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ALJ/MCK/MOD-POD/hl2 Mailed 6/30/2006

Decision 06-06-055 June 29, 2006

BEFORE THE PUBLIC UTILITIES COMMISSION OF THE STATE OF CALIFORNIA

Pac-West Telecomm, Inc.,

              Complainant,

vs.

AT&T Communications of California, Inc., Teleport Communications Group of San Francisco, Teleport Communications Group of Los Angeles, Teleport Communications Group of San Diego,

                  Defendants.

Case 04-10-024

(Filed October 20, 2004)

DECISION GRANTING COMPLAINT

Table of Contents

Title Page

DECISION GRANTING COMPLAINT 2

I. Procedural Background 2

II. The Parties' Positions on the Legal Issues Raised by the ISP
Remand Order 12

III. Discussion 22

IV. Assignment of Proceeding 40

V. Submission of Proceeding 40

Findings of Fact 40

Conclusions of Law 42

ORDER 44

DECISION GRANTING COMPLAINT

This decision grants the complaint of Pac-West Telecomm, Inc. (Pac-West) and awards it $7.115 million in unpaid tariff charges owed by defendant AT&T Communications of California, Inc. (AT&T). 1 However, we hold that AT&T is not liable for interest or late payment charges on these unpaid tariff amounts.

I. Procedural Background

The complaint in this case alleged that AT&T and its three subsidiaries had refused to pay Pac-West the charges due for calls AT&T originates for its local exchange customers and routes to Pac-West through the tandem switches of the two principal California incumbent local exchange carriers (ILECs), Pacific Bell Telephone Company (Pacific)2 and Verizon California Inc. (Verizon).

The complaint noted that while Pac-West and AT&T each have interconnection agreements with Pacific and Verizon, they do not have an interconnection agreement with each other.  In the absence of such an agreement, Pac-West contended that it was entitled to the termination charges set forth in its intrastate tariffs for traffic that originates with AT&T customers and is transmitted to Pac-West by the two ILECs.  Pac-West alleged that AT&T has refused to pay any of the statements Pac-West has rendered for these charges, which now total over $7 million.3 As relief, Pac-West asked not only that AT&T be ordered to pay all the charges for which it had been invoiced, but also to pay all future charges based on Pac-West's intrastate tariffs "unless and until the AT&T Companies enter into a direct interconnection agreement with Pac-West."

In its answer, AT&T contended that no charges were due. Since the overwhelming majority of the traffic that the two ILECs transmit for AT&T to Pac-West was ultimately bound for Internet service providers (ISPs), AT&T argued, this case should be governed by the so-called "ISP Remand Order" issued by the Federal Communications Commission (FCC) in April 2001.4 In the ISP Remand Order, the FCC concluded that because of the regulatory arbitrage that had resulted from certain competitive local exchange carriers (CLECs) targeting ISPs as their customers (thus entitling these CLECs to substantial amounts of reciprocal compensation),5 the FCC should use its authority to preempt this area and require the affected carriers to make a
three-year transition to a "bill and keep" compensation system,6 rather than allow the CLECs to continue reaping windfalls from the payment of reciprocal compensation.7

In its answer, AT&T placed particular reliance on ¶ 81 of the ISP Remand Order, which states that for carriers not having an interconnection agreement in effect on the issuance date of the ISP Remand Order (as AT&T and Pac-West did not), ISP-bound traffic must be exchanged on a bill-and-keep basis.8  AT&T concluded that since the ISP Remand Order preempted state law in this area (including any charges in intrastate tariffs), and since AT&T had met its obligation to exchange traffic on a bill-and-keep basis, it owed Pac-West nothing.  AT&T also contended that as a CLEC rather than an ILEC, it had no obligation under the Telecommunications Act of 1996 to enter into an interconnection agreement with Pac-West.  Thus, AT&T contended, the Commission should dismiss the complaint.

A. The Prehearing Conference (PHC) and Scoping Memo

Shortly before the PHC scheduled for January 7, 2005, both parties submitted statements on the issues to be addressed at the PHC.  In its statement, after summarizing the pleadings, Pac-West stated that the parties "do not fundamentally disagree over the legal issues that give rise to the dispute," and proposed that the Commission should have a two-phase proceeding, with the first phase devoted to the question of "whether the law requires AT&T to compensate Pac-West and the structure of that compensation mechanism," and the second phase devoted to an investigation of "the facts underlying the amounts allegedly due." 

Pac-West also proposed that the parties should exchange opening briefs on February 18 and reply briefs on March 11, 2005.  This schedule, Pac-West asserted, would "allow[] the Commission ample time to issue a decision and conduct any subsequent proceedings, should they be necessary," within the
12-month period for resolving adjudication matters set forth in Pub. Util. Code § 1701.2(d).

In its statement, AT&T agreed that the case presented threshold legal issues as to the scope and effect of the ISP Remand Order, and asserted that the parties' contentions could be set forth in "briefs that can be characterized as briefs on cross-motions for summary judgment."  (AT&T PHC Statement, p. 2.)  Although differing somewhat with Pac-West in its formulation of the issues to be briefed, AT&T endorsed the briefing deadlines proposed by Pac-West.  AT&T also agreed with Pac-West that if a decision in Pac-West's favor was issued on the threshold legal questions, then a second phase of the proceeding -- with adequate time for discovery -- should be held to determine the amount of compensation due to Pac-West.

At the PHC, the Administrative Law Judge (ALJ) agreed that the parties' proposal for briefs on the threshold legal issues was a good one, although he altered the proposed due dates somewhat.  The ALJ noted, however, that because of the 12-month period set forth in Pub. Util. Code § 1701.2(d), it would not be feasible to have a two-phase proceeding. Instead, the ALJ stated that at the same time the parties were drafting briefs on the legal issues raised by the ISP Remand Order, they would be required to submit testimony on the amount of compensation that should be paid to Pac-West in the event it prevailed on its liability theory.

Pac-West's and AT&T's counsel replied that while it would be feasible to submit testimony in this fashion, it was likely that even if their clients could agree on the number of traffic minutes at issue, Pac-West and AT&T would probably be submitting a menu of possible compensation awards in their testimony. Such a menu would be necessary, the parties emphasized, because of their significant differences over which rates should apply to the minutes at issue, as well as to their differences concerning the limitations period that applied to Pac-West's claims.9

Following the discussion at the PHC, the Assigned Commissioner and assigned ALJ issued a scoping memo on February 14, 2005. The scoping memo directed that opening briefs on legal issues should be filed on February 11, 2005, with reply briefs due a month later, on March 11. February 25, 2005 was established as the due date for testimony on the compensation that would be owed in the event Pac-West prevailed on liability,10 and hearings on the compensation issues were scheduled for April 12-15, 2005. In addition to these dates, the scoping memo set forth the issues to be decided as follows:

1.  "Does ¶ 81 of the ISP Remand Order control here, so that AT&T is not obliged to compensate Pac-West for ISP-bound traffic originating with AT&T local exchange customers and terminated by Pac-West, but rather is required only to exchange such traffic with Pac-West on a bill-and-keep basis?

2.  "Under federal law, does ¶ 81 of the ISP Remand Order not apply to the situation here, in which two CLECs that indirectly exchange ISP-bound traffic have not entered into an interconnection agreement, but rather exchange the traffic pursuant to transit arrangements with an ILEC that has entered into separate interconnection agreements with each of them?

3.  "In the event the answer to Question 2 is that ¶ 81 of the ISP Remand Order does not control here, does the ISP Remand Order nonetheless preempt state regulation of the kind of traffic exchanges described in Question 2?  If so, what compensation, if any, is required to be paid to the CLEC that terminates the ISP-bound traffic?

4.  "If the ISP Remand Order does not preempt state regulation of the situation described in Question 2, what compensation, if any, does Commission precedent require to be paid to the CLEC that terminates the ISP-bound traffic?" 

B. The Motion to Strike Portions of Pac-West's Compensation Testimony

In accordance with the schedule set forth in the Scoping Memo, the parties filed their opening and reply briefs on legal issues on February 11 and March 11, 2005, and Pac-West served testimony on the compensation issues on March 7.

AT&T did not serve any compensation testimony on the due date. Instead, on March 11, 2005, it filed a motion seeking to strike portions of the compensation testimony submitted by Pac-West witnesses John Sumpter and Barry Lear. In Sumpter's case, AT&T contended that the testimony was really legal argument and, in Lear's case, AT&T argued that he was trying to introduce evidence about AT&T's billing for access charges, an issue not included in the Scoping Memo. As an alternative to striking the testimony, AT&T sought leave to serve rebuttal testimony making two points: (1) that the material AT&T had provided in discovery was sufficient to establish the 3-to-1 traffic ratio referenced in the ISP Remand Order, and (2) that the bills cited by Pac-West represented claims for intercarrier access charges rather than reciprocal compensation.

Pursuant to an e-mail ruling by the ALJ, Pac-West filed a reply to AT&T's motion on March 18, 2005. In its reply, Pac-West argued that (1) the material in Sumpter's testimony challenged by AT&T was well within the limits of permissible policy testimony accepted at the Commission, and (2) the challenged material in Lear's testimony did not introduce a new issue, but simply sought to establish that AT&T's own billing practices were inconsistent with its position in this case.

On March 25, 2005, the ALJ denied the motion to strike without prejudice, and permitted AT&T to file limited rebuttal testimony by April 1, 2005. If Pac-West concluded that it needed discovery with respect to the rebuttal testimony, it was instructed to advise the ALJ of this fact by April 5, so that the hearings could be postponed until May 2, 2005 and Pac-West could be permitted to conduct necessary discovery.

Pursuant to the ALJ ruling, AT&T's limited rebuttal testimony was served on April 1, 2005. Pac-West did not request a delay in the compensation hearings to pursue discovery, so the hearings went ahead as scheduled on
April 12-13, 2005. Following the hearings, both Pac-West and AT&T submitted opening briefs on the compensation issues on May 11, 2005, and reply briefs on June 1, 2005.

C. The Presiding Officer's Decision and Appeals Thereof

A Presiding Officer's Decision (POD) ruling in favor of Pac-West was mailed to the parties on September 19, 2005. On October 6, 2005, the Commission issued D.05-10-012, which extended -- pursuant to Pub. Util. Code § 1701.2(d) -- the 12-month deadline applicable to this proceeding.

On October 19, 2005, both AT&T and Pac-West filed timely appeals of the POD. On November 3, 2005, both AT&T and Pac-West filed a response to the appeal of the other. To the extent we consider it necessary, we address the arguments raised in the appeals of the POD at appropriate points in the text of this decision.

1 As used in this decision, "AT&T" also refers to three additional defendants that are subsidiaries of AT&T Communications of California, Inc. The three subsidiaries are Teleport Communications Group of San Francisco (T-SF), Teleport Communications Group of Los Angeles (T-LA), and Teleport Communications Group of San Diego
(T-SD). AT&T Corp., a New York corporation that is the parent of AT&T Communications of California, Inc., obtained control of these three companies in 1998 when it acquired their corporate parent, Teleport Communications Group, Inc. However, T-SF, T-LA and T-SD have retained their separate corporate identities, and have been operated as subsidiaries of AT&T Communications of California, Inc.

2 Pacific Bell Telephone Company now does business as SBC California, the name by which it is referred to in the complaint.

3 The complaint originally alleged that "the AT&T Companies have refused to pay over $3.5 million of applicable tariffed Pac-West charges that they have incurred." However, in an e-mail message sent to the assigned Administrative Law Judge (ALJ) on December 21, 2004, Pac-West's counsel stated that she had discovered this amount was incorrect, that errors had been made in preparing Pac-West's bills to AT&T, and that the amount that should have been billed to AT&T under Pac-West's theory of the case exceeded $6 million.

In the testimony submitted on March 7, 2005, one of Pac-West's witnesses contended that the correct amount due from AT&T, as of January 31, 2005, was $7,115,014.16. As explained infra, AT&T does not dispute that this is the proper amount if the Commission accepts Pac-West's theory of the case.

4 The technical citation for the ISP Remand Order is Order on Remand and Report and Order, CC Docket Nos. 96-98 and 99-68 (FCC 01-131), released April 27, 2001, 16 FCC Rcd 9151. In its pleadings, AT&T acknowledged that the United States Court of Appeals for the District of Columbia Circuit subsequently found that the statutory provision relied on by the FCC did not support the ISP Remand Order. However, AT&T noted, the D.C. Circuit remanded the order to the FCC for further consideration without vacating it. Worldcom, Inc. v. FCC, 288 F.3d 429, 434 (D.C. Cir 2002), cert. denied sub nom. Core Communications, Inc. v. FCC, 538 U.S. 1012 (2003). As a result of this unusual procedural posture, other courts (including the Ninth Circuit) have noted that the provisions of the ISP Remand Order remain in effect despite the D.C. Circuit's conclusions about the deficiencies in its statutory analysis.  See, e.g., Pacific Bell v.
Pac-West Telecomm, Inc., 325 F.3d 1114, 1122-23 (9th Cir. 2003). In this decision, the ISP Remand Order is sometimes referred to simply as the "Remand Order."

5 Under § 251(b)(5) of the Telecommunications Act of 1996, each local exchange carrier has a "duty to establish reciprocal compensation arrangements for the transport and termination of telecommunications."  In Wisconsin Bell, Inc. v. Bie, 216 F. Supp.2d 873 (W.D.Wisc. 2002), the district court explained reciprocal compensation arrangements as follows:

"As new entrants and incumbents have interconnected their local exchange networks, some calls originating on one carrier's network are completed, or `terminated,' on another carrier's network.  For example, if a customer of carrier A calls a customer of carrier B, the call originates on carrier A's equipment but terminates on carrier B's equipment.  Absent a reciprocal compensation arrangement, carrier A would charge its customer for the call, but carrier B would receive no compensation for the use of its equipment in terminating the call.  In a reciprocal compensation regime, carrier A pays carrier B on a per minute basis for terminating the local call.  This insures that both carriers are compensated for local intercarrier calls.  In contrast, under a `bill-and-keep' arrangement, each carrier recovers from its own customers the costs of terminating calls that originate with other carriers."  (216 F. Supp.2d at 875-76.) 

6 As noted in the quotation from Wisconsin Bell, Inc. v. Bie, supra, in a "bill and keep" arrangement each carrier recovers from its own customers the costs of terminating calls that originate with other carriers.  The definition of "bill and keep" that appears in footnote 6 of the ISP Remand Order is quite similar to the one in Wisconsin Bell, Inc.
v. Bie:

"'Bill and keep' refers to an arrangement in which neither of two interconnecting networks charges the other for terminating traffic that originates on the other network.  Instead, each network recovers from its own end-users the cost of both originating traffic that it delivers to the other network and terminating traffic that it receives from the other network . . .  Bill and keep does not, however, preclude intercarrier charges for transport of traffic between carriers' networks."  (16 FCC Rcd at 9153; citations omitted.)

7 In the ISP Remand Order, after noting in ¶ 20 that reciprocal compensation had grown up because of the assumption that "traffic back and forth on . . . interconnected networks would be relatively balanced," the FCC described the problem of regulatory arbitrage connected with ISPs as follows:

"Internet usage has distorted the traditional assumptions because traffic to an ISP flows exclusively in one direction, creating an opportunity for regulatory arbitrage and leading to uneconomical results.  Because traffic to ISPs flows one way, so does money in a reciprocal compensation regime.  It was not long before some LECs saw the opportunity to sign up ISPs as customers and collect, rather than pay, compensation because ISP modems do not generally call anyone in the exchange.  In some instances, this led to classic regulatory arbitrage that had two troubling effects: (1) it created incentives for inefficient entry of LECs intent on serving ISPs exclusively and not offering viable local telephone competition, as Congress had intended to facilitate with the 1996 Act; (2) the large
one-way flows of cash made it possible for LECs serving ISPs to afford to pay their own customers to use their services, potentially driving ISP rates to consumers to uneconomical levels.  These effects prompted the Commission to consider the nature of ISP-bound traffic and to examine whether there was any flexibility under the statute to modify and address the pricing mechanisms for this traffic . . ."  (ISP Remand Order ¶ 21; 16 FCC Rcd at 9162.)

To illustrate the magnitude of the arbitrage problem, ¶ 5 of the ISP Remand Order points to evidence that, on average, CLECs terminate 18 times more traffic than they originate, and that this imbalance results in "annual CLEC reciprocal compensation billings of approximately two billion dollars, ninety percent of which is for ISP-bound traffic." (16 FCC Rcd at 9154-55.)

The issue of arbitrage figures very prominently in the dispute here between Pac-West and AT&T. In one of the post-hearing briefs it submitted, Pac-West conceded that its business plan relies on targeting ISPs as customers. See, Pac-West Reply Brief on Compensation Issues, filed June 1, 2005, p. 9. Pac-West also did not dispute AT&T's assertion that Pac-West carries an estimated 20% of the dial-up Internet traffic in California. See, AT&T Opening Brief on Compensation Issues, filed May 11, 2005, p. 8.

8 ¶ 81 of the ISP Remand Order states in full:

"Finally, a different rule applies in the case where carriers are not exchanging traffic pursuant to interconnection agreements prior to adoption of this Order (where, for example, a new carrier enters the market or an existing carrier expands into a market it previously had not served). In such a case, as of the effective date of this Order, carriers shall exchange ISP-bound traffic on a bill-and-keep basis during this interim period.  We adopt this rule for several reasons.  First, our goal here is to address and curtail a pressing problem that has created opportunities for regulatory arbitrage and distorted the operation of competitive markets.  In so doing, we seek to confine these market problems to the maximum extent while seeking an appropriate long-term resolution in the proceeding initiated by the companion [notice of proposed rulemaking].  Allowing carriers in the interim to expand into new markets using the very intercarrier compensation mechanisms that have led to the existing problems would exacerbate the market problems we seek to ameliorate.  For this reason, we believe that a standstill on any expansion of the old compensation regime into new markets is the more appropriate interim answer.  Second, unlike most carriers that are presently serving ISP customers under existing interconnection agreements, carriers entering new markets to serve ISPs have not acted in reliance on reciprocal compensation revenues and thus have no need of a transition during which to make adjustments in their business plans."  (16 FCC Rcd at
9188-89; footnote omitted.)

9 For example, AT&T's counsel stated:

"I want to make sure that you understand this, that it wouldn't be just one number.  That based on the possibilities of how the legal arguments go, there could be different numbers presented to you for you to decide . . .

            *   *   *

For example - I don't know this yet because we haven't seen [support for Pac-West's] change from 3-1/2 to 6 million, but we might want to argue that some of that is barred by estoppel or statute of limitations or whatever . . ."  (PHC Transcript, pp. 12-13.)

At another point, AT&T's counsel noted that as a result of Commission decisions, special rules apply as to how long one can back-bill for various types of telecommunications charges; e.g., 90 days for residential customers and 18 months for access charges.  (Id. at 14.)

Although AT&T raised a limitations issue in its February 11 opening brief on legal questions, counsel for AT&T sent a letter to the assigned ALJ on March 18, 2005 acknowledging that his principal limitations argument was based on a case that had been subsequently overruled. In subsequent briefs, AT&T's counsel has not disputed that this case is governed by the three-year limitations period applicable to uncollected tariff charges. See, Pub. Util. Code § 737.

10 On February 17, 2005, AT&T filed a motion asking that the due date for this testimony be extended to March 7, 2005, and stating that Pac-West did not oppose this request. The ALJ granted the motion in an e-mail message the same day, and later confirmed the ruling in writing. See, Administrative Law Judge's Ruling Extending Time for Filing Testimony, issued March 7, 2005.

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