XI. Comments on Revised Proposed Decision and Revised Alternate Proposed Decision

Although not required by Commission rules, the Commission mailed the Revised Alternate Proposed Decision of Commissioner Wood to allow a further round of comments. In comments, parties incorporated by reference their comments on the ALJ's revised Proposed Decision. For clarification we will discuss first the comments on the ALJ's revised Proposed Decision (RPD).

The ALJ's RPD was mailed to allow one further round of comments following changes in response to comments filed in June 2004. Comments were filed on August 25, 2004 by AT&T, CALTEL, CWA, MCI, Mpower, Navigator, ORA/TURN, PacWest, SBC-CA, and XO. Reply comments were filed September 1, 2004 by AT&T, CALTEL/Navigator, Covad, CWA, DOD/FEA, MCI, Mpower, ORA/TURN, PacWest, SBC, and XO. After review of these comments, minor corrections were incorporated into the text. Below we address only the more salient comments from this secondary comment round.

AT&T contends the unbundled transport rates in the RPD are overstated and it proposes modifications to reflect the "best available evidence" of costs for these UNEs. SBC-CA responds that AT&T's attempt to offer new unbundled transport rate calculations is procedurally improper. We agree with SBC-CA that AT&T is introducing new argument regarding how to calculate unbundled transport rates, argument that it should have provided before submission of the case. AT&T's comments in this area are ignored.

Mpower notes that on August 20, 2004, the FCC issued an interim "standstill" order in its UNE rulemaking proceeding that directs incumbent LECs such as SBC-CA to continue providing UNEs at the rates under their interconnection agreements as of June 15, 2004, except if those rates are superseded by voluntary negotiated agreements, an intervening FCC order, or a state public utility commission order raising the rates for UNEs.95 Mpower requests that before adopting any new UNE rates for voice grade and DS-1 loops, the Commission should secure assurance from the FCC that DS-1 loop rate reductions would be permitted to take effect concurrent with any basic loop increases.

We find it inconceivable that after this Commission's exhaustive review of SBC-CA's UNE prices to set cost-based and TELRIC compliant DS-1 rates, the FCC's latest order could preclude the rate in this order from taking effect. This result would, in our view, violate Section 252(d) of the Telecommunications Act requiring incumbent LECs to charge cost-based rates for UNEs, and we cannot comprehend that the FCC intended this result. We will proceed to adopt the rates set forth in this order and presume that they will take effect as consistent with the requirements of Section 252(d).

MCI, Mpower and CALTEL comment that the Commission must revise the RPD to remedy the 21% shared and common cost markup added to all SBC-CA UNE costs following the recent 9th Circuit decision finding the markup is incorrect.96 MCI suggests that the Commission note the prices adopted in this order are interim until the markup is corrected. We have modified the language in the decision to clarify that issues surrounding review of the markup will be taken up expeditiously along with issues surrounding payment of the true-up. This will allow the Commission to consider whether the net effect of UNE rate changes and markup changes ordered by the court should take effect simultaneously.

PacWest urges the Commission to refine language in the RPD regarding true-up payments. The RPD stays implementation of true-up payments pending further proceedings to review the size of any payments. According to PacWest, several CLC's, including PacWest, are entitled to refunds from SBC-CA as a result of the newly adopted UNE rates. PacWest requests the decision be modified to only stay payment of any true-up if a carrier can certify that payment would constitute a financial hardship. We decline to modify the language as PacWest requests because we prefer to assess this issue after further proceedings once the size of true-up payments are known.

CWA comments that the labor rates used in the RPD are reduced from the initial Proposed Decision and involve a significant change in direction. It is unclear why CWA believes that labor rates are reduced in the RPD. Both the initial and revised decisions used the identical input of SBC-CA's fully loaded hourly labor rate, as proposed in its models, except in the few areas where the change could not be implemented. Section V.B.2 discusses why we decline to increase labor cost estimates for work not performed by SBC-CA personnel, such as trenching. The only changes in labor costs from the proposed decision to its later revision involved changing splice crew assumptions back to one person, as supported by the record, and doubling the NID install time.

To the extent that CWA's comments regarding a "significant change in direction" are referring to the decision to drop use of the SBC-CA models, this is explained exhaustively in the text. Although this decision relies exclusively on HM 5.3 to set UNE rates, the labor inputs in HM 5.3 are the fully loaded hourly wage rates proposed by SBC-CA, wherever possible. In contrast, the labor related inputs in the SBC-CA models, such as installation times and wages, were embedded in annual cost factors and we could not decipher them to directly compare SBC-CA and HM 5.3 inputs.

SBC-CA comments that the RPD dismisses the SBC-CA models without justification and relies on vague conclusions of staff that are not based on the record. We disagree. Despite the Commission's initial attempts to use the SBC-CA models, the RPD describes in detail the Commission's findings that they failed the Commission's modeling criteria to too great an extent to justify their continued use. The experience described is not "extra record" as SBC-CA suggests because the advisory staff of the Telecommunications Division assisting the ALJ used the models as filed in this proceeding, with inputs suggested by the parties, all of which were on the record.

In addition, SBC-CA contends the RPD is "unprincipled" and based on "unsubstantiated speculation" because it glosses over the flaws in HM 5.3. Again, we disagree. The RPD is virtually identical to the initial proposed decision regarding the flaws in HM 5.3. Moreover, the flaws in HM 5.3 are not ignored, but in many areas such as clustering and customer location, the flaws are found to be no worse than flaws in the SBC-CA models.

Finally, SBC-CA contends the Commission's rejection of its models is unsupported because "not one party indicated that it was ultimately unable to manipulate the [SBC-CA] models and replicate their results." (SBC-CA, 8/25/04, p. 4.) We give SBC-CA's comment little weight since it is contradicted by testimony from several witnesses, including those already cited in Section V.D.1, as well as other document contained in the record.97

The Commission mailed Commissioner Wood's revised alternate Proposed Decision (RAPD) to allow one further round of comments following changes in response to comments. Comments were filed on September 16, 2004 by AT&T, CALTEL, COVAD, CWA, DOD/FEA, MCI, Mpower, PacWest, SBC-CA, and XO. Reply comments were filed September 20, 2004 by AT&T, MCI, PacWest, SBC-CA, and XO. After reviewing these comments we are convinced that the cost of capital in the Administrative Law Judge's RPD best reflects a forward-looking cost capital. We will cap DS-3 related rates to the levels proposed by SBC-CA. We are also convinced that a carrier constructing a new forward-looking network, would limit the length of copper loops to 12,000 feet. Below we address only the more salient comments from this secondary comment round.

AT&T, MCI, Mpower and XO comment that the 50 basis point adder to Return on Equity (ROE) used to calculate UNE rates has no evidentiary support and should be eliminated. While we believe that evidence exists in the record to support an adder for the increased risk that SBC-CA would face in a forward-looking, competitive market for UNEs, we are convinced that the record in the proceeding does not allow us to quantify the additional risk. As a result, we cannot determine how much the ROE should be increased to reflect higher risks SBC-CA would experience if it were to provide UNEs in a forward looking, competitive market. The 50 basis point adder to ROE has been eliminated from our calculation of UNE rates.

The same parties also assert that a capital structure based on 75% market value and 25% book value violates TELRIC pricing requirements of the FCC. We disagree. Our original choice to weight the capital structure more heavily with market values reflected our opinion that market values are more reflective of where capital structures area headed rather than book values. We preserved some portion of book value in the capital structure to reflect differences between SBC-CA's capital structure and its parent SBC.

However, after reviewing comments, we are persuaded that the best estimate of SBC-CA's capital structure in a forward-looking, competitive market is SBC's own target capital structure. As discussed in the RPD, a capital structure of 50% market value and 50% book value is a very close approximation of SBC's own target capital structure.

AT&T, DOD/FEA, MCI, Mpower, and XO comment that the majority of the record evidence supports adopting the FCC asset lives for use in calculating depreciation. The parties note that the RAPD logic fails because it relies on the fact that the FCC asset lives are based on 1994 data. DOD/FEA assert in their comments that the FCC used ARMIS data from 1998 when it reevaluated asset lives in 1999. While the RAPD relies in part on the dated nature of the FCC asset lives, the choice to use financial lives was also influenced by past Commission decision's in the OANAD docket and SBC-CA's witness Vanston's testimony regarding substitution rates.

Several parties comment that the RAPD is internally inconsistent because relatively short asset lives are used but the cost of debt is based on 30 year debt instruments and the RAPD assumes relatively long lives for switches when calculating the amount of new versus growth lines. The parties argue that the FCC requires states to be consistent in their choice of inputs. There are two problems with this argument. First none the parties in this case raised these detailed consistency arguments during the development of the record, so the linkage argument is one the Commission cannot consider. Second, even if the argument were permissible, the FCC requires a consistent approach, but does not command that the inputs be identical across broad categories. To assume that a company with the financial resources to build a state-wide network would not choose to avail itself of very attractively priced long-term debt instruments is illogical.

AT&T, MCI/WorldCom, and XO urge the Commission to correct alleged errors and modify inputs in the DS-3 rates which exceed SBC-CA's proposed rates. If the Commission is unwilling to make suggested modifications, then parties urge us to cap DS-3 rates at the levels proposed by SBC-CA. While we are not convinced that either our inputs or methodology need modification, we agree with parties filing comments that SBC-CA should not be granted rates in excess of its own proposal. We cap DS-3 rates at the levels proposed by SBC-CA.

Following comments, we modified the maximum copper loop length to return it to the 12,000 foot limit used in the original Proposed Decision. SBC-CA's comments convince us that it is not appropriate to model a forward-looking network with copper loops up to 18,000 feet in length simply because SBC-CA's model erred in containing loops over 12,000 feet.

Findings of Fact

1. In D.95-12-016, the Commission adopted a set of Consensus Costing Principles that it has applied in TSLRIC and TELRIC cost proceedings.

2. Pursuant to federal regulations, the Commission must comply with the FCC's TELRIC methodology when setting UNE rates for SBC-CA.

3. The Commission established cost modeling criteria for this proceeding in a June 2002 Scoping Memo.

4. The SBC-CA models contain many inputs based on the characteristics of SBC-CA's current network operations.

5. The SBC-CA models as presented do not allow the Commission to isolate and determine SBC-CA model inputs related to loop length assumptions, structure sharing assumptions, and labor crew and installation time assumptions.

6. LoopCAT uses embedded cabling characteristics and lacks cable-sizing conventions to optimize network design.

7. In its First Report and Order, the FCC rejected embedded cost approaches as not compliant with TELRIC.

8. It is not possible to extract individual inputs from the factors in the SBC-CA models.

9. While LoopCAT factors can be traced to SBC-CA internal accounting data, it is not possible to match this data to publicly-available cost data, such as ARMIS, or other public sources of information.

10. It is not possible to compare installation crew sizes in LoopCAT's factors to actual SBC-CA information or input assumptions in HM 5.3.

11. It is not possible to test the sensitivity of LoopCAT to differing forward-looking assumptions or network configurations without the ability to modify individual inputs.

12. LoopCAT approximates loop lengths for each distribution area assuming that all loops in that distribution area are one-half the "design point," which is defined by SBC-CA's loop planning guidelines as the longest loop that might be built in the next twenty years for existing or potential customer locations.

13. Approximately 100,000 loops in LoopCAT are longer than 18,000 feet.

14. Copper loops exceeding 18,000 feet will not work properly without additional equipment such as load coils, which are not modeled in LoopCAT.

15. The record does not contain information on SBC-CA's actual loop lengths to modify the design point distance to exclude potential loops.

16. LoopCAT assumes separate drops for each residence and equipment to terminate six lines for every residence.

17. The SBC-CA models calculate costs for 2-wire, DS-1, and DS-3 loops separately.

18. SBC-CA's SICAT module calculates switching costs based on SBC's average purchases over a five-year period (1998 through 2002) under its multi-state contracts with switch vendors.

19. SBC's SPICE model assumes that a forward-looking interoffice network would mirror SBC-CA's existing interoffice network.

20. SPICE does not produce a total investment figure, but instead calculates "node investment."

21. SPICE does not allow the user to segment demand for different interoffice services such as voice and high capacity services.

22. SPICE estimates costs using factors that incorporate structure sharing data, pole and conduit investment, and EF&I costs that are based on SBC-CA's historical network data.

23. It is not possible to extract individual input information from the factors used in SPICE in order to understand the underlying input, compare it to other public information, or test the effect of different input assumptions.

24. It is not possible to identify the demand level that the SPICE model is designed to serve.

25. The Commission cannot modify demand assumptions and factor inputs in SBC-CA's SPICE model without knowing the assumptions embedded in SBC-CA's factors.

26. The SBC-CA models use ACFs to convert investments into annual costs and expenses.

27. The expense factors in the SBC-CA models do not allow the Commission to isolate or understand individual input assumptions, compare and verify inputs to public information, or test differing assumptions.

28. In this proceeding, SBC-CA uses a different cost methodology than the prior OANAD proceeding.

29. SBC-CA did not reconcile shared and common costs from the prior OANAD with the direct UNE costs calculated through the ACF cost studies proposed in this proceeding.

30. SBC-CA relied on total expenses and investments when calculating its per unit expense factors, which means that its ACFs include expenses related to unregulated activities.

31. SBC-CA's ACFs include expenses related to transactions between SBC-CA and its affiliates.

32. SBC-CA's ACFs include expenses for Project Pronto incurred in 2001.

33. The TBO accrual is a liability for future retiree medical costs already earned by current and former employees.

34. SBC removed one-third of its estimate of TBO expenses from its ACF study.

35. The record does not contain sufficient information allowing the Commission to modify SBC-CA's expense assumptions to remove potential shared and common costs and Project Pronto costs.

36. SBC-CA incorporated productivity into its cost models by estimating expenses to match the forward-looking technologies that it modeled.

37. As a result of D.89-10-031, the Commission's New Regulatory Framework incorporates inflation and productivity adjustments.

38. SBC-CA did not provide information related to actual installation times or material costs, except for DLC costs.

39. Many of the inputs to HM 5.3 can be modified, such as fill factors, plant mix, structure sharing, switching investment assumptions, and some labor installation times and crew sizes.

40. HM 5.3 uses a customer location database created by a third-party vendor, TNS, as an input.

41. The Commission staff could not modify HM 5.3 inputs related to labor costs in all areas.

42. The HM 5.3 interoffice transport module underestimates demand.

43. In defining TELRIC, the FCC has rejected modeling based on "ultimate demand" in favor of a reasonable amount of excess capacity to accommodate short term growth.

44. Loop lengths based on right-angle connections are longer than straight line connections because the two sides of a right triangle, when added together, are longer than its hypotenuse.

45. Neither LoopCAT nor HM 5.3 follows existing distribution routes or places all loop facilities in today's locations.

46. TELRIC does not mandate the use of existing outside plant routes.

47. The Supreme Court has rejected basing UNE costs on an incumbent carrier's historical costs.

48. SBC-CA provided actual DLC installation cost information that was lower than the DLC installation costs used in LoopCAT.

49. HM 5.3 uses SBC-CA customer location information to identify SBC-CA's current customer locations and cluster them into distribution areas.

50. The clustering algorithm used as an input to HM 5.3 imposed three engineering restrictions relating to maximum copper length, maximum lines served, and maximum distance between two points in the cluster.

51. SBC-CA ran its own clustering scenario with a maximum line size of 1,800 lines, although Commission staff was unable to run its own clustering scenarios.

52. The Commission staff could not fully replicate the preprocessing steps used in either HM 5.3 or the SBC-CA models.

53. LoopCAT assumes that SBC-CA's current customer groupings are forward-looking and efficient and does not regroup customers into different distribution areas based on current population characteristics.

54. TELRIC allows the reconstruction of the network using existing wire centers, but does not require a cost model to use actual outside plant routes because they may not represent the most efficient, forward-looking plant design.

55. HM 5.3 made simplifying assumptions about customers with the same address where it did not know the square footage "footprint" of a building.

56. HM 5.3 assumes distribution areas can accommodate a CEV up to 6,451 lines, which is larger than the CEV size SBC-CA normally installs.

57. The Commission could not run a scenario with a lower assumption regarding the maximum lines per distribution area.

58. Equipment to serve 7,200 pairs in a distribution area is readily available.

59. LoopCAT assumes that distribution areas serve a maximum of 200 to 600 households based on guidelines that have been in place for approximately 25 years.

60. HM 5.3 uses many inputs that are based on expert judgments and relies on vendor quotes that are not always documented, but many of these inputs can be modified.

61. The SBC-CA models rely on judgments of engineers and unnamed subject matter experts for many inputs, such as design point assumptions, ACFs, SICAT, and SPICE inputs.

62. SBC-CA did not provide an assessment of new input values for many of the HM 5.3 inputs it criticized.

63. In many cases, it is not possible to make direct comparisons between HM 5.3 and SBC-CA model inputs.

64. It was not possible to change labor rate assumptions in HM 5.3 related to buried drop installation and riser cable investment, because they were embedded with material cost and other input assumptions.

65. Neither SICAT nor HM 5.3 models the characteristics of individual switches.

66. HM 5.3 does not model an interoffice network that can accommodate all of SBC-CA's current interoffice high capacity demand.

67. TELRIC requires the modeling of forward-looking costs attributable to UNEs, taking as a given the incumbent LEC's provision of other elements.

68. HM 5.3 allows the user to adjust inputs to model varying levels of spare capacity.

69. Both HM 5.3 and the SBC-CA models adjust investments to current cost before calculating E/I ratios.

70. Verizon has higher investments per line than SBC-CA.

71. ORA/TURN compared HM 5.3, the SBC-CA models and SynMod using a uniform platform of loop-related and general input values from SynMod.

72. HM 5.3 produced higher costs than SynMod when run with SynMod's default inputs.

73. JA changed eight categories of inputs to HM 5.3, which resulted in a significantly higher loop rate.

74. HM 5.3 can be modified to use different input and engineering assumptions, spare capacity can be increased and expense assumptions can be modified, but it is not possible to modify HM 5.3 with regard to certain labor inputs, the customer clustering process, and demand and assumptions in the interoffice transport module.

75. The SBC-CA models require time intensive efforts to modify, are prone to errors due to complex input modification requirements, produce varied results, and the results are difficult to replicate in a reasonable time frame with an acceptable level of confidence.

76. The SBC-CA cost factor module is an integral component in all other SBC-CA cost modules and modifications to the cost factor module require numerous manual input changes to flow the results into other SBC-CA cost modules.

77. Both HM 5.3 and LoopCAT assume uniform distribution of customers throughout the distribution area.

78. Both HM 5.3 and LoopCAT include a mixture of real and hypothetical assumptions.

79. HM 5.3 uses actual customer locations, but clusters these locations into reconfigured, or hypothetical, groupings.

80. LoopCAT uses some existing plant routes, particularly for feeder, but designs loop lengths based on estimates of hypothetical future customer locations.

81. HM 5.3 uses the TNS clustering database as an input, while LoopCAT uses SBC-CA's preprocessed cable records as an input, and the Commission is not able to adjust either of these inputs.

82. In 1999, the FCC reviewed telecommunications carriers' asset retirement patterns, plans, and current technological developments and trends. The FCC's review was largely based on 1994 data.

83. The asset lives adopted by the FCC do not match the financial asset lives proposed as modeling inputs by SBC-CA.

84. Since 1994, several mergers and acquisitions have impacted the telecommunications industry including Pacific Telesis' merger with SBC, and SBC's subsequent merger with Ameritech.

85. SBC-CA proposes a proxy group of seven companies that have changed substantially since 1998.

86. Both SBC-CA and JA use the CAPM and DCF methods to estimate cost of equity.

87. SBC-CA uses growth estimates from 1999 for its DCF analysis.

88. SBC-CA's interest rate adjustment to the market risk premium differs substantially from other measures of the market risk premium.

89. In prior cost of capital reviews, the Commission has adjusted cost of equity for interest rate changes after completing its CAPM review rather than incorporating interest rate changes into the CAPM model.

90. SBC-CA proposes a risk-free rate of 5.8% based on 1999 government bonds.

91. The CAPM computes a cost of equity for SBC-CA of 11.78% when it is run with a 7.4% market risk premium, a beta coefficient of .93, and a risk free rate of 4.9%.

92. The 11.78% cost of equity used to derive SBC-CA's cost of capital is slightly higher than the cost of equity adopted for California's energy utilities.

93. The Commission has generally excluded short-term debt when setting the cost of capital for utilities.

94. SBC-CA's proposed capital structure uses market values of equity and debt from 1998.

95. The firms in SBC-CA's proxy group have substantially increased their debt levels in recent years.

96. Ibbotson Associates has stated that a firm's target or optimal capital structure should be used in weighting the cost of equity and debt.

97. The capital structure proposed by JA, which mixes book and market values, comports with SBC-CA's target capital structure.

98. SBC-CA's engineering guidelines call for greater deployment of IDLC systems as the most economical method for providing telephone service.

99. A CLC can gain access to an unbundled IDLC loop if it is willing to connect at the DS-1 level, although operational issues involving security and administrative concerns have yet to be fully resolved.

100. UDLC loops are required for circuits that cannot be provisioned over an IDLC system, such as ISDN and burglar alarms.

101. At present, there are no stand-alone loops provisioned over IDLC anywhere in the U.S.

102. SBC-CA proposes a factor-based approach to estimate DLC installation costs in LoopCAT, based on the ratio of installation to material costs.

103. Cost data provided by SBC-CA shows actual DLC installation costs are lower than those estimated by the factors in LoopCAT.

104. SBC-CA incurs DLC installation costs above and beyond those included in its contract with Alcatel.

105. Actual DLC installation costs provided by SBC-CA are lower than the costs produced by DLC EF&I factors used in the SBC-CA models.

106. There is a wide disparity between the fill factors SBC-CA proposes in its models and those used in its TSLRIC studies for pricing flexibility.

107. HM 5.3 uses SBC-CA's temporary engineering guidelines to design cable sizes to provide 1.5 to 2 lines per living unit for residential customers.

108. A fill factor of 52% means that there is 48% spare capacity designed into the network.

109. SBC-CA engineering guidelines call for 2.25 lines per lot.

110. The FCC has criticized distribution fill factors in the 40% range, and adopted distribution fill factors in the 50-75% range.

111. The Commission adopted a copper distribution fill factor higher than SBC-CA's actual fill in the prior OANAD decision.

112. The FCC has found that low density areas generally have lower fill levels, whereas LoopCAT models higher fill levels in low density areas.

113. In D.96-08-021, the Commission adopted a 76% fill factor for copper feeder rather than Pacific's (now SBC-CA) actual fill factor.

114. HM 5.3 models 4 fibers to each DLC site for redundancy, which results in a fiber fill rate of 79.6% that includes duplicate facilities. This approach is consistent with the approach used by the FCC in its universal service cost modeling.

115. SBC-CA proposes a 16.22% fiber feeder fill based on its actual utilization experience and the percentage of fiber strands that are actually in use.

116. SBC-CA's fiber feeder fill is less than half its copper distribution fill rate.

117. For the DLC common equipment fill factor, HM 5.3 incorporates a choice of DLC system sizes from 24 lines up to 8,064 lines. SBC-CA models four DLC sizes, which is less than the range of sizes SBC-CA actually deploys.

118. SBC-CA's DLC common equipment fill factor is based on its actual network operations and allows for ten years of spare capacity.

119. LoopCAT does not use the correct line capacity for a 6x16 CEV.

120. SBC-CA models a fill factor for the CEV structure and a fill factor for the DLC equipment housed in the CEV.

121. SBC-CA engineering guidelines stress minimization of spare DLC plug-in equipment.

122. Placement of DLC plug-in equipment involves travel time to the DLC site and the inability to manage DLC channels on a single pair basis.

123. HM 5.3 models an SAI equipment fill level based on 3.5 lines per living unit.

124. SBC-CA admits an error in developing the SAI fill factor in its model.

125. The SBC-CA models allow the user to assume a linear relationship between maintenance costs and fill factors, so that maintenance costs rise at higher fill levels.

126. SBC-CA's analysis shows maintenance costs for copper distribution rise with fill levels above 50%.

127. The FCC's SynMod and SBC-CA's loop deployment guidelines assume sharing of structure by feeder and distribution cable.

128. HM 5.3 uses averages of ARMIS data from the last eleven years to develop plant mix assumptions.

129. The SBC-CA models assume forward-looking plant mix matches current plant mix.

130. Labor costs in HM 5.3 and the SBC-CA models involve inputs for hourly wage rates, crew sizes, and task times.

131. Labor cost inputs in HM 5.3 involve expert judgment and vendor quotes.

132. In D.96-08-021, the Commission adopted an economic crossover point of 12,000 feet.

133. Copper loops longer than 12,000 feet are not consistently capable of supporting many services and loops longer than 18,000 feet present compatibility problems for UNEs.

134. SICAT switching investments are based on contracts with Lucent and Nortel, while HM 5.3 models investments based on Siemens switch prices.

135. At present, SBC-CA does not deploy Siemens switches in its California network.

136. The Siemens switch modeled in HM 5.3 with SONET based optical interface capabilities is not currently available in North America.

137. In D.98-12-106, the Commission rejected the assumption that 90% of lines could be purchased at the new line price.

138. Vertical feature hardware costs are included as part of the per-line cost for new switch lines.

139. SBC-CA's feature cost study does not incorporate memory and processor costs, or costs for feature software for usage above caps in the switching contracts.

140. SBC-CA data shows that average processor utilization is well below 100%.

141. SBC-CA's switch contracts charge a flat price per line for a given CCS, or usage per line, level.

142. Current statewide average CCS levels are well below the minimum CCS quantity provisioned under the switching contracts.

143. SBC-CA's switching costs per line do not change as long as usage does not rise above the maximum CCS levels in the switch contracts.

144. Other states that have adopted a flat, per port rate structure for switching have retained usage-sensitive rates for reciprocal compensation purposes.

145. The SBC-CA models use switch fill levels from the current network.

146. Digital fill levels on the current network are low because digital technology is newly deployed.

147. The SBC-CA models calculate DS-3 loop costs on a deaveraged basis.

148. HM 5.3 yields DS-3 related costs higher than those requested by SBC-CA.

149. In D.99-11-050, the Commission established a process for the annual review of UNE rates.

Conclusions of Law

1. Both HM 5.3 and the SBC-CA models do not allow the Commission complete flexibility to modify inputs and test various outcomes.

2. Both HM 5.3 and the SBC-CA models are flawed because the Commission is unable to modify key structural elements of either model.

3. The SBC-CA models fail the Commission's modeling criteria to such a significant extent that we cannot reasonably rely on them to set UNE rates.

4. The SBC-CA models fail to produce results upon which we can reasonably rely because they produce varying results that cannot be replicated in a reasonable time frame with an acceptable level of certainty.

5. The SBC-CA models do not meet the basic modeling requirement of allowing the user to derive results with an acceptable level of confidence.

6. HM 5.3 inputs, as filed, are at the low end of what we consider reasonable.

7. The results of the SBC-CA models generally over estimate forward looking UNE costs.

8. It is reasonable to use the HM 5.3 model to set UNE rates, despite its flaws, rather than the SBC-CA models, which are flawed and fail our modeling criteria to such a significant extent.

9. The Commission should set UNE rates for SBC-CA based on the HM 5.3 model as run with the inputs described in this order and as set forth in Appendix A.

10. SBC-CA has not proven that its existing cabling inventory, which reflects incremental network growth over many years, is optimal and forward-looking.

11. SBC-CA's models do not comply with TELRIC because they estimate the cost to rebuild the network SBC-CA has in place today, with some changes for forward-looking technology, but not necessarily with the lowest cost network configuration.

12. The fact that SBC-CA has operated under incentive regulation for over ten years does not prove that its models are forward-looking, particularly when individual modeling inputs, such as labor installation times, crew sizes, material prices and structure sharing, cannot be determined or modified to test differing assumptions.

13. Because LoopCAT relies on embedded cable characteristics that cannot be optimized, the model contradicts FCC guidance that TELRIC should assume reconstruction of the least-cost network configuration.

14. It is not reasonable to rely on historical accounting information used in SBC-CA's factors without the ability to understand the assumptions underlying the cost information, compare it to public information, or test differing assumptions.

15. SBC-CA has failed to adequately support why the cost data related to its current network should be considered forward-looking.

16. LoopCAT's use of the design point to calculate loop lengths results in a network configuration that is not least cost or forward-looking because: (a) it is based on twenty year growth forecasts which exceed what we consider "reasonably foreseeable short term growth," as described by the FCC, (b) some loop lengths exceed the 18,000 foot limit, and (c) the Commission cannot modify SBC's preprocessor calculations of the design point to limit it to existing loop lengths.

17. LoopCAT inflates loop costs by not modeling multiple dwelling units, but instead assuming that each residence requires a separate drop and termination equipment for six lines.

18. The SBC-CA models overstate loop costs by not integrating cost studies for the various loop types and thereby ignoring that these services share much of the same network infrastructure.

19. Issues raised by parties regarding SBC-CA's SICAT model can be addressed by changing SICAT input assumptions.

20. SICAT is not irreparably flawed because it incorporates some non-California switching information based on SBC's multi-state switch vendor contracts.

21. The SPICE model is flawed because the Commission cannot determine the level of demand that it is designed to serve or the total investment it models, and cannot modify its demand assumptions to check the model's sensitivity.

22. The factors used throughout the SBC-CA models are flawed because they cannot be disaggregated to extract individual inputs, compare them to other public information, or modify them to test the effect of differing assumptions.

23. SBC-CA's ACFs may contain some portion of shared and common costs, because SBC-CA uses a different costing methodology than the prior OANAD and did not analyze whether ACFs it now proposes include expenses previously categorized as shared and common costs.

24. Based on the current record, the Commission cannot adjust SBC-CA's ACFs to remove potential double-counting of shared and common costs.

25. It is not reasonable for SBC-CA to include expenses for its unregulated businesses, such as inside wire maintenance and billing services, or for services SBC-CA performed on behalf of its affiliates when calculating expenses related to UNE operations.

26. The SBC-CA models should be adjusted to eliminate expenses for non-regulated activities, based on a comparison of regulated and non-regulated ARMIS data, as proposed by JA.

27. The SBC-CA models should be adjusted to remove approximately $301 million in affiliate transaction expenses.

28. The land and building expense factors in the SBC-CA models should be adjusted to incorporate forward-looking space requirements and an allocation of collocation revenues.

29. While some Project Pronto expenses likely benefit UNE operations, it is not reasonable to allocate all Project Pronto expenses to UNE operations as SBC-CA has done.

30. SBC-CA has not met its burden of proving that all of its Project Pronto expenses are forward-looking and appropriately allocated to UNEs.

31. SBC-CA's ACFs should not include the TBO accrual because it is not a current operations cost, therefore the full amount of the TBO, as identified by SBC-CA, should be removed from the SBC-CA model.

32. It is not possible, given the current record, to isolate and remove expenses for Project Pronto and shared and common costs from the SBC-CA models.

33. The SBC-CA models include adequate productivity adjustments by modeling equipment using the newest technology and using 2001 expense information.

34. The inflation factors in the SBC-CA models are reasonable.

35. Many criticisms of HM 5.3 can be addressed by input modifications.

36. The clustering assumptions in HM 5.3 are no worse than the loop input assumptions in the SBC-CA models. Both HM 5.3 and LoopCAT involve aspects of loop modeling that the Commission was unable to modify to its satisfaction.

37. The loop modeling and customer location process in HM 5.3 lacks transparency and its vast amounts of preprocessed data limit the Commission's ability to test various scenarios.

38. Both HM 5.3 and SBC-CA's LoopCAT can be faulted for the accuracy of customer locations because HM 5.3 ignores customer locations when modeling the distribution plant and LoopCAT does not attempt to accurately locate existing customers and assumes they are all evenly dispersed throughout the distribution area.

39. HM 5.3 accounts for a reasonable level of growth in network demand and sizes the network to provide appropriate service quality.

40. Even though HM 5.3's use of right-angle routing is not based on SBC-CA's actual outside plant routes, it realistically reflects that networks cannot always follow straight line routes and it most likely increases costs in the model by using a longer route than if customers were connected by straight lines.

41. The fact that SBC-CA actual costs may be higher than the costs produced by HM 5.3 does not prove that HM 5.3 is flawed.

42. HM 5.3 is more reasonable and forward looking than LoopCAT with regard to loop design because it creates customer clusters based on actual customer locations and designs plant configurations based on the realities of where customers are grouped today.

43. HM 5.3 reasonably reconstructs SBC-CA's network within TELRIC guidelines and given existing wire center locations, even if the HM 5.3 network does not follow existing outside plant routes.

44. When HM 5.3 is re-run with clusters limited in size to 1,800 lines per cluster, the results demonstrate the tradeoff between feeder and distribution costs.

45. It is reasonable for a forward-looking network configuration to size distribution areas larger than SBC-CA has sized them in the past.

46. It is unreasonable to assume that all distribution areas could accommodate a CEV to serve 6,451 lines.

47. The customer location and loop modeling assumptions in HM 5.3 are no more a "black box" than SBC-CA's preprocessor and input modeling assumptions related to the loop length design point. Neither HM 5.3 nor the SBC-CA models allow the Commission the ability to fully understand or replicate their preprocessing steps.

48. It is not reasonable to abandon HM 5.3 simply because of disputes over "expert judgment" inputs when these inputs can be modified.

49. Labor Input Modifications, coupled with conservative input assumptions such as right angle routing of loop plant, a 7.4% risk premium, and fully loaded labor rates, offset concerns that HM 5.3 underestimates UNE costs.

50. It is reasonable to modify SAI investment and terminal and splice investment to reflect SBC-CA labor rates.

51. HM 5.3 and SICAT have taken a similar modeling approach that does not analyze the characteristics of individual switches.

52. Because we cannot identify the demand level that SPICE is designed to serve, we are unable to place SPICE demand input assumptions into the HM 5.3 interoffice model.

53. Because it is unclear whether HM 5.3 incorporates optical interface equipment, HM 5.3 might not allow the provisioning of the high capacity services SBC-CA provides today.

54. Because HM 5.3 appears insensitive to demand changes, it is unclear how it derives its SONET ring structure to set interoffice transport rates.

55. The HM 5.3 interoffice transport module is flawed because it underestimates demand, may not incorporate optical interface equipment, and is insensitive to demand changes.

56. HM 5.3's demand assumptions incorporate a reasonable level of growth, whereas LoopCAT unreasonably models loops to serve ultimate demand.

57. The use of E/I ratios in HM 5.3 is reasonable, if adjusted to remove comparisons to Verizon expense levels.

58. It is reasonable to use recent data from SBC-CA's ARMIS expense information to estimate forward-looking expenses with the HM 5.3 model.

59. SBC-CA has not shown that its current costs are forward-looking, and it would be unreasonable to reject HM 5.3 merely because its results are lower than SBC-CA current costs.

60. HM 5.3 is not structurally biased to produce low results because when it is run with other inputs, it produces higher cost results.

61. Both HM 5.3 and the SBC-CA models fail the Commission's cost modeling criteria, as set forth in the scoping memo of this proceeding because neither allows us to reasonably understand all inputs or modify inputs and assumptions in all areas.

62. It is unduly burdensome and unreasonable to use the SBC-CA models because the models lack flow through capability and require extensive manual manipulation, are prone to error when modifying inputs, and produce varying results that cannot easily be replicated.

63. HM 5.3 is less burdensome to operate because we can reasonably understand how to make necessary modifications, implement them quickly, and consistently replicate results in a reasonable time frame.

64. If loop configuration, structure sharing inputs, and cost factors could be modified in the SBC-CA models, its results would be lower than the Commission's runs.

65. If expense levels in the SBC-CA models could be modified to remove expenses related to Project Pronto and shared and common costs, its results would be lower than the Commission's runs.

66. The FCC's analysis of asset lives is outdated.

67. The analysis of SBC-CA's witness Vanston appropriately considers the effects of competition on asset lives.

68. The economic asset lives proposed by SBC-CA based on an analysis by Vanston are reasonable to use as inputs for our TELRIC cost modeling.

69. The cost of capital originally adopted for SBC-CA in 1994 should be revised because financial conditions today are vastly different than they were at that time.

70. It is reasonable to use the proxy group of three companies proposed by JA to analyze the cost of equity, debt, and capital structure for our cost of capital analysis.

71. SBC-CA's growth estimates used in its DCF analysis are outdated and not reasonable, and its updated growth estimates in the "b x r approach" are excessive.

72. JA's three stage DCF analysis, based on more current growth rates than SBC-CA's analysis, is more reasonable than assuming all telecommunications firms will grow continuously at a faster rate than the whole economy.

73. SBC-CA's interest rate adjustment to the market risk premium is not reasonable because of updated assumptions regarding interest rate effects on equity premiums, and SBC-CA's updated market risk premium of 9.86% is based on an unreasonably short study period.

74. A market risk premium of 7.4%, based on Ibbotson Associates study of equity premiums from 1926 to 2001, is reasonable to use in our CAPM analysis because it is based on documented equity returns rather than disputed expectation of future returns, and conservative when compared to other reputable sources.

75. It is more reasonable to base a risk-free rate on 30-year bonds, rather than 10-year bonds, to match the longer investment horizon in our market risk premium figure.

76. A risk free rate of 4.92% is more reasonable than SBC-CA's outdated risk free rate.

77. We should adopt SBC-CA's updated beta coefficient of .93 because it is based on recent data for the same proxy group that we use for our other cost of capital inputs.

78. When setting the cost of equity, we should give no weight to the DCF model results because DCF relies heavily on widely disparate growth forecasts for telecommunications firms.

79. It is reasonable to adopt an 11.78% cost of equity based on the conservatively higher CAPM results.

80. SBC-CA's UNE business is subject to regulatory risk regarding the accuracy of UNE prices and competitive risk.

81. Quantitative models capture investors' views of SBC-CA's risks in the current market, but forward-looking risks in a fully competitive UNE market are greater than the risks SBC-CA currently faces in its UNE business.

82. It is reasonable to set SBC-CA's cost of equity based on financial models results because we are unable to quantify a forward-looking risk adder.

83. The cost of equity for energy utilities is of little relevance to our analysis of SBC-CA's cost of capital because of differing capital structure, financial conditions, and regulatory policies.

84. The Commissions' cost of capital analysis should incorporate long-term debt costs that match UNE asset lives, and are less volatile than short-term debt costs.

85. It is reasonable to assume a long-term debt cost of 6.34% for our analysis.

86. A capital structure based on 50% market values and 50% book values is less sensitive to changes in market conditions than a capital structure based entirely on market values.

87. A capital structure is not forward-looking if it is based on market values from 1998.

88. It is reasonable to adopt a forward-looking capital structure of 57% equity and 43% debt based on 50/50 weighting of market and book values, particularly since this capital structure comports with SBC-CA's target capital structure.

89. IDLC is the forward-looking technology choice for network design.

90. The Commission should assume a mix of 60% IDLC and 40% UDLC in its model runs because IDLC is the forward-looking technology Although some UDLC should be modeled to allow carriers to provision certain services such as ISDN and burglar alarms, and stand-alone loops to CLCs. An assumption incorporating 40% UDLC equipment is reasonable to allow provisioning of stand-alone loops.

91. It is reasonable to incorporate DLC installation costs above and beyond those listed in the Alcatel contract in our TELRIC model runs.

92. SBC-CA could not reasonably explain how LoopCAT's DLC installation factor was derived.

93. SBC-CA has not shown that its DLC installation cost factor is reasonable and forward-looking because it is greater than actual cost information it provided.

94. The Commission's model runs should incorporate SBC-CA's actual DLC installation costs of $22,814 for RTs and $49,569 for CEVs, rather than LoopCAT's factors or the estimates proposed by JA.

95. Fill factors derived purely from current network operations are not automatically forward-looking.

96. Fill factors should reflect accurate projections of investment to accommodate growth and a reasonable estimate of demand.

97. A fill factor for copper distribution of 51.6% provides an adequate level of spare capacity to accommodate a reasonable projection of future demand, and is therefore, reasonable.

98. It is reasonable to use a higher fill factor for copper distribution than our prior OANAD decisions given FCC guidance in recent orders, and given trends in network usage that have reduced line growth projections.

99. SBC-CA has not reconciled its standard guidelines that call for more than two lines per household with current line growth estimates or its temporary guidelines calling for less than two lines per household.

100. The fact that SBC-CA's fill factors may remain constant over time does not prove that these fill levels are optimal.

101. SBC-CA has not met its burden of proving that its current distribution fill factor is a reasonable proxy for forward-looking utilization.

102. It is reasonable to continue to use the 76% copper feeder fill factor adopted in the prior OANAD proceeding.

103. A 79.6% fiber feeder fill rate is reasonable because it is similar to the approach used by the FCC in its modeling and it provides full redundancy and spare for growth.

104. A fiber feeder fill rate of 16.22% is not forward looking because it incorporates 80% spare capacity and it contradicts SBC-CA's statements that optimal fill rates for feeder plant are higher than for distribution.

105. SBC-CA's DLC equipment fill factor is not reasonable because it has understated the capacity of the 6 x 16 CEV, and it has double-counted DLC equipment fill factors by modeling a fill factor for both the CEV structure and the equipment in the structure.

106. A 62% fill factor for DLC common equipment is reasonable because it allows for 10 years of growth and acknowledges that CEV sizes may not perfectly match real world conditions.

107. SBC-CA's fill factor for DLC plug-in equipment is not adequately supported given its current guidelines to minimize spare equipment.

108. A DLC plug-in equipment fill factor of 75% is reasonable given inventory management and other operational constraints.

109. It is reasonable to use an SAI fill factor of 67.8% given the admitted errors in SBC-CA's fill factor.

110. HM 5.3 undersizes premise termination equipment by modeling only two pairs per residence, which leaves no room for a third line.

111. SBC-CA overestimates premise termination equipment by modeling equipment for 6 line terminations at each residence, which is greater than forward-looking estimations of lines per residence and ignores the economies of serving multiple dwelling units.

112. Neither HM 5.3 nor the SBC-CA models determine appropriate NID sizes based on multiple dwelling units. It is reasonable to modify HM 5.3 and the SBC-CA models to run with similar assumptions regarding the NID and premise termination fill factors for residential customers.

113. SBC-CA's proposed linkage of fill factors and maintenance expenses is not reasonable because it has only analyzed the effect of fill levels on one aspect of loop costs rather than total loop costs.

114. SBC-CA has not shown a linkage between higher fill levels and higher maintenance for feeder, DLC equipment, or switching equipment.

115. The linkage of fill factors and maintenance expenses is not reasonable because SBC-CA has not shown the linkage applies to anything other than copper cable with distribution fills above 50%.

116. The structure sharing percentages between utilities assumed in HM 5.3 are not reasonably supported.

117. The structure sharing percentages in the SBC-CA models are not reasonable because they cannot be identified.

118. It is reasonable to use the structure sharing percentages adopted by the FCC in its Synthesis Model.

119. It is reasonable to assume 55% sharing of feeder and distribution facilities given findings of the FCC on this subject and SBC-CA's own guidelines.

120. It is reasonable to adopt SBC-CA's plant mix assumptions for our model runs rather than assumptions based on ARMIS data dating back 11 years.

121. Rather than rely on expert judgment, -it is more reasonable to use SBC-CA's fully loaded hourly wage rates, as proposed in its models.

122. HM 5.3 underestimates crew sizes in certain circumstances, such as cable placing.

123. The labor loading adjustments suggested by JA's witness Flappan are not reasonable because they are based on nationwide information for companies that are not reasonably similar to SBC-CA.

124. It is not clear whether loops longer than 12,000 feet can provide other UNEs as required by TELRIC.

125. The Commission should model a crossover point of 12,000 feet.

126. The Commission should model a network with a maximum copper loop length no longer than 12,000 feet to ensure the network modeled can provide all the services SBC-CA currently provides, in keeping with TELRIC requirements.

127. It is more reasonable to model Lucent and Nortel switches in SBC-CA's network because Siemens switches may not provide all the functions and capabilities provided by the switches currently deployed in SBC-CA's network.

128. JA propose unreasonable assumptions regarding the percentage of lines that can be purchased at the new line discount price.

129. It is reasonable to assume the weighting of new and growth lines reflected in SBC-CA's SICAT model, which is based on SBC-CA's actual percentages of lines purchased during the 5 year study period, to recognize that a carrier would not be able to buy all the switch investment it needs at the new line price currently applicable to SBC-CA.

130. SBC-CA has not adequately supported its "other replacement costs" that it models with switching investments. These should be removed from Commission model runs because they appear to relate to SBC-CA's embedded switching network.

131. It is reasonable to include upgrade costs in our switching investment modeling.

132. Feature hardware and software costs that are incurred through per line, per switch, or buyout charges should be modeled in the monthly port price.

133. SBC-CA's feature cost study double counts feature hardware costs that are already included in the per line switching price.

134. Costs to upgrade the switch memory and processor are included in switch upgrade costs as part of the per line switching investment.

135. It is unreasonable to assume SBC-CA will exceed the capacity limitations in its switch vendor contracts because switches are provisioned based on a 10-year forecast of capacity requirements and average utilization is below the minimum switch capacity that is provisioned under the contracts.

136. UNE Switch pricing should be a flat price per line because SBC-CA switching costs do not change as long as usage does not rise above the maximum CCS level in the switching contract.

137. A flat per port price for switching usage is consistent with TELRIC guidance that rate structures should reflect the manner in which costs are incurred.

138. The flat per port switching rates adopted in this order should not apply in the context of reciprocal compensation between carriers because changes to reciprocal compensation rate structures are beyond the scope of this proceeding. The usage sensitive rates shown in Appendix C can be used for reciprocal compensation purposes.

139. It is not reasonable for SBC-CA to apply a low digital fill factor when it contends its customer base is declining.

140. SBC-CA has not shown why analog and digital switch fill rates should differ so drastically.

141. Switching equipment is highly modular and can be expanded in less than a year, so it is reasonable to use higher fill rates for switching equipment.

142. It is reasonable to apply an 82% fill factor to analog and digital lines in the models.

143. It is reasonable to adopt deaveraged DS-3 loop rates because the models can calculate costs to support this result.

144. We should take official notice of DS-1 and DS-3 loop cost calculations proposed by JA in the Verizon UNE Phase of R.93-04-003/I.93-04-002.

145. It is reasonable to set DS-3 related UNE rates at the levels proposed by SBC-CA.

146. The Commission should suspend further reexamination of UNE prices until February 2007 to provide wholesale pricing stability in the local exchange market.

ORDER

IT IS ORDERED that:

1. The recurring prices for unbundled network elements (UNEs) offered by Pacific Bell Telephone Company d/b/a SBC California (SBC-CA) that are set forth in Appendices A and C to this decision satisfy the requirements of Sections 251(c)(2), 251(c)(3), and 252(d)(1) of the Telecommunications Act of 1996 and are hereby adopted.

2. Pursuant to Commission Resolution ALJ-181 (adopted October 5, 2000), SBC-CA shall prepare amendments to all interconnection agreements between itself and other carriers. Such amendments shall substitute the recurring UNE prices set forth in Appendices A and C for the UNE prices set forth in such interconnection agreements. Such amendments shall be filed with the Commission's Telecommunications Division, pursuant to the advice letter process set forth in Rules 6.1 and 6.2 of Resolution ALJ-181, within 30 days after the effective date of this order. The amendments do not require a signature of the carriers involved as long as the amendments are limited to substituting the UNE rates adopted in today's order. Unless protested, such amendments shall become effective 30 days after filing. The flat per port switching rates adopted in this order shall not apply in the context of reciprocal compensation between carriers. The rates shown in Appendix C shall be used for reciprocal compensation purposes.

3. The UNE prices adopted in this order shall be effective on the date this order is effective. SBC-CA shall make all billing adjustments necessary to ensure that this effective date is accurately reflected in bills applicable to these UNEs. SBC-CA shall have 60 days from the date of this order to complete the billing program changes necessary to reflect in bills the recurring prices for UNEs adopted in this order. Upon completion of said billing program changes, SBC-CA shall notify the Director of the Telecommunications Division in writing that all of the necessary billing program changes have been completed.

4. Within 90 days of the effective date of this order, SBC-CA shall calculate any billing adjustments owed to or by interconnecting carriers based on the modification of interim rates set in Decision 02-05-042 and Decision 02-09-052 to the rates in this order, but payment of any billing adjustments, or "true-up," is stayed pending the outcome of further proceedings in this docket to consider payment options or other mitigations to lessen any negative effects of the true-up, and whether and how to implement any shared and common cost mark-up revisions along with the true-up. The administrative law judge shall issue a ruling within 30 days of this order setting a prehearing conference to initiate these proceedings.

5. The annual nomination procedure set forth in Ordering Paragraph 11 of Decision (D.) 99-11-050 is suspended until 2007. SBC-CA or carriers with which SBC-CA has interconnection agreements, may file nominations of UNEs for review, as described in D.99-11-050, between February 1 and March 1, 2007.

6. Official notice is taken of the DS-1 and DS-3 loop cost calculations proposed by AT&T Communications of California and MCI-WorldCom Inc. in the Verizon UNE phase of Rulemaking 93-04-003/Investigation 93-04-002.

7. Application (A.) 01-02-024, A.02-02-035, A.02-02-031, A.02-02-032, A.02-02-034, and A.02-03-003 shall remain open pending resolution of true-up payment issues.

/ / /

/ / /

This order is effective today.

Dated September 23, 2004, at San Francisco, California.

Commissioner Peevey will file a dissent

/s/ MICHAEL R. PEEVEY

Commissioner Wood reserves the right to file comments

/s/ CARL WOOD

Commissioner

Commissioner Lynch will file a concurrence

/s/ LORETTA LYNCH

Commissioner

Commissioner Brown will join Commissioner Lynch's Concurrence

/s/ GEOFFREY F. BROWN

Commissioner

Commissioner Kennedy will file a dissent

/s/ SUSAN P. KENNEDY

Commissioner

Appendix D

Glossary of Acronyms

ACF Annual cost factor

ARMIS Automated Reporting Management Information System

BLS Bureau of Labor Statistics (U.S. Dept. of Labor)

CAPM Capital asset pricing model

CCPs Consensus Costing Principles

CCS Centi-call second

CEV Controlled environmental vault

CLC Competitive local exchange carrier

DA Distribution area

DCF Discounted cash flow

DEM Dial Equipment Minutes

DLC Digital loop carrier

DSL Digital subscriber line

EF&I Engineer, furnish and install

FCC Federal Communications Commission

HM 5.3 HAI Model, Version 5.3

IDLC Integrated digital loop carrier

ILEC Incumbent local exchange carrier

IOF Interoffice facilities

LEIS Loop engineering information system database

LoopCat Loop Cost Analysis Tool

MDU Multiple dwelling unit

MST minimum spanning tree

NID Network interface device

NPRM Notice of Proposed Rulemaking

OANAD Commission Rulemaking 94-04-003 regarding "Open Access and Network Architecture Development"

POTS Plain old telephone service

RBOC regional bell operating company

ROE return on equity

RT Remote terminal

SAI Serving area interface

SICAT Switching Cost Analysis Tool

SONET Synchronous optical network

SPICE SBC's Program for Interoffice and Circuit Equipment

SS7 Signaling System 7

SynMod FCC's Synthesis Model

TBO Transitional benefit obligation

TELRIC Total element long run incremental cost methodology

TSLRIC Total service long run incremental cost methodology

TNS Taylor Nelson Sofres

TRO FCC's Triennial Review Order

UDLC Universal digital loop carrier

UNE Unbundled network element

UNE-P Unbundled network element platform

(END OF APPENDIX D)

APPENDIX E

LIST OF APPEARANCES

Applicants: Goodin, MacBride, Squeri, Richie & Day, LLP, by John Clark, Attorney at Law, for The Telephone Connection Local Services, LLC; David Discher and Stephanie E. Krapf, Attorneys at Law, for Pacific Bell Telephone Company; William C. Harrelson, Attorney at Law, for MCI/WorldCom, Inc.; Preston, Gates, Ellis & Rouvelas Meeds, LLP, by Christopher S. Huther and Megan Troy, Attorneys at Law for Pacific Bell Telephone Company; David J. Miller and W. Clay Deanhardt, Attorneys at Law, for AT&T Communications of California, Inc.; Earl Nicholas Selby and Karen M. Potkul, Attorneys at Law, for XO California, Inc.

Interested Parties: Goodin, MacBride, Squeri, Richie & Day, LLP, by John Clark, Attorney at Law, for Z-Tel Communications, Inc.; William J. Cobb III, Attorney at Law, for Covad Communications Company; Christine Mailloux, Attorney at Law, and Regina Costa, Representative, for The Utility Reform Network; Adams, Broadwell, Joseph & Cardozo, by Katherine S. Poole and Lonnie Finkel, Attorneys at Law, for Communications Workers of America, District 9; Terrance A. Spann, Attorney at Law, for United States Department of Defense and All Other Federal Executive Agencies; Glenn Stover, Attorney at Law, for Sage Telecom, Inc., Tri-M Communications, Inc., and Anew Telecommunications Corporation; Morrison & Foerster, LLP, by James M. Tobin, Mary E. Wand and Theresa L. Cabral, Attorneys at Law, for Pac-West Telecomm, Inc.;

Office of Ratepayer Advocates: Natalie Billingsley, Representative, and Natalie Wales, Attorney at Law.

(END OF APPENDIX E)

A.01-02-024/A.01-02-035/A.02-02-031/A.02-02-032/A.02-02-034/A.02-03-002

D.04-09-063

President Michael R. Peevey, dissenting:

Wrong twice. That is the essence of my dissent.

To explain a bit, in May 2002 the same three Commissioners who voted on September 23 in favor of the Wood Alternate voted to reduce UNE-P, on an interim basis, from $23.18 to $13.93. Then Commissioner Duque and I voted no, feeling the decrease was much too large. Instead, we supported a UNE-P of $15.65.

The simple fact is the majority slashed UNE-P too much in 2002 and then refused to restore the cuts in any meaningful way in 2004. The action will hurt our states' economy and skilled workers.

The majority decision does not accurately reflect the forward-looking costs of SBC. The rates that are set will limit innovation and investment. Today's decision may result in a gradual decline in the network due to the lack of innovation and investment. Additionally, there may be reduced levels of maintenance done by skilled employees.

This case required a commitment to use TELRIC principles. Despite California's recognized high cost of labor, as well as other inputs such as real estate and the costs of environmental rules, the decision sets rates that are at the low end among the states. I am not suggesting that we should simply take an average of the other states. Indeed, we need careful consideration of the record and compliance with TELRIC standards. This is the same task that all 50 states have undertaken. Each state has performed its own review. The fact that the majority decision sets rates that are at the low end of the scale suggests that either California is wrong by setting rates too low (especially considering California's high labor costs) or that most other states are wrong in setting their rates too high. The Commission majority inadequately, if at all, justify their action in setting UNE-P too low.

The Commission majority has sent improper cost signals to the entire telecommunications industry. Inadequate infrastructure investment in California will be a result.

So, I repeat, the majority got it wrong in 2002 and compounded their error in 2004. Being wrong once is understandable. Being wrong twice is unforgivable.

/s/ MICHAEL R. PEEVEY

Michael R. Peevey

President

San Francisco, California

September 23, 2004

Commissioner Susan P. Kennedy, dissenting,

First, we clarify that a TELRIC-based cost of capital should reflect the risks of a competitive market.100

Similarly, the VA Arbitration Order states:

[W]e agree with Verizon that the cost of capital used in this proceeding must reflect the risks of a market in which Verizon faces facilities-based competition. . . 101

The use of historic book equity and debt ratios in the order of the majority fails to comply with TELRIC. As the evidentiary record in this proceeding makes clear, this capital structure reflects the legacy of a regulated monopoly utility, not the capital structure of a competitive firm (which is the TELRIC standard). Using this capital structure constitutes obvious legal error.

Moreover, this legal error has dramatic impact on the cost of capital. Using a using a capital structure more in line with market conditions, such as the 74% equity and 26% capital structure that the Joint Advocates own witness testified as market-based, would raise the cost of capital to 10.74%, or 48 basis points above that adopted in the order of the majority. This is a significant amount and thus this legal error would seriously affect the level of UNE rates.

The difficulties that the order of the majority cites as justifying abandoning this model are clearly not insurmountable. Indeed, we note that neither the initial proposed decision of the Administrative Law Judge, the initial alternate proposed decision of Commissioner Wood, the alternate proposed decision of Commissioner Kennedy, or the alternate proposed decision of Commissioner Peevey filed in this proceeding reached the conclusion that LoopCAT is unusable. Each elected to average its results with those of HM 5.3 to counterbalance HM 5.3 deficiencies. In a proceeding that has lasted almost three years and has relied extensively on two computer models for developing its record, the decision to abandon one model at the last minute for computational difficulties that staff encountered in the pressure to produce a final decision is patently arbitrary and capricious.

As the record in this proceeding makes clear, HM 5.3, although yielding average costs very similar to that of LoopCAT, yields a very different pattern of costs. HM 5.3 produces much lower costs in the urban zones, and higher costs in the more rural regions. Thus, HM 5.3 produces discounted prices on loops in areas where competition occurs with low costs in areas where competition has not occurred. This is a suspicious pattern and extremely self-serving to those sponsoring this model. The failure of the order of the majority to discuss this pattern of modeling cost in its discussion of the reasons for choosing this pattern over either that produced by LoopCAT (or by averaging LoopCAT and HM 5.3) is a serious deficiency. Indeed it suggests that the order of the majority failed to focus on the pattern of prices resulting from its modeling choices. This action constitutes another instance of arbitrary action by the Commission.

For all these reasons, I must respectfully dissent.

/s/ SUSAN P. KENNEDY

Susan P. Kennedy

Commissioner

San Francisco, California

September 23, 2004

95 See In the Matter of Unbundled Access to Network Elements, WC Docket No. 04-313, and Review of the Section 251 Unbundling Obligations of Incumbent Local Exchange Carriers, CC Docket No. 01-330, Order and Notice of Proposed Rulemaking, FCC 04-179 (rel. August 20, 2004), para. 29. (emphasis added). 96 AT&T and MCI v. Pacific Bell and the CPUC, 375 F.3d 894 (9th Cir. U.S. Ct. of App., July 14, 2004.) 97 See, e.g., JA/Klick, 2/7/03, paras. 27-39, JA/Donovan-Pitkin-Turner, 2/7/03, para. 124, and JA Reply Comments, 2/7/03, pps. 27-28, 39-40, and 51. 98 In the Matter of Review of the Section 251 Unbundling Requirements of Incumbent Local Exchange Carriers, CC Docket Nos. 01-338, 96-98, 147, Report and Order on Remand and Further Notice of Proposed Rulemaking, FCC 03-36 (rel. August 21, 2003), hereinafter "TRO." 99 In the Matter of Petition of WorldCom, Inc., CC Docket Nos. 00-218, -249, -251, Memorandum Opinion and Order, 18 FCC Rcd. 17, 772, DA 03-2738 (rel. August 29, 2003), hereinafter "VA Arbitration Order." 100 TRO, ¶ 680. 101 VA Arbitration Order, ¶ 63. We notes that the FCC's Wireline Competition Bureau then went on to calculate a 13.068% as the correct cost of capital, far in excess of that adopted in the order of the majority. 102 AT&T Communications v Illinois Bell Tel. Co., Inc., 349 F.3d 402, 411 (7th Cir. 2003).

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