Session Transcript: Interview- Thomas J. Navin, Partner, Wiley Rein LLP and Former Chief, FCC’s Wireline Competition Bureau

Available for download here.

2009 Deal Making in the Telecom Sector Forum

Tuesday, February 10, 2009

Session Transcript:

Thomas J. Navin, Partner, Wiley Rein LLP and Former Chief, FCC’s Wireless Competition Bureau

Interviewed by: Walt Sapronov, Partner, Sapronov & Associates, P.C.

[Walt Sapronov]: Thank you, everyone. Tom Navin, former bureau chief at Wireline, has a unique prospective into regulatory developments and our focus: What regulatory developments do we anticipate in the coming administration and, specifically, how will they effect investment decisions? The much-discussed Obama stimulus package, how’s that going to effect domestic broadband investment? And I think maybe the audience would be interested in two questions: How do you get it and what strings are attached? What are some of the eligibility requirements and what are some of the conditions that may accompany getting access to some of that money?

[Thomas J. Navin]: I think that the broadband stimulus is interesting at many levels. It’s certainly a positive sign for the telecommunications space, in that the current administration recognizes that there are certain areas of the country where it’s not economic to deploy broadband and that broadband should be subsidized. In this case, they’re making the determination to subsidize broadband through specific funding provided by the Congress, rather than through the FCC’s existing mechanism known as the Universal Service Fund. I think that’s extraordinarily positive. Having struggled with these issues myself, it’s interesting to see the House version versus the Senate version basically represent the struggle that I think that they will have during their conference this week. I understand that while we were at lunch the Senate passed its version of the broadband stimulus bill on a vote of 61 to 37. The Senate bill is much broader and provides the NTIA much greater latitude for purposes of distributing the money, and  also more money. As I understand it, the Senate has included $6.65 billion for broadband grants that will be principally distributed by NTIA. On the other hand, the House version is more in the range of $2.8625 billion for NTIA and for RUS to distribute grants and loans—actually grants, principally grants. But it’s split between the two organizations. So that’s a difference between the legislation.

The Senate legislation is more restrictive in terms of eligibility versus the House legislation. The Senate bill restricts the money to either states or political subdivisions of states or organizations, non-profit organizations in partnership with states or political subdivisions of states. I think there’s been some considerable debate around the narrow scope on the Senate bill. On the other hand, the House is more open with regard to the entities that are eligible for the broadband funding. So that’s certainly an area where companies will be looking in the conference process to see how that issue gets resolved.

[Walt Sapronov]: I imagine that there is going to be some detail here that’s going to be examined very quickly. We currently already have some broadband stimulation at work—USF Programs, High Cost Program, Lifeline Support, E-Rate programs, the FCC’s ETC Carrier Status—so there is money to be had today if you’re willing to go through the procedures. How will some of the existing universal service subsidies interrelate with this new initiative? Is this all going to be one subset of the big government subsidy or are these two disparate programs? Also, on your comment that the Senate version relies on public-private partnership, I would submit to you that, at least in some states, those have been less than successful.

[Thomas J. Navin]: Both pieces of legislation require the NTIA for purposes of distributing the grants to consider whether or not the applicant is getting any other federal funding for purposes of the broadband appointment. As I mentioned earlier, I think it’s progress, and I think it’s sensible policy that they are providing the funding for the services without taxing other communication services. The existing mechanism that the FCC has creates a $7.5 billion annual fund, by taxing other communication services. So what the Congress is doing here makes more sense. They’re taking money out of general appropriations for purposes of subsidizing broadband.

One of the big differences from an investment standpoint is that fact that under the existing universal service mechanism, the high-cost funding that is available today is a current revenue stream. I think that’s very important; I would argue that the existing universal service program today dwarfs the amount of money that they’re talking about spending on broadband, because it’s $7.5 billion every year. So depending upon how you reprioritize that money, we could have a substantial revenue stream flowing into a broadband stimulus outside of the bill that the Congress is currently considering.

[Walt Sapronov]: Well, let me make sure that we all understand. Are you suggesting that perhaps USF recurring revenue stream subsidies and the Obama stimulus dole out are going to be mutually exclusive, or can I get a bit of both? Because one important point you make perhaps is that the stimulus package will pay for broadband infrastructure development. It’s not going to pay for your ongoing operational costs; it’s not going to be a source of reoccurring revenue. We heard speakers earlier talk about free cash flow and they’re looking at companies who are able to generate sufficient cash flow in order to be able to survive in these difficult times. How will those two work? Is the idea that I’m going to serve a rural area—I go with NTIA, FCC gets some stimulus money and then I look to USF to continue to support my current revenue stream?

[Thomas J. Navin]: It’s an excellent question and ultimately we won’t know until the House and the Senate work out a compromise bill and the president signs that bill. I think that both bills are flexible enough in terms of the coordination among NTIA, the FCC and RUS that will go on under either bill seems to be very flexible. The Senate bill, for example, includes a provision that allows NTIA to transfer the money, to the extent that it chooses, to RUS and/or the FCC. And the Senate bill also includes a provision that requires the FCC, in coordination with NTIA, to come up with a national broadband policy in consideration of all the goals expressed in the act as well as the stimulus money that’s being provided. So I think I would be surprised if the legislation ultimately doesn’t include a comprehensive approach to broadband that considers the fact that universal service money is being distribution out of the FCC today, some of which goes to broadband.

Now, anybody who is a FCC regulatory attorney knows that the FCC does not explicitly support broadband today. The reality is these are multiple-purpose networks to the extent that you support loop upgrades in rural areas of the country, you are effectively supporting broadband in rural areas of the country today. So there’s a recommendation, and there’s a process and procedure, for the FCC to support broadband explicitly and they have not yet finished that task. There’s been a recommendation by the Joint Federal State Board on Universal Service Issues, which recommended to the FCC that they support broadband explicitly and they create a $1 billion fund to do so. The FCC has not adopted the approach that’s been recommended by that joint board, but I think it’s a positive sign that Congress is providing additional funding for broadband.

I think it is likely that this administration, given what President Obama ran under in the campaign, will continue to focus on collecting additional information about where broadband is lacking in the United States today. I think they will also continue to push the envelope on how we define broadband. There are many provisions in the two bills that talk about speeds, and the speeds are fairly high for what they consider advanced broadband in the House version. I believe it’s 45 megabits downstream, 15 megabits upstream. In the Senate version there’s no specific definition for delineation between advanced and basic broadband as it relates to the grants. But as it relates to tax credits, the Senate version does distinguish between the two; there they consider advanced broadband to be 100 megabits down and 20 megabits up, and it’s very possible that those will be come compromise during conference. Nevertheless, I think it’s indicative of the desire for faster speeds and to push the FCC to define broadband on higher levels.

[Walt Sapronov]: Before we leave the issue of subsidies, perhaps we could talk about a related issue. The swansong of outgoing Chairman Martin’s administration was an access reform initiative that was halted in its tracks. But everybody is in agreement that inter-carrier compensation reform, access reform, universal service reform, those are all interrelated, all pieces of the same puzzle. Now when you add to the mix the implications of a stimulus package, how will all of that work, particular because it directly effects cash flow in terms of how carriers compensate one another for the traversing of traffic over one another’s networks. What do you foresee in terms of the developments in inter-carrier compensation?

[Thomas J. Navin]: Well, I think Chairman Martin’s efforts showed how difficult these issues are to resolve. To the extent that the future commission wants to solve those issues, it’s a matter of money. It’s a matter of funding and where the funding is going to come from. I don’t think that they’ll take those issues on early in their tenures because the reality is that the system of inter-carrier payments today implicitly supports broadband in rural areas. Many of the carriers have a problem with that because they’re effectively, by virtue of these payments, subsidizing broadband, and they don’t think that they should be subsidizing the broadband with the traffic flow to those carriers; rather, they should be doing that through an explicit funding mechanism. So the problem last fall that Chairman Martin ran into—I think his attempts to move the fund to a more broadband-centric fund were exactly on point. He tried to do that without additional funding. He tried to do that without compensating all of the carriers who were going to lose inter-carrier compensation payments. He did not provide them additional explicit funding from another revenue source other than their own customers. So that was a source of tension last fall, and I think that it’s partly the reason he was not able to advance his approach.

One of the things that was very sensible to me as bureau chief was the idea that we should evolve the program so that we’re not using the program to support competition in areas that can’t support a single broadband provider. That was always sensible to me. I’m not sure that you necessarily have to do that through reverse auctions, which is what Chairman Martin advocated. It seems to me that some sort of licensing approach—it could be a reverse auction approach. But some sort of approach where you allow a provider to obtain a subsidy from the government for purposes of providing X services in a given territory where the market has shown it is not likely that the population in that area is going to end up with these advanced services absent the government subsidy.

I think the size of the fund will get out of control if you try to continue to subsidize competition through the fund, whether it’s voice competition happening today or broadband competition in the future. That is an extremely difficult problem, and I think I would be surprised if they didn’t take some time to study it before they come up with a solution in the short term. Providing additional funding through the stimulus is sensible, and I’m sure they will consider all proposals to potentially expand the amount of money they collect for purposes of the four mechanisms that are supported today.

[Walt Sapronov]: Let’s go on to a related issue, networks neutrality. It’s no secret that the Obama administration has supported network neutrality as a policy. In fact, that’s a distinction to what Senator McCain’s campaign was advocating, and there’s been some talk that network neutrality might be a condition to access to some of the broadband stimulus funding. The question then becomes for investors: Is it worth it if I’m a large cable or telco company? Am I willing to accept as a condition that I open my network to all comers? We’ll set aside the question of what price in exchange for getting that stimulus money. Is it conceivable that some of the larger carriers or cable companies might say, Thanks but no thanks. Then where will that leave open network neutrality, both as a policy and as a condition for access to some of the broadband stimulus funding?

[Thomas J. Navin]: Internet neutrality is a very clever Washington slogan that has no practical application absent some further definition. As you can see the, both stimulus bills include provisions as it relates to Internet openness. But Internet openness has yet to be defined. Depending upon how you define that, you will either hear an absolute uproar—actually, you’ll hear an uproar no matter what. You’ll hear from one side or the other. I think that the debate at the FCC got somewhat confused because people started to confuse the legal issue in terms of the scope of the FCC’s authority to regulate the Internet with the administrative law issue, which isn’t a particularly exciting topic for your average American. But the administrative law issue is whether or not the FCC has rules today that are ‘Internet neutrality’ or ‘Internet openness’ rules, and I’m not making news here by suggesting that, no, the FCC does not have rules today. It has guidelines and there’s ongoing litigation about whether or not those guidelines can be enforced through an adjudicatory administrative process; that is going to be decided by the DC circuit.

The scope of the FCC’s authority that remains to be untested is a result in part of the Brand X decision. Basically, the Supreme Court agreed with the prior FCC interpretations that said that the Internet should be free from what is known as common carrier regulation. And common carrier regulation allows, to the extent that the FCC wants to exercise, the authority fairly stringent obligations with regard to how the carrier’s provision services and the prices they charge for services. And a lot of the Internet neutrality debate—it’s called Internet neutrality but really the question is how far are we going to go back to common carrier regulation? In terms of dictating the prices and practices of your cable companies, your wireless companies, your common telco companies that are spending billions of dollars to deploy these broadband networks—the question is, is the government going to come in after they’ve made these investments and tell them how they can price those networks or who they have to offer service to and where they have to offer service?

I think that will be a very contentious area. It’s best in the abstract; it sounds good. I think at one point in time, both the cable companies and the telcos were trying to make sure that their Internet networks were not regulated. They may have supported the notion of Internet neutrality to the extent that meant the government was going to stay out of the regulation of the broadband networks. But now that it means that somebody may try to take capacity at a government-regulated price on their network, it becomes a bit of a different issue.

[Walt Sapronov]: indeed, a very important one and perhaps one that will effect investment decisions as to whether or not you only can invest in unregulated industry, information service, which is how Internet access is characterized today. At the same time, under its Title I ancillary jurisdiction, the FCC perhaps finds a way to tell the provider what they’re going to do and to whom they’re going to open up that network—so maybe this type of regulation after all. Let’s pursue that same theme of openness. If you take a look at the platforms available today—we have broadband, we have cable, we have DSL—what about wireless Carterphone? What about the wireless open platform? What are your thoughts about how the FCC, or for that matter NTIA or the other policymakers, are going to pursue a wireless open platform? We saw that as part of the wireless auctions. Do you see that taking on more of a role in the coming policy debate?

[Thomas J. Navin]: I’ll start with an observation. I think that to the extent that the government or the FCC wants to go down this road, to do it in advance of the capital investment is probably a more sensible approach. I think that’s what the FCC tried to do with its 700-megahertz auction and I think it’s what Congress is trying to do, depending upon how the terms get interpreted in this legislation—trying to do with the Internet openness in the two bills that it’s considering. That is to say, if you take this grant money, here are the obligations that will apply to it, and that’s precisely what the FCC did in the 700-megahertz auction.

I understand there’s still considerable opposition to even that much government interference in the market. But it makes a lot more sense to give people notice before they participate in a government program that certain conditions are going to attach to the money or to the spectrum or whatever it is that the government’s allocating. To come in again and to do it after the fact—whether you’re doing it in a wireless area visa vie handset manufacturers and saying that AT&T, for example, cannot have a exclusive agreement with Apple, but rather that AT&T and Apple have to share that agreement with rural carriers for example—that seems to be certainly an area that this commission will study. But I think it’s problematic in terms of applying these rules after the capital allocations decisions are made.

[Walt Sapronov]: As an investor, is there anything else you’d be looking at on the horizon in the regulatory arena that would effect investment decisions?

[Thomas J. Navin]: Because of the instability in the markets generally, I think the approach that they will take is to bring additional money to the problems or the issues at the FCC, at least in the short run. So if they bring additional money to the FCC, you won’t have the types of problems that the FCC was grappling with at the end of last year—for example, where carriers were going to lose $25 million in inter-carrier compensation payments. So if they just bring additional money, particularly to the extent that it’s through general appropriations, I think that the telecom space should be fairly stable. Although it faces the same slowing phenomenon that exists in the general economy, but I don’t think it will be tremendously disruptive.

[Walt Sapronov]: Thank you all.

[Applause]

[End of Transcription]

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