new evidence. At the same time we didn't think that it was open to delay the proceeding further or call evidence after the evidentiary portion was concluded.

3550 I will get back to you further on that by noon tomorrow or perhaps first thing in the morning.

3551 THE CHAIRPERSON: Mr. Koch.

3552 MR. KOCH: I have what I hope will be a very simple question to answer. I am just seeking some clarification as to when TELUS will file an answer to 4200.

3553 MR. LOWE: We are hoping to file that before the proceeding commences next week.

3554 THE CHAIRPERSON: Before the TELUS panel appears. Does that answer your question, Mr. Koch?

3555 MR. KOCH: It does. Thank you.

3556 THE CHAIRPERSON: Anybody else? Okay.

3557 Thank you. That concludes our work for today. We will see you tomorrow at nine o'clock.

--- Whereupon the hearing adjourned at 1700, to resume

on Wednesday, October 3, 2001 at 0900 / L'audience

est ajournée à 1700, pour reprendre le mercredi

3 octobre à 0900

Date de modification :

2001-10-02