20030418Staff 2nd Resp - Attach k -1 Reply Comments of ATT.htm

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Google is not affiliated with the authors of this page nor responsible for its content. These search terms have been highlighted:  reply  comments  at&t  corp  fcc  docket  no  01  338  july  Page 1 Reply Comments of AT&T Corp. July 17, 2002 Before the FEDERAL COMMUNICATIONS COMMISSION Washington, D.C. 20554 In the Matter of Review of the Section 251 Unbundling Obligations of Incumbent Local Exchange Carriers Implementation of the Local Competition Provisions of the Telecommunications Act of 1996 Deployment of Wireline Services Offering Advanced Telecommunications Capability ) ) ) ) ) ) ) ) ) ) ) ) ) CC Docket No. 01-338 CC Docket No. 96-98 CC Docket No. 98-147 REPLY COMMENTS OF AT&T CORP. David W. Carpenter Sidley Austin Brown & Wood Bank One Plaza 10 South Dearborn Street Chicago, IL 60603 [phone] Ronald S. Flagg James P. Young C. Frederick Beckner III Michael J. Hunseder Sidley Austin Brown & Wood LLP 1501 K Street, N.W. Washington, D.C. 20005 [phone] Mark C. Rosenblum Lawrence J. Lafaro Richard H. Rubin AT&T Corp. 295 North Maple Avenue Basking Ridge, NJ 07920 [phone] James J. Valentino Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C. 701 Pennsylvania Avenue, N.W. Suite 900 Washington, D.C. 20004 [phone] July 17, 2002 Page 2 Reply Comments of AT&T Corp. July 17, 2002 EXECUTIVE SUMMARY AT&T's comments demonstrated that the Commission's unbundling rules will be current and faithful to the Telecommunications Act of 1996 insofar as ­ and only insofar as ­ they give competitors unrestricted access to all levels of ILEC loops (including NGDLC loops) and transport, to loop/transport combinations, and to switching obtained as part of the UNE-Platform ("UNE-P") to provide service to all customer locations that are served by voice-grade loops. Because the Commission's current rules have allowed CLECs to obtain UNE-P to serve residential customers in States that have set reasonable UNE rates, these rules have begun to generate significant residential competition that is creating great consumer benefits and that otherwise would not exist. At the same time, although limited facilities-based competition has developed for large business customers that require substantial amounts of service, AT&T demonstrated that the current restrictions on access to NGDLC loops, to existing loop/transport combinations, and to unbundled switching for certain customer locations ­ and the absence of the electronic loop provisioning similar to that which allowed long distance competition ­ are preventing broader development of switch-based competition. Notably, this form of facilities-based competition is the most feasible because of the huge natural monopoly characteristics of the ILECs' loops and transport facilities. It is also the most meaningful because loops and transport (as opposed to switches) do not permit CLECs to offer customers significant service differentiation. Accordingly AT&T, together with all of the State commissions that filed comments, urged the Commission to retain the existing list of UNEs and eliminate or significantly modify the three existing restrictions on their availability. Further, AT&T urged that the Commission not sanction the de-listing of unbundled switching (and UNE-P) for customers served by voice-grade Page 3 Reply Comments of AT&T Corp. July 17, 2002 ii loops until ILECs provide electronic loop provisioning for the affected customers and a market for competitive switching develops. Since the opening comments were filed, two major judicial decisions have been issued that bear directly on the issues in this proceeding. In Verizon Telephone Cos. v. FCC, 122 S. Ct. 1646 (2002), the Supreme Court held that broad unbundling is not just permitted, but is required, by the objectives of the 1996 Act. It held that ending incumbents' monopolies and creating local competition is an "end in itself" under the Act and that the Act is designed to "jump-start" local competition by "reorganiz[ing]" the incumbents' monopolies to "make them vulnerable to interlopers" and by giving "aspiring competitors every possible incentive to enter local retail telephone markets, short of confiscating the incumbents' property." Id. at 1654, 1661. The Court recognized that ILECs "have almost an insurmountable competitive advantage" over new entrants and that the Act is intended to allow "hundreds" of new entrants to access elements that are "costly to duplicate" even if there are some "large competitive carriers" with the "resources" to replicate the elements economically. Id. at 1662, 1672 & n. 27. But only days later, in USTA v. FCC, 290 F.3d 415 (D.C. Cir. 2002), the D.C. Circuit remanded the Commission's 1999 UNE Remand Order and vacated and remanded its Line Sharing Order. Critically, USTA did not pass on the validity of the Commission's decision to order the unbundling of any specific elements, and the Court did not direct the Commission to exclude any particular elements from the unbundling requirements on remand. But the Court held, relying on Verizon , that there were narrow deficiencies in the Commission's prior orders, and gaps in its evidence and explanation, that had to be remedied on remand. In particular, the Court held that the UNE Remand Order had adopted an impairment standard that was overbroad in that it permitted determinations to rest on cost disparities that were "universal" between new Page 4 Reply Comments of AT&T Corp. July 17, 2002 iii entrants and incumbents in all markets, rather than those "linked ( in some degree ) to natural monopoly" characteristics. USTA , 290 F.3d at 427. It also concluded that, in adopting national unbundling rules, the Commission had not explained why it did not address potential "market specific variations in competitive impairment" that result from the historic practice of promoting universal service through the use of implicit subsidies. Id. at 422. The Court also stated that the Commission had not sufficiently responded to the incumbents' claims that substantial overbreadth in unbundling rules is not "costless," but would lead to reduced investment by both CLECs and ILECs. Id. at 422-23. Finally, the Court held that the Commission's Line Sharing Order had improperly failed to address claims that the "intermodal" competition provided by cable and satellite internet access services was adequate to satisfy the objectives of the Act. Id. at 428-29. The incumbents have publicly proclaimed that USTA means that the availability of UNEs should now be radically constricted. But USTA permits no such result. To the contrary, particularly when the decision is read in light the Supreme Court's Verizon decision ­ as it must be ­ USTA squarely forecloses the adoption of the incumbents' claims on the record before the Commission here. The fundamental fact is that although the record before the Commission in the UNE Remand Order was thin and primarily theoretical and predictive, there are now over three years of actual marketplace experience with UNE-P and with the effects of UNE availability on competition and on investment. This experience dramatically underscores that, in today's market, the natural monopoly characteristics of the ILECs' local exchanges mean that the only alternative to competition through UNE-P (and self-provisioned packet switching in line- splitting arrangements) is NO COMPETITION AT ALL for residential customers and low volume business locations. The experience further confirms that, although CLECs have enormous Page 5 Reply Comments of AT&T Corp. July 17, 2002 iv incentives to invest in alternative facilities whenever they believe they can do so at costs that are even close to the price of a UNE, (i) there are numerous interrelated barriers to entry through alternative facilities, (ii) past efforts to invest have led to underutilized competitive facilities, bankruptcies, and waste, and (iii) CLECs cannot efficiently incur such investments unless UNEs are available. UNEs thus promote investment by CLECs. Moreover, the Supreme Court has recognized that it is "commonsense" that ILECs also have significant incentives to invest when, as here, unbundling leads to some facilities-based competition. This common sense proposition has been abundantly confirmed by the statistical evidence demonstrating that CLEC rights to obtain UNEs under favorable conditions have no adverse effect upon, and if anything have affirmatively promoted, investment by ILECs. In this regard, the situation here is precisely analogous to the one the Commission faced after its 1999 collocation rules were vacated and remanded by the D.C. Circuit on the ground that the Commission failed to give any "limiting" effect to the term "necessary" in section 251(c)(6). See GTE Services Inc. v. FCC , 205 F.3d 416 (D.C. Cir. 2000). Although the incumbents claimed that the D.C. Circuit's decision required that the collocation rules be gutted, an extensive record that detailed the technological and economic facts requiring broad collocation was compiled for the first time in the remand proceeding. On the basis of that greatly enhanced record, the Commission adopted expanded collocation requirements ( e.g. , by requiring collocation of certain switching equipment) in an order that the D.C. Circuit has since "easily" upheld. Verizon Telephone Cos. v. FCC, No. 01-371 (D.C. Cir. June 18, 2002). A comparable outcome is required here, for as the Commission recognized, the most probative evidence in making unbundling determinations is "actual marketplace experience" ( Notice , ¶ 2), and the evidence Page 6 Reply Comments of AT&T Corp. July 17, 2002 v presented by CLECs ­ as confirmed by the State commissions who are responsible for day to day administration of the Act ­ compels adoption of AT&T's proposals. AT&T's reply comments are organized as follows. Part I discusses the impairment standard to be applied in light of the decisions in Verizon and USTA. It demonstrates that USTA's criticism of the impairment standard adopted in the UNE Remand Order is very narrow by its own terms and must be so read in light of Verizon. It further demonstrates that the cost and other disparities CLECs rely on here to support their claims of impairment are all directly "linked" to natural monopoly characteristics of the relevant ILEC facilities and establish that they are not suitable for competitive supply by multiple firms ­ particularly if UNEs are not available. Part II addresses the significance of subsidies to the Commission's impairment determinations. It demonstrates that section 254 of the Act and the Supreme Court's holding in AT&T v. Iowa Utilities Bd., 525 U.S. 366, 392-93 (1999), permit the Commission to declare that any existing implicit subsidies in local retail rates are irrelevant to unbundling determinations under section 251(d)(2). And in all events, it demonstrates that the evidence establishes CLECs suffer a "net impairment" if they cannot use UNEs to serve customers who are charged "above- cost" rates, and that CLECs are impaired in efforts to provide telecommunications service to any "rural and/or residential customers" who receive "underpriced" service. Part III addresses the ILECs' claim that unbundling saps the ILECs' incentive to deploy "new" and "broadband" facilities and shows that in fact the opposite is true. As the Supreme Court has held, it is "commonsense" that the competition facilitated by unbundling gives the ILECs incentives to upgrade their facilities. Verizon , 122 S. Ct. at 1676 n.33. This "commonsense" is confirmed by marketplace evidence showing that, despite existing unbundling Page 7 Reply Comments of AT&T Corp. July 17, 2002 vi rules, the ILECs have already upgraded their networks to provide DSL-based services to the majority of their customers. And this "commonsense" is confirmed by hard empirical evidence that flatly disproves the ILECs' hypothesis. Part III also refutes the ILECs' alternative claim that unbundling NGDLC loops is costly. As explained therein, the costs of providing access to the "unified loop" at the central office are minimal, especially compared to the alternatives the ILECs propose. Part III further supports the position that the Commission should work aggressively to promote the deployment of FTTH because this technology promises revolutionary changes that could enormously benefit consumers and the economy. The record is clear, however, that even under the most optimistic assumptions FTTH is still in its infancy and numerous economic and other issues must be resolved before FTTH can be widely deployed. Thus, future prospects for FTTH do not support ILEC claims that the Commission should restrict CLEC access to unbundled NGDLC loops, especially since there is no real prospect that allowing access to such loops will prevent or impair the deployment of FTTH. It is clear that the current judgment of the investment community ­ and the ILECs themselves ­ is that FTTH is too expensive to implement on anything other than a trial basis, and no ILEC has plans to do more in the near term. Moreover, there are other significant issues, both practical and cost-related, that affect both the supply of and demand for FTTH that must be resolved before FTTH can be broadly implemented. For these reasons, AT&T supports the adoption of a separate proceeding in which the Commission takes a comprehensive look at the subject in order to determine the best way to ensure deployment of this technology, while not undermining the Act's goal of opening local markets to competition. Page 8 Reply Comments of AT&T Corp. July 17, 2002 vii Part IV rebuts the flip side of the ILECs' investment argument ­ that unbundling impairs CLECs' incentives to invest in facilities. Again, the record overwhelmingly demonstrates that unbundling promotes CLEC facilities-based investment and that many CLECs radically over - invested in their own facilities before they had developed the customer bases necessary to support such investments. Indeed, the "capital crisis" in telecommunications is largely a function of the fact that too many fledgling competitors accepted the ILECs' "build it and they will come" philosophy and have been forced to recognize that the natural monopoly characteristics of local telephone markets preclude such a strategy. In all events, however, basic economics predicts that CLECs will, whenever possible, invest in their own facilities whenever it is economically feasible in order to avoid dependence upon the ILECs ­ their principal competitor ­ as a source of critical inputs. Likewise, USTA recognizes that a key benefit of UNEs is that they serve as a "bridge" that allows CLECs to overcome natural monopoly entry barriers to the deployment of their own facilities. And this economic theory is borne out not only by the substantial facilities investments made by AT&T and other CLECs since adoption of the Act, but also by econometric evidence showing that AT&T's facilities investments are much greater in States that require ILECs to provide reasonable access to UNEs. Part V summarizes the views of State commissions on the issues raised in the Notice . The States uniformly agree that the Commission should retain its current national list of UNEs in general and ensure the availability of UNE-P and broadband related elements in particular. In this regard, the State commissions show that existing levels of intermodal competition have been insufficient to constrain ILEC market power. Their comments also confirm that the States are in the best position to assess local market conditions and, therefore, should be assured that they Page 9 Reply Comments of AT&T Corp. July 17, 2002 viii may continue to extend the national list of UNEs as competitive conditions warrant in their jurisdictions. Parts VI through X addresses the application of the impairment standard to individual elements. Part VI addresses impairment regarding loops in general. This part demonstrates that loops ­ including high-capacity loops ­ are quintessential bottleneck facilities that are "wasteful" to duplicate. It also demonstrates that CLECs face a host of additional entry barriers in any effort to self-deploy loops. In particular, it shows that the ILECs enjoy enormous first mover advantages. Whereas ILECs were able to obtain easy access to public rights of way and all commercial buildings, municipalities and building owners uniformly refuse to provide CLECs equivalent access and routinely impose a host of discriminatory conditions for such access or refuse it altogether. Finally, this part rebuts ILECs' claims that the "real" level of loop deployment by CLECs is well in excess of the data that the CLECs have reported to the Commission. This claim is flatly untrue and is based on flawed methodologies, including one that considers CLEC purchases of special access as though they were self-deployed loops. Thus, all the ILECs have proven is the extent to which CLECs remain dependent upon ILEC facilities to reach customers. Part VII addresses NGDLC loops. This part demonstrates once again that CLECs are impaired without unbundled access to the unified loop element ­ just as they are impaired without access to all other types of loops. In particular, this part details how the cost and other disparities CLECs face with respect to unified loops go to the heart of the ILECs' natural monopoly. In fact, the record reinforces AT&T's prior showings that the potential alternatives to accessing the unified loop ­ self-provisioning loop facilities, collocation at (or near) remote terminals, and utilization of spare copper ­ are prohibitively expensive, provide materially Page 10 Reply Comments of AT&T Corp. July 17, 2002 ix inferior access, or are technically impracticable in all circumstances in which the ILECs use the same architecture to provide both voice and DSL-based services. AT&T also responds to the ILECs' hypothetical arguments concerning the availability of practical substitutes. In particular, AT&T shows that the CLECs' real-world experience demonstrates CLECs cannot enter the market using the ILECs' proposed alternatives. In addition, AT&T sets forth the legal and factual reasons why the existence of cable modem service does not provide a cognizable alternative to unified loop unbundling. Finally, this part responds to specific ILEC arguments that mischaracterize the NGDLC architecture and misread the law in an attempt to limit the CLECs' right to access the unified loop as an unbundled network element. As AT&T shows in detail, the loop element, not packet switching, is the relevant reference point for any consideration regarding whether competitors are impaired without unbundled access to such facilities. Part VIII addresses dedicated transport. This part shows that, just like loops, transport facilities are characterized by enormous economies of scale and sunk costs, and therefore have strong natural monopoly characteristics. In addition, this part demonstrates that the same first mover advantages the ILECs enjoy with regard to rights of way also impair CLECs' ability to self-deploy transmission facilities. And even in the few instances in which transport facilities could be self-deployed profitably, and in which rights of way are available, existing use and commingling restrictions prevent CLECs from aggregating sufficient traffic to gain the same economies of scale as ILECs. These basic economic barriers to competitive deployment of transport are confirmed, and not refuted, by the marketplace evidence. Contrary to the ILECs' claims, there is not a vibrant "wholesale" market for transport. Indeed, the ILECs' "poster child" for wholesaling transport, MFN, has gone bankrupt, taking with it two billion dollars in Verizon Page 11 Reply Comments of AT&T Corp. July 17, 2002 x investment. And as to the CLECs that remain in the market, the transport facilities that they have deployed are quite limited and generally traverse the same few routes that can support competitive alternatives. Thus, the ILECs simply fail to show that, if dedicated transport were freed of unbundling requirements, CLECs would have a realistic possibility of being able to obtain (or construct) alternative facilities at comparable unit costs to the ILECs. Part VIII also demonstrates that the Commission must now eliminate the "interim" use and commingling restrictions on use of existing loop/transport combinations and that, in light of the Supreme Court's reinstatement of the "new combination" rules (47 C.F.R. §§ 51.315(c)-(f)), the Commission must authorize unrestricted access to new loop-transport combinations. These restrictions have operated to preclude competition in exchange access services, prevented use of loop/transport combinations to provide local service, and impeded the CLECs' ability to provide service through their own facilities. Part IX addresses local switching. This part shows CLECs' impairments in accessing voice-grade loops with their own switches, and explains why ILEC switching must be unbundled as part of a UNE-P combination for CLECs seeking to serve any customer location that requires only voice-grade loops. Without such unbundling, CLECs cannot, as a practical, economic, or operational matter, use their own switches to connect to those loops, and thus are precluded from serving the vast majority of the nation's customer premises. Unlike the ILECs, whose monopoly-funded networks are designed so that voice-grade loops already connected to ILECs switches by simple cross-connect jumper wires, CLECs face three impairments in connecting such loops to their own switches. First, the manual hot cut process used to cutover loops inevitably leads to outages and other service problems that ILEC customers do not experience and customers will not accept. Second, the ILECs have equipped Page 12 Reply Comments of AT&T Corp. July 17, 2002 xi an increasing percentage of loops with digital loop carrier ("DLC") equipment, which increases the efficiency of their loop plant but makes it practically and economically impossible for CLECs to obtain nondiscriminatory access to such loops. Third, CLECs ­ but not ILECs ­ face significant costs to extend their customers' loops to their switches, requiring them to incur collocation and transport-related costs that the ILECs do not. Significantly, these impairments squarely meet even the standard of impairment set forth in USTA because each of these impairments is directly "linked" to the CLECs' difficulties in accessing customers served by the ILECs' natural monopoly voice-grade loops. For these reasons, all CLECs and all State commissions support the broad availability of unbundled switching as part of a UNE-P combination. Predictably, the ILECs advocate the complete elimination of unbundled switching, but they fail to refute the CLECs' marketplace evidence of impairments that are directly tied to the central natural monopoly characteristics of the incumbents' networks. The ILECs point merely to switch deployment and line counts, but their figures ­ which are exaggerated ­ fail to account for the CLECs' direct evidence that CLECs cannot practically or economically use even the switches they have deployed to serve the large majority of customer locations whose low usage levels merit only the use of voice-grade loops. Given these significant impairments ­ all of which are rooted in the ILECs' inherently discriminatory network architecture ­ the Commission should make clear that it will not consider removing local switching (and UNE-P) from the unbundling requirements for customers served by voice-grade loops unless and until the ILEC has implemented a workable electronic loop provisioning process that eliminates the need for manual hot cuts and there is evidence that a competitive market for local switching has developed. Page 13 Reply Comments of AT&T Corp. July 17, 2002 xii Part IX also explains that the Commission should likewise confirm that ILECs are required to provide "transiting" at TELRIC rates. Even if (and to the extent) that ILECs are freed from obligations to provide unbundled switching, that does not alter the ILECs' separate duty to make their switching and related functionalities available to competitors for use in terminating traffic, whether such traffic is terminated directly to ILEC customers ( i.e. , reciprocal compensation) or to the customers of other carriers (such as other CLECs, CMRS providers and neighboring ILECs) who are also directly interconnected with the ILEC. In all such cases, sections 251(c)(2), 251(c)(3) and 252(d)(1) require the ILECs to provide interconnection functionalities at TELRIC-based rates. Part X addresses the other UNEs ­ shared transport, signaling, databases, and OSS. First, CLECs who use unbundled ILEC switching would clearly be impaired without access to shared transport. Shared transport is necessary to enable CLECs to use ILEC switching cost-effectively and provide comparable service quality to the ILEC. The Commission has already found that requiring CLECs to build (or lease) dedicated transport in these situations would obviously be wasteful because it would require CLECs to invest in capacity that would never be fully utilized. Second, signaling must be available to any CLEC who uses switching, for the Commission has recognized that the use of ILEC switching requires the use of ILEC signaling, and the ILECs do not argue otherwise. Third, in the case of databases, only the ILECs are in position to populate accurately the CNAM and LIDB databases. Attempts by CLECs to do so would result in wasteful expenditure of resources to create inadequate databases. Lastly, even the ILECs do not contest that CLECs cannot obtain nondiscriminatory access to UNEs, ILEC services and interconnection unless they make their OSS available as an unbundled element. Page 14 Reply Comments of AT&T Corp. July 17, 2002 xiii Finally, Part XI addresses the role of the States and preemption issues. Given the States' virtually unanimous support for the current UNE list (and even for an expanded list), the ILECs urge broad scale preemption of State unbundling determinations. This request is foreclosed by the plain text of the Act, and it has been repeatedly rejected by the Commission. Even the Supreme Court has acknowledged that, in implementing UNEs, the Commission's unbundling determinations constitute a floor , and that States may build upon those determinations to establish additional such obligations under both federal and state law ­ as many States have done. Part XI also explains that the State commissions should have the lead role in any future "granular" "de-listing" of UNEs. Even if the Commission were to remove a UNE from the national list, a State commission may preserve that UNE on its State list, either under existing federal law, existing or new state law, or both. Accordingly, no UNE can be removed from the list of available UNEs in any individual State unless both this Commission and the State commission concur. Thus, if and when existing national barriers to the self-deployment of network facilities are eliminated, the Commission should establish a cooperative process in which the Commission establishes the guidelines by which impairment should be judged and State commissions take the lead in developing the factual evidence and applying that evidence to the controlling legal standard. Page 15 Reply Comments of AT&T Corp. July 17, 2002 TABLE OF CONTENTS EXECUTIVE SUMMARY ............................................................................................................. i INTRODUCTION .......................................................................................................................... 1 ARGUMENT................................................................................................................................ 27 I. THE FACTORS ON WHICH AT&T RELIES ESTABLISH "IMPAIRMENT" UNDER VERIZON AND USTA FOR EACH RELEVANT PRODUCT AND GEOGRAPHIC MARKET............................................................................................... 27 A. Although USTA Prohibits Reliance On "Universal" Cost Disparities, It And Verizon Establish That The UNE Remand Order's Impairment Analysis Is Otherwise Valid And That Impairment Exists When Barriers To Facilities Entry Give Elements A "Degree" Of Natural Monopoly Characteristics....................................................................................................... 29 B. Impairment Is Established By The Presence Of Economies of Scale, Sunk Costs Or Other Entry Barriers That Are Linked To Natural Monopoly Characteristics Of The ILECs' Networks And That Make The Elements Unsuitable For Multiple Competitive Supply, And The Fact Of "Actual Deployment" Of Facilities Is Insufficient To Establish Non-Impairment............ 37 C. AT&T's Impairment Showings Do Not Rely On Any "Universal" Cost Characteristics, But Are Based On Cost Disparities That Are Linked To Natural Monopoly Characteristics Of Local Telecommunications Facilities And That Establish That There Are Substantial Barriers To Entry Through Use Of Alternative Facilities. ............................................................................... 43 D. AT&T's Showing Of Impairment Also Rests On Meaningful Practical Differences In Timeliness, Quality, Operational And Technical Impediments, And Ubiquity.................................................................................. 49 II. THE COMMISSION CAN AND SHOULD DECLARE ANY EXISTING SUBSIDIES TO BE IRRELEVANT TO ITS UNE DETERMINATIONS, BUT IN ALL EVENTS THE RECORD DIRECTLY PROVES CLECS SUFFER IMPAIRMENTS FOR BOTH "ABOVE-COST" AND "BELOW-COST" CUSTOMERS AND ADDRESSES ALL "MARKET SPECIFIC VARIATIONS IN COMPETITIVE IMPAIRMENT.".............................................................................. 59 A. Section 254 And The Supreme Court's IUB Decision Make The Existence of Implicit Subsidies Irrelevant To The Commission's Unbundling Determinations...................................................................................................... 62 B. In All Events, The Record Evidence Establishes That Denial Of Access To UNEs Impairs Service To Above-Cost Customers At Current Retail Rates That Include Any Implicit Subsidies. ................................................................... 66 Page 16 Reply Comments of AT&T Corp. July 17, 2002 ii C. The Same Evidence Establishes Impairment In Serving "Below-Cost" Customers. ............................................................................................................ 69 III. THE COMMISSION SHOULD REJECT THE ILECS' REQUEST TO EXCEPT "BROADBAND" AND "NEW" FACILITIES FROM THE ACT'S CORE UNBUNDLING OBLIGATIONS.................................................................................... 73 A. The Commission Should Reject The ILECs' Arguments That Unbundling Rules Impede Their Incentives To Deploy NGDLC Loops And Should Consider Important Issues Regarding Deployment Of FTTH In A Separate Proceeding............................................................................................................. 73 B. There Is No Basis In Law Or Economics For The ILECs' Requested "New" And "Broadband" Facilities Exceptions To The Act's Unbundling Obligations............................................................................................................ 75 1. Neither Existing Levels of Intermodal Competition nor Principles of Regulatory Parity Permit the Commission to Eliminate the Act's Core Unbundling Obligations for Existing Broadband Facilities............. 92 2. There is no Legal or Economic Justification for the ILECs Proposed "New Facilities" Exception to the Act's Unbundling Requirements. ......................................................................................... 101 a. CLECs lack the ILECs' economies of scale and scope and cannot construct "new" facilities in a manner comparable to the ILECs. ................................................................................... 102 b. Providing access to unified loops will not substantially increase ILEC costs..................................................................... 109 c. TELRIC-based rates do not inhibit efficient ILEC investment................................................................................... 115 d. The ILECs' allies' attempts to "quantify" the impact of unbundling on broadband investment incentives are fundamentally flawed.................................................................. 121 IV. ADOPTION OF THE ILECS' PROPOSALS WOULD DISCOURAGE, AND IN MANY INSTANCES FORECLOSE, FURTHER FACILITY INVESTMENT BY CLECS, WOULD FURTHER ENTRENCH THE ILECS' MONOPOLIES, AND WOULD ELIMINATE VITAL PRO-CONSUMER BENEFITS.................................. 126 V. THE STATE COMMISSIONS OVERWHELMINGLY SUPPORT RETENTION, AND INDEED, EXPANSION, OF THE CURRENT UNE LIST......... 136 Page 17 Reply Comments of AT&T Corp. July 17, 2002 iii VI. CLEC IMPAIRMENTS RELATING TO ALL-COPPER, DLC-EQUIPPED, AND "HIGH-CAPACITY" FIBER LOOPS AFFECT ALL CUSTOMER GROUPS SERVED BY SUCH FACILITIES AND SHOULD REMAIN AVAILABLE AS UNBUNDLED ELEMENTS ON A NATIONWIDE BASIS.......... 137 A. There Is No Serious Dispute That CLECs Would Be Impaired Without Access To Unbundled Copper and DLC-Equipped Loops Because Of Cost Disparities Linked To Natural Monopoly Characteristics Of The Incumbents' Networks........................................................................................ 137 1. Most of the Cost of Loop Deployment is in the Structures and Rights of Way, not in the Copper or Fiber Conductor............................ 137 2. ILECs Enormous Cost Advantages with Respect to Copper-Based Loops are Directly Linked to Natural Monopoly Characteristics of their Networks......................................................................................... 137 3. The Possibility of "Intermodal" Loop Competition has no Impact on CLECs' Impairment........................................................................... 137 4. CLECs Cannot Serve Any Low Volume Customer Locations With Self-Provided Loops. .............................................................................. 137 B. The Same Entry Barriers ­ And More ­ Apply To "High-Capacity" Loops...... 137 1. CLECs Seeking to Deploy Fiber Loops Face Severe Cost and Practical Disparities because they Lack the Economies of Scale and Scope that are Linked to the Incumbents' Monopolies.................... 137 2. CLECs Seeking to Deploy High-Capacity Loops Face additional Barriers to Entry, especially with Respect to Building Access. ............. 137 3. The ILEC Report's Claim That CLECs Have Widely Deployed Their Own Fiber Loops Is Patently False. .............................................. 137 VII. The Comments Reinforce That CLECs Are Impaired Without Access to the Full Features, Functions, and Capabilities of a Unified Loop, and There Are No Rational Policy Bases Upon Which to Deny Access to Such Loops.............................. 137 A. Introduction And Summary. ............................................................................... 137 B. The Comments Reinforce the Prior Showings That CLECs are Impaired Without Access to Unified Loops....................................................................... 137 1. The Increased Costs CLECs Would Incur in Attempting to Duplicate the ILECs' Unified Loop Element Render Self- Deployment Uneconomic and Impracticable.......................................... 137 Page 18 Reply Comments of AT&T Corp. July 17, 2002 iv 2. The Comments Provide Further Support that RT/SAI Collocation is Prohibitively Expensive and Technically Impracticable in all Circumstances......................................................................................... 137 3. The Comments Reaffirm that All-Copper Loops are not a Substitute for Unbundled Access to Unified Loops. .............................. 137 4. The Existence of Cable Modem Services is Irrelevant to the Question of Whether CLECs are Impaired without Access to the Unified Loop, because lack of Access to such Loops Walls off Customers and Impairs Voice Competition............................................ 137 C. Despite the ILECs' Attempts to Confuse the Issues, Nothing About the Deployment of an NGDLC Loop Changes Either the Basic Characteristics of a Loop or the CLECs' Right to Access Such Loops as an Unbundled Element. .............................................................................................................. 137 VIII. CLECS WOULD BE SEVERELY IMPAIRED IN THEIR ABILITY TO OFFER SERVICE WITHOUT UNBUNDLED DEDICATED TRANSPORT, AND THE COMMISSION SHOULD IMMEDIATELY ELIMINATE ALL RESTRICTIONS ON THE USE OF LOOP-TRANSPORT COMBINATIONS. ......... 137 A. Deployment Of Transmission Facilities Is Uneconomic In The Vast Majority Of Cases............................................................................................... 137 B. Market Experience Since The UNE Remand Order Confirms That Self- Deployed Transport Facilities Are Not Efficiently Utilized, And That Alternative Transport Is Generally Not Available.............................................. 137 C. State Commissions Should Consider De-Listing Dedicated Transport Only On A CLEC-Specific Basis Along Particular Routes Based On CLEC Traffic Demand, And The Commission Should Not Adopt The Simplistic and Overinclusive "Triggers" Proposed By The ILECs..................................... 137 1. State Commissions' Recommendations Concerning De-Listing Should Focus On Whether Individual CLECs Have Realistic Alternatives On Each Affected Route..................................................... 137 2. The Commission Should Reject The "Triggers" Proposed By The ILECs. ..................................................................................................... 137 D. The Other Transport-Related Claims In the ILEC Report Are Not Supported By Fact............................................................................................... 137 E. The Commission Must Eliminate All Rules That Force CLECs To Use Special Access Instead of UNEs......................................................................... 137 Page 19 Reply Comments of AT&T Corp. July 17, 2002 v 1. There is no Legal Basis for the Commission's Use Restrictions, and the Commission's Use Restrictions do not Apply to New Combinations. ......................................................................................... 137 2. The Commission's Use Restrictions Are Inhibiting Competition, Especially Facilities-Based Competition. ............................................... 137 3. The Ban On Commingling Should Be Eliminated Immediately. ........... 137 4. The Commission Should Not Permit ILECs To Impose Termination Liabilities On CLECs Converting Special Access To UNEs....................................................................................................... 137 IX. WITHOUT ACCESS TO UNBUNDLED SWITCHING AND UNE-P, CLECS CONTINUE TO BE IMPAIRED IN COMPETING FOR ALL CUSTOMER LOCATIONS SERVED WITH VOICE-GRADE LOOPS............................................ 137 A. Introduction And Summary ................................................................................ 137 B. Actual Market Experience Shows That CLECs Are Impaired In Using Their Own Switches To Serve Customer Locations That Require Less Than A DS-1 Level Loop. .................................................................................. 137 1. Hot Cut Impairments............................................................................... 137 2. Collocation And Transport Cost Impairments . ....................................... 137 3. Lack of Access to DLC Loops . ............................................................... 137 C. The Existing Line Limitation On CLEC Access To Unbundled Local Switching Is Arbitrary, Impedes Competition, And Discourages Sensible Investment........................................................................................................... 137 D. UNE-P Competition Provides Real Economic Benefits To Consumers ............ 137 1. Limiting Access to Unbundled Local Switching and UNE-P would Stifle Newly Emerging Competition ...................................................... 137 2. CLEC are "Choosing" to Rely on UNE-P where use of their own Switches is not Practically and Economically Feasible.......................... 137 3. Use of UNE-P will Spur Deployment of CLEC Facilities. .................... 137 4. The Commission should heed the States' Unanimous Call to Retain the Competitive Benefits of UNE-P............................................ 137 Page 20 Reply Comments of AT&T Corp. July 17, 2002 vi E. ILEC Claims Regarding CLEC Switch Deployment Are Overstated And Do Not Rebut The CLECs' Clear Evidence That They Are Impaired Without Access To Unbundled Local Switching To Serve Low-Volume Customer Locations. ........................................................................................... 137 1. ILEC Claims Regarding Competitive Switch Deployment Ignore the CLECs' Actual Impairment Analysis and are Misleading and Inflated .................................................................................................... 137 2. ILEC Estimates of Line Counts are not Credible and are Refuted by the Commission's Own Data ............................................................. 137 3. Competition from Packet and Wireless Switches is Insignificant.......... 137 F. Electronic Loop Provisioning Must Precede Any Consideration Of The Future De-Listing Of Local Switching ............................................................... 137 X. THE COMMENTS CONFIRM THAT THE COMMISSION SHOULD CONTINUE TO REQUIRE ACCESS TO OSS, SHARED TRANSPORT, SIGNALING AND CALL-RELATED DATABASES.................................................. 137 A. The Commission Must Retain Shared Transport As An Unbundled Element. .............................................................................................................. 137 B. The Commission Must Retain Signaling And Call-Related Databases As Unbundled Elements........................................................................................... 137 XI. ADOPTION OF THE ILECS' PROPOSALS FOR MASSIVE PREEMPTION OF PRO-COMPETITIVE STATE ACTION WOULD BE BOTH UNLAWFUL AND BAD POLICY....................................................................................................... 137 A. The Act Makes Clear That Congress Intended States To Impose Additional Unbundling Requirements. ............................................................... 137 B. Preemption Of State Unbundling Decisions Would Be Unsound Public Policy. ................................................................................................................. 137 C. State Commissions Should Conduct De-Listing Proceedings In Instances Where The Commission Has Found That Impairment Exists Generally, But The Factors Demonstrating Impairment May Not Apply On A National Basis. .................................................................................................... 137 CONCLUSION........................................................................................................................... 137 Page 21 Reply Comments of AT&T Corp. July 17, 2002 vii TABLE OF FCC ORDERS CITED IN REPLY COMMENTS Advanced Services Order Memorandum Opinion and Order And Notice Of Proposed Rulemaking, Deployment of Wireline Services Offering Advanced Telecommunications Capability, 13 FCC Rcd. 24012 (1998) Advances Services Recon. Order Order on Reconsideration and Second Further Notice of Proposed Rulemaking, Deployment of Wireline Services Offering Advanced Telecommunications Capability , 15 FCC Rcd. 17806 (2000) Access Reform Order First Report And Order, Access Charge Reform et. al., 12 FCC Rcd. 15982 (1997) Ameritech-SBC Merger Order Memorandum Opinion And Order, Applications Of Ameritech Corp., Transferor, And SBC Communications Inc., Transferee, For Consent To Transfer Control Of Corporations Holding Commission Licenses And Lines Pursuant To Sections 214 And 310(d) Of The Communications Act And Parts 5, 22, 24, 25, 63, 90, 95 and 101 Of The Commissions' Rules, 14 FCC Rcd. 14712 (1999) AOL-Time Warner Merger Order Memorandum Opinion And Order, Applications For Consent To The Transfer Of Control Of Licenses And Section 214 Authorizations By Time Warner Inc. And America Online, Inc., Transferors, To AOL Time Warner Inc., Transferee, CS Docket No. 00-30, 2001 WL 55636 (2001) AT&T Non-Dominance Order Order, Motion of AT&T Corp. to be Reclassified as a Non-Dominant Carrier , 11 FCC Rcd. 3271 (1995) Bell Atlantic-NYNEX Merger Order Memorandum Opinion And Order, Applications Of NYNEX Corp., Transferor, And Bell Atlantic Corp., Transferee, For Consent To Transfer Control Of NYNEX Corp., And Its Subsidiaries, 12 FCC Rcd. 19985 (1997) Wireline Broadband Classification NPRM Notice of Proposed Rulemaking, Appropriate Framework for Broadband Access to the Internet Over Wireline Facilities, et. al. , 17 FCC Rcd. 3019 (2002) Calls Order Sixth Report And Order, Access Charge Reform, 15 FCC Rcd. 12962 (2000) Collocation Remand Order Fourth Report And Order, Deployment Wireline Services Offering Advanced Telecommunications Capability, 16 FCC Rcd. 15435 (2001) Page 22 Reply Comments of AT&T Corp. July 17, 2002 viii First Section 706 Report First Report, Inquiry Concerning the Deployment of Advanced Telecommunications Capability to All Americans in a Reasonable and Timely Fashion, and Possible Steps to Accelerate Such Deployment Pursuant to Section 706 of the Telecommunications Act of 1996 , 14 FCC Rcd 2398 (1999) Interexchange Competition Order Order, Interexchange Competition , 8 FCC Rcd 2659 (1993). ISP Recip. Comp. Order Order on Remand and Report and Order, Implementation of the Local Competition Provisions in the Telecommunications Act of 1996 , 16 FCC Rcd. 9151 (2001). Kansas-Oklahoma 271 Order Memorandum Opinion And Order, Joint Application Of SBC Communications, Inc. et al, For Provision Of In-Region InterLATA Services In Kansas And Oklahoma , 16 FCC Rcd. 6237 (2001) Line Sharing Order Third Report And Order, Deployment of Wireline Services Offering Advanced Telecommunications Capability , 14 FCC Rcd. 20912 (1999) Line Sharing Reconsideration Order Third Report And Order On Reconsideration, Deployment Of Wireline Service Offering Advanced Telecommunications Capability, 16 FCC Rcd. 2101(2001) Local Competition Order First Report And Order, Implementation Of The Local Competition Provisions Of The Telecommunications Act Of 1996, 11 FCC Rcd. 15499 (1996) Michigan 271 Order Memorandum Opinion And Order, Application Of Ameritech Michigan Pursuant To Section 271 Of The Communications Act Of 1934, As Amended, To Provide In-Region, InterLATA Services In Michigan, 12 FCC Rcd. 20543 (1997) Net2000 Complaint Order Memorandum Op. And Order, Net2000 Communications, Inc. v. Verizon , File No. EB-00- 018 (Jan. 9, 2002) New York 271 Order Memorandum Opinion and Order, Application by Bell Atlantic New York For Authorization Under Section 271 Of The Communications Act To Provide In-Region, InterLATA Services In The State Of New York , 15 FCC Rcd. 3953 (1999) Page 23 Reply Comments of AT&T Corp. July 17, 2002 ix Notice Notice Of Proposed Rulemaking, Review Of The Section 251 Unbundling Obligations Of Incumbent Local Exchange Carriers, 16 FCC Rcd. 22781 (2001) Pennsylvania 271 Order Memorandum Opinion and Order, Application of Verizon Pennsylvania Inc. et al. for Authorization to Provide In-Region, InterLATA Services in Pennsylvania , 16 FCC Rcd. 17419 (2001) (Sept. 19, 2001) Pricing Flexibility Order Fifth Report And Order And Further Notice Of Proposed Rulemaking, Access Charge Reform, Price Cap Performance Review For Local Exchange Carriers, 14 FCC Rcd. 14221 ( 1999) Project Pronto Waiver Order Second Memorandum Opinion And Order, Ameritech Corp., Transferor And SBC Communications, Inc., Transferee For Consent To Transfer Control Of Corporations Holding Commission Licenses And Lines Pursuant To Sections 214 And 301(d) Of The Communications Act And Parts 5, 22, 24, 25, 63, 90, 95, And 101 Of The Commissions' Rules, 15 FCC Rcd. 17521 (2000) Rhode Island 271 Order Memorandum Opinion and Order, Memorandum Opinion and Order, Application by Verizon New England Inc., Bell Atlantic Communications, Inc. (d/b/a Verizon Long Distance), Nynex Long Distance Company (d/b/a Verizon Enterprise Solutions), Verizon Global Networks Inc. and Verizon Select Services Inc., for Authorization to Provide In-Region, InterLATA Services in Rhode Island , 17 FCC Rcd. 3300 (2002) Second Section 706 Report Second Report, Inquiry Concerning The Deployment Of Advanced Telecommunications Capability To All Americans In A Reasonable And Timely Fashion, And Possible Steps To Accelerate Such Deployment Pursuant To Section 706 Of The Telecommunications Act Of 1996, 15 FCC Rcd. 20913 (2000) Second Louisiana 271 Order Memorandum Opinion and Order, Application of BellSouth Corporation, et al. for Provision of In- Region, InterLATA Services in Louisiana , 13 FCC Rcd. 20599 (1998) Page 24 Reply Comments of AT&T Corp. July 17, 2002 x Shared Transport Order Third Order on Reconsideration And Further Notice Of Proposed Rulemaking, Implementation Of The Local Competition Provisions In The Telecommunications Act Of 1996, 12 FCC Rcd. 12460 (1997) South Carolina 271 Order Memorandum Opinion and Order, Application of BellSouth Corporation, et al. To Provide In- Region, InterLATA Services in South Carolina , 13 FCC Rcd. 539 (1997) Supplemental Order Clarification Supplemental Order Clarification, Implementation Of The Local Competition Provisions Of The Telecommunications Act Of 1996, 15 FCC Rcd. 9587 (2000) Third Section 706 Report Third Report, Inquiry Concerning The Deployment Of Advanced Telecommunications Capability To All Americans In A Reasonable And Timely Fashion, And Possible Steps To Accelerate Such Deployment Pursuant To Section 706 Of The Telecommunications Act Of 1996, 17 FCC Rcd. 2844 (2002) Texas 271 Order Memorandum Opinion And Order, Application By SBC Communications Inc., Southwestern Bell Telephone Company, And Southwestern Bell Communications Services, Inc. d/b/a Southwestern Bell Long Distance, Pursuant To Section 271 Of The Telecommunications Act Of 1996 To Provide In-Region, InterLata Services In Texas, 15 FCC Rcd. 18354 (2000) UNE Remand Order Third Report And Order And Further Notice Of Proposed Rulemaking, Implementation of the Local Competition Provisions of the Telecommunications Act of 1996 , 15 FCC Rcd. 3696 (1999) Vermont 271 Order Memorandum Opinion and Order, Application by Verizon New England Inc., Bell Atlantic Communications, Inc. (d/b/a Verizon Long Distance), Nynex Long Distance Company (d/b/a Verizon Enterprise Solutions), Verizon Global Networks Inc. and Verizon Select Services Inc., for Authorization to Provide In-Region, InterLATA Services in Vermont , FCC 02-118 (Apr. 17, 2002) Page 25 Reply Comments of AT&T Corp. July 17, 2002 xi TABLE OF AT&T DECLARATIONS CITED IN COMMENTS Attachment Declarations Attached To Reply Comments A Richard Clarke (Clarke Reply Dec.) B Richard Clarke and John Donovan (Clarke-Donovan Reply Dec.) C Anthony Fea and Anthony Giovannucci (Fea-Giovannucci Reply Dec.) D Irwin Gerszberg (Gerszberg Reply Dec.) E Mark Lancaster and Dale Morgenstern (Lancaster-Morgenstern Dec.) F Michael Lesher (Lesher Reply Dec.) E C. Michael Pfau (Pfau Reply Dec.) G Larry Russell (Russell Reply Dec.) H Robert D. Willig (Willig Reply Dec.) Declarations Attached To Initial Comments Ellyce Brenner (Brenner Dec.) Richard Clarke (Clarke Dec.) Irwin Gerszberg (Gerszberg Dec.) Stephen Huels (Huels Dec.) Page 26 Reply Comments of AT&T Corp. July 17, 2002 xii Michael Lesher and Robert Frontera Robert D. Willig (Willig Dec.) Declarations Previously Filed With The FCC In Other Related Proceedings And Incorporated In Reply Comments Alice Marie Carroll and Cynthia Rhodes CC Docket No. 96-98 (filed April 5, 2001) (Carroll-Rhodes Use Restriction Dec.) Anthony Fea and William Taggart CC Docket No. 96-98 (filed April 30, 2001) (Fea-Taggart Use Restriction Dec.) C. Michael Pfau CC Docket No. 96-98 (filed April 30, 2001) (Pfau Use Restriction Dec.) Supplemental Declaration of C. Michael Pfau and Julie Chambers CC Docket No. 00-65 (filed April 26, 2000) (Pfau-Chambers Dec.) Joseph P. Riolo CC Docket No. 98-147 (filed Oct. 12, 2000) (Riolo NGDLC Dec.) Robert Willig CC Docket No. 01-337 (filed March 1, 2002) (Willig LEC BB Dominance Dec.) Robert Willig CC Docket 02-33 (filed May 3, 2002) (Willig Wireline BB Classification Dec.) Page 27 Reply Comments of AT&T Corp. July 17, 2002 Before the FEDERAL COMMUNICATIONS COMMISSION Washington, D.C. 20554 In the Matter of Review of the Section 251 Unbundling Obligations of Incumbent Local Exchange Carriers Implementation of the Local Competition Provisions of the Telecommunications Act of 1996 Deployment of Wireline Services Offering Advanced Telecommunications Capability ) ) ) ) ) ) ) ) ) ) ) ) ) CC Docket No. 01-338 CC Docket No. 96-98 CC Docket No. 98-147 REPLY COMMENTS OF AT&T CORP. Pursuant to the Commission's Notice , AT&T Corp. ("AT&T") respectfully submits its Reply Comments in this proceeding concerning the availability of unbundled network elements under sections 251(c)(3) and 251(d)(2) of the Communications Act of 1934, as amended (the "Act"), 47 U.S.C. §§ 251(c)(3), 251(d)(2). INTRODUCTION{ TC "INTRODUCTION" \F C \L "1" } The Commission instituted this proceeding to determine whether its current unbundling rules remain faithful to the requirements of the 1996 Act and to the objective of promoting switch-based and other types of facilities competition. AT&T's initial comments demonstrated that while the Commission's existing list of UNEs continues to be necessary, switch-based competition has been severely impeded by (1) the current rules' restrictions on access to unbundled switching, to loop-transport combinations, and to next generation digital loop carrier ("NGDLC") loops and (2) characteristics of the incumbents' existing networks that prevent Page 28 Reply Comments of AT&T Corp. July 17, 2002 2 competitive carriers ("CLECs") who self-provision circuit switches from accessing monopoly local loops on terms and costs that are remotely comparable to those that the incumbents' switches enjoy. AT&T thus proposed that the Commission eliminate or modify these restrictions and provide that unbundled switching will remain available for all customer locations served by voice-grade loops until an incumbent local exchange carrier ("ILEC") has implemented electronic loop provisioning and a competitive market for local switching has developed. AT&T's positions were broadly supported in comments of State commissions and CLECs but opposed by the ILECs and their suppliers and surrogates. Since the filing of the opening comments, two major judicial decisions have been issued that bear directly on the issues in this proceeding. In Verizon Tel. Cos. v. FCC , 122 S. Ct. 1646 (2002), the Supreme Court upheld the Commission's network element pricing and new combination rules on grounds establishing that broad unbundling is not just permitted, but required, by the objectives of the Act. Specifically, the Supreme Court held that ending incumbents' monopolies and creating local competition is an "end in itself" under the Act and that the Act is designed to "jump-start" local competition by "reorganiz[ing]" the incumbents' monopolies to "make them vulnerable to interlopers" and by giving "aspiring competitors every possible incentive to enter local retail telephone markets, short of confiscating the incumbents' property." Id. at 1654, 1661. The Court recognized that the ILECs "have almost an insurmountable competitive advantage" over new entrants and that the Act is intended to allow "hundreds" of new entrants to access elements that are "costly to duplicate" even if there are some "large competitive carriers" with the "resources" to replicate the elements economically. Id. at 1672 & n.27. Page 29 Reply Comments of AT&T Corp. July 17, 2002 3 But ten days later, in United States Telecom Ass'n v. FCC, 290 F.3d 415 (D.C. Cir. 2002) (" USTA "), the D.C. Circuit remanded the Commission's 1999 UNE Remand Order and vacated and remanded its Line Sharing Order. Critically, USTA did not pass on the validity of the Commission's decision to order the unbundling of any specific elements, and the Court did not direct the Commission to exclude any particular elements from the unbundling requirements on remand. But the Court held that there were deficiencies in the prior orders, and gaps in evidence and explanation, that had to be remedied on remand. Of most direct relevance here, the D.C. Circuit held, relying on Verizon, that the UNE Remand Order had adopted an impairment standard that was overbroad in one respect. The Court concluded that the standard had improperly permitted the Commission to rely on cost disparities that were "universal" between new entrants and incumbents in all markets, rather than only those disparities that are "linked (in some degree) to natural monopoly" characteristics and that can render an element "unsuitable" for "competitive supply" by "multiple" firms. USTA , 290 F.3d at 426-28. The Court further concluded that the Commission's decision to adopt national unbundling rules that "apply to every geographic market and customer class" had been inadequately explained. Id. at 422-26. The Court was concerned that the Commission may have adopted national rules because it failed to consider "market specific variations in competitive impairment," lumped all customers together into a single market, and ordered unbundling for all customers, even though there may have been large business or other customer classes that CLECs could profitably serve through facilities obtained outside the ILECs' networks. In particular, the Court stated that the Commission had not explained why it ignored the effects of the historic practice of promoting universal service by requiring incumbents to provide Page 30 Reply Comments of AT&T Corp. July 17, 2002 4 "underpriced" service to certain "rural and/or residential customers" and to allow incumbents to make up the difference by charging above cost-rates to other customers. Id. at 423-24. In this regard, the Court also held that the Commission had not sufficiently responded to the incumbents' claims that substantial overbreadth in unbundling rules is not "costless," but could lead to reduced investment by both CLECs and ILECs. The Court stated that the Commission's "only response" to this claim was to point to evidence that both ILECs and CLECs have built facilities since the Act was passed, which, the Court concluded, "tells us little or nothing" about incentives or about what would have occurred if there had been no unbundling. Id . at 425. Finally, the Court held that the Commission's Line Sharing Order had improperly failed to address claims that the "intermodal" competition provided by cable and satellite internet access services was sufficient to satisfy the Act's objectives and meant that unbundling the high frequency portion of the loop is unnecessary. Id . at 426-28. The incumbents have publicly proclaimed that USTA means that the availability of UNEs should now be radically constricted. But USTA permits no such result. To the contrary, particularly when the decision is read in light of the Supreme Court's Verizon decision ­ as it must be ­ USTA squarely forecloses the adoption of the incumbents' claims on the record that is here before the Commission. The decisive fact is that the showings that AT&T and other CLECs have made ­ supported by the comments of all the State utility commission commenters ­ in no way depend on cost disparities that are "universal" to all markets, but rest on characteristics of the UNEs that are directly linked to natural monopoly characteristics of the ILECs' local exchanges and that can make ­ and have in fact made ­ competitive supply of the elements "wasteful." Compare USTA, 290 F.3d at 427. These showings are further specific to each Page 31 Reply Comments of AT&T Corp. July 17, 2002 5 relevant class of customers that could comprise a separate market and fill each gap that the USTA Court perceived. And the comments of incumbents and their supporters have not remotely called into question the detailed factual showings that AT&T and others have made on the basis of the "actual marketplace experience" of the past several years, which the Commission has stated is the most relevant evidence. Notice ¶ 2. The ILECs' contrary claims are set forth in the so-called "UNE Fact Report" that consists of arguments authored by the incumbents' lawyers and that is not a statement of facts in any sense of the term. As a Judge on the D.C. Circuit recently stated, the failure to provide actual factual statements is a characteristic of ILECs' pleadings generally, 1 and the ILECs' "Fact" Report is another example of that phenomenon. It opposes the continuation and extension of the unbundling requirements by asserting that CLECs are in fact widely using alternative loop, transport, and switching facilities, and that such facilities are being (or could be used) to serve all classes of customers. But these assertions do not rest on marketplace facts, but rather on statistics that show no such thing and that are meaningless by their terms. Thus, the application of the standards of USTA and Verizon to the factual record in this proceeding quite clearly require the Commission to adopt the positions that AT&T and other CLECs have advanced, and that State commissions broadly support. In this regard, the situation here is precisely analogous to that which the Commission faced after the D.C. Circuit had vacated and remanded the Commission's 1999 collocation rules on the ground that the Commission failed to give any "limiting" effect to the term "necessary" in 1 See Tr. of Oral Argument, No. 01-1371, at 12 (D.C. Cir. May 10, 2002) ("THE COURT: . . . the factual statement [in the ILEC Brief] is an argument. It's not a statement of facts. So we actually have three arguments in [the ILECs'] brief. You have the factual statement, then you have the summary of argument, then you state the argument again."). Page 32 Reply Comments of AT&T Corp. July 17, 2002 6 § 251(c)(6). See GTE Services Inc. v. FCC , 205 F.3d 416 (D.C. Cir. 2000). The incumbents claimed that the D.C. Circuit's decision required that the collocation rules be gutted. But the record that had led to the 1999 rules had been very limited, and on remand, a detailed factual record was compiled that made the showing required under the D.C. Circuit's decision and that for the first time set forth the technological and economic facts that meant that broad collocation was required for CLECs to access loops and other facilities on nondiscriminatory terms. On the basis of this more extensive record, the Commission expanded the ILECs' collocation duties ( e.g. , by requiring collocation of certain switching equipment) in an order that the D.C. Circuit has now "easily" upheld. Verizon Telephone Cos. v. FCC, No. 01-371 (D.C. Cir. June 18, 2002) (" Verizon Collocation "). Similarly, the "gaps" of explanation and evidence that the D.C. Circuit identified in the UNE Remand Order were largely products of the very limited record in that proceeding. At the time, the First Report and Order had only been in effect for about three years, and there had been no substantial actual marketplace experience with the use of UNEs or of alternatives to them. For example, CLECs' experience with self-provisioned switching was then essentially confined to serving customers who use DS-1 or higher capacity loops that do not require hot cuts, and there was virtually no experience with DLC loops, only trivial experience with the hot cut process, and no experience showing business customers would reject services that require hot cuts ­ as they since have. Due to the Eighth Circuit's erroneous invalidation of Rule 315(b), 2 there had also been no significant experience with the use of the UNE-Platform ("UNE-P") to serve residential or other customers, and because the incumbents' DSL offerings were effectively 2 See Iowa Utils. Bd. v. FCC , 120 F.3d 753, 813 (8 th Cir. 1997), rev'd , AT&T Corp. v. Iowa Utils. Bd. , 525 U.S. 366, 393-95 (1999) (" IUB "). Page 33 Reply Comments of AT&T Corp. July 17, 2002 7 nonexistent, there was similarly no experience with the effects of intramodal competition on them. Finally, there was then no basis whatsoever to compile any statistically significant data on the effects of UNEs on investment. For all these reasons, the records in the UNE Remand and Line Sharing proceedings were thin and primarily predictive and theoretical. But the intervening years have resulted in extensive actual marketplace experience, both with UNEs and with CLECs' attempts to compete without them. In particular, this experience has allowed AT&T and other parties to make extraordinarily detailed factual showings here of the effects that UNE availability have on competition and investment. In this regard, as the Commission and the courts have held, the Act shows no "preference" for facilities-based competition, but authorizes multiple forms of entry and relies on marketplace forces to determine whether and to the extent each form of entry will occur and be successful. 3 Two points are quite clear from the resulting actual marketplace experience. First, for residential customers today, the only alternative to competition throughout UNE-P is no competition. For in states where there are high UNE rates or no or poor OSS for UNE-P, no residential competition has developed. Conversely, UNE-P has produced extraordinary benefits in New York and other states where conditions permit service to residential customers, for CLECs provide genuine value for customers by obtaining combinations of loop, switching, and transport and self-provisioning retail and other functions (and packet switching in line-splitting arrangements). Second, during this time, CLECs have made further extraordinary efforts to invest in other alternative facilities to provide services to all customer classes and business customers in 3 Local Competition Order ¶ 12; Iowa Utilities Bd. , 120 F.3d at 816-17, aff'd on this ground, IUB , 525 U.S. at 392-93. Page 34 Reply Comments of AT&T Corp. July 17, 2002 8 particular. This experience demonstrates the ways that the various interrelated barriers to facilities-based entry ­ and certain aspects of the Commission's rules ­ have led to underutilized and stranded investments, bankruptcies, and other forms of waste when CLECs have attempted to self-provision loops, transport, and switching to serve different classes of customers under the current rules. Indeed, these are the very events that created what Chairman Powell has described as "a severe capital crisis putting a tremendous strain on the telecommunications industry." 4 These marketplace facts fill in each of the evidentiary and explanation gaps USTA identified. First , they establish that denials of access to UNEs "impair" CLECs from competing under USTA's narrower interpretation of that term in each relevant product and geographic market. Second , although existing implicit subsidies are irrelevant to unbundling determinations under the Act's terms and structure and the Supreme Court's decisions, the evidence in this record establishes impairment even at the prevailing retail rates that reflect any such subsidies. Third , there is now detailed evidence that unbundling has no adverse effect on CLECs' incentives to invest, that it is a necessary precondition to CLEC investment, and that unbundling has had (and could have) no adverse effect on the ILECs' broadband or other investments. Fourth , the marketplace experience demonstrates that intermodal competition from cable operators and others is not yet remotely at a stage at which it could enable the Commission to conclude that unbundling will no longer provide further net benefits to competition and consumers. Each of these points is discussed in more detail below. CLECs Will Be Severely Impaired In Providing Service And Consumers Will Be Harmed If Access To Loops, Transport, And Switching Is Restricted. USTA and Verizon have two primary teachings for the Commission's impairment analysis. First, the Commission 4 See FCC New Release, FCC Chairman Michael Powell Appointed to President Bush's Corporate Fraud Task Force (July 9, 2002). Page 35 Reply Comments of AT&T Corp. July 17, 2002 9 must consider "market specific variations in competitive impairment" and cannot ­ absent further explanation ­ adopt national unbundling rules when there are separate product or geographic markets in which CLECs can profitably provide service without using particular UNEs. Consistent with AT&T's understanding of the UNE Remand Order , 5 AT&T's impairment showings here are specific to each class of customers or service arrangement that could possibly comprise a separate market where there could be "variations in competitive impairment" and where an exception to unbundling requirements could be practically administered by States without creating costly litigation and other burdens. Because the factors that establish impairments equally apply in all geographic areas, there are no separate geographic markets that affect these impairment determinations. Second, the Court found that the UNE Remand Order's impairment standard was overbroad insofar as ­ and only insofar as ­ it permitted determinations to rest on scale economies and resulting cost disparities that are "universal" to incumbents and new entrants in all markets. The holding was thus quite narrow. The UNE Remand Order adopted a multi-factor test of impairment that focused on differences in costs, timeliness, quality, operational and technical characteristics, and ubiquity. It further required consideration of three different kinds of cost disparities: (1) whether there were economies of scale that give new entrants higher unit costs "particularly" in early stages of entry (¶ 76); (2) whether CLECs would need to make "sunk" investments that give incumbent "first mover advantages" and are "barriers to entry" 5 Contrary to the discussion in USTA, the UNE Remand Order (¶ 120) addressed all the "specific product and geographic markets," and to the extent that it adopted national unbundling rules, it was because the Commission found that there were no geographic or product markets in which CLECs would not be impaired if access to particular UNEs were denied and in which administrable exceptions to nationwide unbundling could not be established. Id. ¶¶ 184-86 (high-capacity and other loops); id. ¶¶ 276-99 (switching); id. ¶¶ 434-48 (dedicated transport). Page 36 Reply Comments of AT&T Corp. July 17, 2002 10 through alternative facilities (¶ 77); and (3) whether CLECs would incur "additional costs" that incumbents did not in connecting self-provisioned elements to monopoly elements and that thus also represent barriers to facilities-based entry (¶ 78). The only aspect of the UNE Remand Order's standard that USTA rejected was its reliance on economies of scale that were readily surmountable and that operated only to give CLECs higher average costs "in the early stage of entry." USTA, 290 F.3d at 426-28; compare UNE Remand Order ¶ 76. The Court held that this was an impermissible factor because it was a cost characteristic that applies both to incumbents and new entrants in all markets, including competitive ones, and was thus "universal." USTA , 290 F.3d at 427. The Court stated that such disparities are in no way "linked" to the existence of economies of scale that give incumbents lower average costs than any new entrant across the entire range of the demand, that render elements "essential facilities" or "natural monopolies," and that make efforts to duplicate them "wasteful." Id. at 426. USTA expressly stated that it is not holding "that the Act requires use of the criteria of the [essential facilities] doctrine" or that a facility must in fact be a natural monopoly that only a single firm can supply. Nor could USTA have held otherwise. Any such holding is foreclosed by Verizon's conclusion (122 S. Ct. at 1672 n.27) that the Act is intended to authorize "hundreds" of smaller entrants to access facilities that are "costly to duplicate" even if large "competitive carriers" would have sufficient resources to do so, and USTA expressly relied upon ­ and of course must be read in light of ­ Verizon . Thus, rather than require a showing of "natural monopoly," USTA merely stated that cost disparities must be "linked ( in some degree ) to natural monopoly" "characteristics" that make the element "unsuitable" for " multiple " competitive supply and mean that self-provisioning could be "wasteful." USTA , 290 F.3d at Page 37 Reply Comments of AT&T Corp. July 17, 2002 11 296-98 (emphasis added). Thus, whether or not there are cable operators or other uniquely situated carriers who do not require UNEs, impairment still exists if typical CLECs that seek to provide service through alternative facilities would incur substantial costs and risks that the incumbent have not incurred and will have higher unit costs than the incumbent across the relevant levels of demand. In such cases, typical (and efficient) CLECs then face real "barriers" to their "entry" through alternative facilities. See G. Stigler, T HE O RGANIZATION OF I NDUSTRY 67 (1968); Bell Atlantic-NYNEX Merger Order ¶ 129 n.247. In this regard, two kinds of cost disparities that the UNE Remand Order relied upon, and that USTA did not disapprove, directly identify such entry barriers. First, this is obviously the case with cost disparities that require CLECs who self-provision facilities to incur "additional costs" to connect self-provisioned facilities with the incumbent's other elements, for the CLECs must incur costs that incumbents did (and do) not. UNE Remand Order ¶ 78. Second, this is even more dramatically the case when a CLEC's self-provisioning of elements requires investments that duplicate incumbent facilities that have already been installed and that cannot be deployed for another purpose if the CLEC exits the market. The need to incur such "sunk costs" means that the CLEC inherently incurs costs and risks than the incumbent did not and erects "barriers to entry" through alternate facilities and gives incumbents "first mover advantages." UNE Remand Order ¶ 77; Willig Reply Dec. ¶¶ 18-35. Indeed, whether or not there are economies of scale that give incumbents' lower costs than new entrants across all levels of demand, investments in alternative facilities are truly "wasteful" only when the investments will be "sunk" and incapable of being re-deployed for another productive purpose if the new entrant is unable to profit and exits the market. See Willig Reply Dec. ¶ 22. Accordingly, when facilities entry requires sunk investment, CLECs generally Page 38 Reply Comments of AT&T Corp. July 17, 2002 12 cannot economically make such investments unless they can first lease facilities from the incumbent and use them to build up a customer base that will generate sufficient revenues to support the investment. See Willig Reply Dec. ¶¶ 27-28. Indeed, USTA acknowledged all these facts, for it noted that a legitimate benefit of unbundling is that "may enable a CLEC to enter the market gradually, building a customer base up to the level where its own investment would be profitable." 290 F.3d at 424. Here, the physical and economic characteristics of the facilities at issue themselves establish that CLECs face all or some of these entry barriers if they self-provision loops, transport, or switching. Beyond that, because the 1996 Act has eliminated de jure entry barriers, the past four years have permitted "market tests" of whether barriers to facilities-based entry are easily surmounted or whether particular facilities have "some degree" of natural monopoly characteristics. The fact that firms who deployed alternative transport and switching have experienced significant under-utilization of such facilities ­ and widespread bankruptcies ­ is thus obvious and direct evidence of impairment. This real marketplace evidence was not available before the UNE Remand Order was decided. Thus, it is quite ludicrous for the incumbents to claim ­ as they do here ­ that the fact of actual deployment should be dispositive of the Commission's impairment analysis and that evidence that those very investments turned out to be wasteful should be ignored. In all events, the fact of impairment is clear for each of the UNEs at issue. Voice-Grade And High-Capacity Loops. All voice-grade loops, whether they are end-to- end copper or combinations of copper and fiber in digital loop carrier ("DLC") architectures, are quintessentially facilities with natural monopoly characteristics. With the possible (and irrelevant) exception of cable television operators, no firm could economically duplicate the Page 39 Reply Comments of AT&T Corp. July 17, 2002 13 functions provided by these loops because they have economies of scale that give them declining average costs across all levels of demand, and CLEC loops are sunk investments that could not be used for any other purpose. The incumbents' claims are thus focused on the high-capacity loops used to serve high- volume customers. But these facilities are also characterized by scale economies that give incumbents lower average unit costs than CLECs across all relevant levels of demand. And even in the exceptional situations in which CLECs may be able to achieve unit costs of constructing, deploying, and using loops that are close to those of the incumbents, there are additional barriers to facilities-based entry that mean that CLECs will be impaired in serving such customers (and in ever deploying their own loops) unless they can obtain high-capacity loops as UNEs. Because any CLEC loop investments would be "sunk," they could not even consider constructing facilities unless they can serve a customer through UNEs first and also obtain sufficient future customer commitments that would allow them to build. Even then, CLECs need acces to such loops as a UNE because CLECs do not have the same access to rights of ways and building access rights that incumbents received as a matter of course as "first movers," and because it takes substantial time to construct facilities even if the necessary rights of ways and building access rights can be obtained. Each of these disparities is directly linked to natural monopoly characteristics of loops. Collectively, these disparities demonstrate that CLECs generally have no alternative but to use incumbents' loop facilities and that their ability to provide service (and to build loops in the future) is impaired if loops are not available as UNEs. The ILEC Report offers no direct response to these dispositive economic facts. Rather, it advances other arguments that are legally irrelevant and factually erroneous. For example, the ILECs assert ­ based on statistics taken from the E911 database ­ that CLECs have deployed Page 40 Reply Comments of AT&T Corp. July 17, 2002 14 some 11-19 million of their own loops. Even if this were so ­ as it patently is not ­ it could only establish, as the FCC previously found, that CLECs were not impaired in deploying these particular loops and cannot alter the economic facts that establish impairment generally. See UNE Remand Order ¶ 184. But the claim is an utter fabrication. Quite apart from the fact that the E911 database is assembled for other purposes and cannot be a reliable indicator of the number of CLEC-provided loops, the incumbents derive their number by subtracting the number of unbundled loops CLECs lease from the total number of lines served through CLEC switches ­ and ignore that virtually the entire difference between the two figures represents facilities that CLECs have been forced to obtain under the ILECs' special access tariffs, due to the use and commingling restrictions on loop/transport combinations. Thus, ILECs are treating the facilities that CLECs must obtain under special access tariffs as self-provided CLEC loops. That is nonsense. These same facts establish that CLECs are impaired by the features of the FCC's rules that deny them access to unified NGDLC loops in the incumbent's central offices. These facilities have the same natural monopoly characteristics as other types of loops, and the potential alternatives to accessing unified loops to which incumbents refer ­ self-provisioning loop facilities, collocation at (or near) remote terminals, or utilization of space copper ­ are prohibitively expensive, provide inferior access, and/or are technically infeasible. Transport. Dedicated transport is required, among other things, to connect the particular buildings in which a CLEC deploys switching and other facilities to the ILEC wire centers that terminate the CLEC customers' loops. The CLEC thus requires dedicated transport facilities on specific point-to-point routes. Page 41 Reply Comments of AT&T Corp. July 17, 2002 15 Transport also has obvious natural monopoly characteristics. The fixed costs of a dedicated transport facility (trenching and laying the conduit and strands of fiber cables) are immense, and the marginal costs of adding additional capacity to an existing fiber facility (activating dark fiber or adding new electronics to existing fiber) are relatively small. Thus, incumbents can always serve new demand at a lower incremental cost than a new entrant would incur, and incumbents have average costs that are constantly declining over the entire demand on any point-to-point route. Moreover, because ILECs can share the principal costs of constructing transport facilities (the construction and supporting structures) with the costs of their ubiquitous loop plant that CLECs cannot replicate, they also enjoy economies of scope that further increase their inherent cost advantage over new entrants. Further, because municipalities see little incremental value in having multiple firms digging up streets and installing transport facilities that merely replicate functions that incumbents provide and that permit no service differentiation, they do not give new entrants the rights of ways ­ which incumbents received as matters of course ­ on the same rates or terms that the incumbent enjoy. As with high-capacity loops, there are only rare circumstances in which CLEC will have traffic volumes that could permit them to deploy transport on a particular route at costs that are close to those that they would incur by leasing dedicated transport as a UNE from the incumbent. But even in these circumstances, the fact that such construction requires sunk investments means that CLECs incur other costs and risks that the incumbents do not. This means CLECs cannot rationally deploy facilities unless and until they have built up a customer base through leasing unbundled transport. Even then, constructing facilities requires substantial time, and can be delayed or precluded altogether if the CLEC cannot obtain the necessary rights of way promptly and on the same terms as the incumbent. The resulting cost disparities and service delays are Page 42 Reply Comments of AT&T Corp. July 17, 2002 16 directly linked to the natural monopoly characteristics of transport, and they plainly establish that transport is generally unsuitable for competitive supply by multiple firms. These economic facts have been confirmed by actual marketplace experience. A number of CLECs had responded to the 1996 Act by deploying alternative transport facilities on particular routes and seeking to offer competitive transport. However, the Commission found in 1999 that alternative transport was available on only a fraction of the routes where CLECs needed it. UNE Remand Order ¶¶ 340-41. And the decisive fact is that today most of these competitive transport providers are in bankruptcy or on the brink of it, and the rest have transport networks that are radically underutilized. Indeed, even on the routes where there are some alternative transport facilities, there is no proof that a workably competitive wholesale market exists that would assure CLECs access to alternative transport in the quantities they need (large or small) and at efficient cost-based rates ­ and there are only limited instances in which CLECs have successfully deployed dedicated transport for their own use. Again, the ILEC's "UNE Fact Report" provides no substantial response. It mindlessly asserts that the fact that transport facilities were deployed on some routes in the past demonstrates that transport can be deployed on all or virtually all routes. But the fact that the CLECs who have deployed competitive transport facilities have been unable to do so profitably, and are in financial distress, means that there generally is no alternative to the incumbent, even on the specific routes where they nominally exist. And it means that there is no prospect for the creation of alternatives elsewhere ­ even apart from the current capital crisis. Finally, these same factors establish that the Commission must eliminate the "interim" use and commingling restrictions that apply to existing loop/transport combinations (EELs) and that the Commission must give CLECs unrestricted rights to obtain new such combinations in Page 43 Reply Comments of AT&T Corp. July 17, 2002 17 light of the Supreme Court's reinstatement of the Commission's "new combination" rule. The Commission's use restrictions prevent CLECs from using UNEs to compete with the incumbents' exchange access services. And although the only basis for the commingling restriction was to protect the ILECs' special access rates and revenues, this restriction has forced CLECs to operate inefficiently and flatly prevented them from using loop/transport combinations to provide competing local service broadly. And, for reasons explained below, denials of access to loop/transport combinations have also severely impaired CLECs' ability to use self- provisioned switching to serve even larger customers. Switching. USTA holds that impairment due to lack of access to unbundled switching cannot be based on the ground that switching equipment is characterized by economies of scale that give CLECs higher average unit costs than incumbents only "at the early stage of entry." 290 F.3d at 427. But this is irrelevant to the CLECs' showing of impairment for switching, which it in no way depends on such "universal" cost disparities. Rather, the CLECs' impairment showing rests on other cost disparities that are directly and physically linked to the natural monopoly characteristics of local exchanges. Indeed, each of those disparities is a product of the fact that local exchanges were believed to be natural monopolies and built by de jure monopolists who designed their exchanges so that local loops could be practically accessed only by a single provider ­ themselves. The consequence is that even if CLECs had traffic volumes that allowed them to deploy switching equipment at the same unit costs as the incumbent, they today do not receive nondiscriminatory access to monopoly loops and must incur radically higher costs than the incumbent to connect their switches to their customers' loops. These disparities severely impair CLECs' ability to use their own switches to Page 44 Reply Comments of AT&T Corp. July 17, 2002 18 provide service to customer locations that generate low volumes of traffic and can be profitably served by only voice-grade loops. First, under the existing network design, all the incumbents' monopoly loops are "hardwired" to their switches, and the large (over 25%) and growing percentage of voice-grade loops that are served through DLC architectures are even more tightly integrated with ILEC switches. This mean that CLECs who use their own switches cannot access voice-grade loops unless they incur substantial additional costs, delays, and quality impairments that the incumbents do not: the delays and costs of "hot cuts" for all voice-grade loops and even more severe costs and delays for DLC loops. These additional costs and delays flatly preclude the economic use of self-provisioned switches to provide service to low volume customer locations. Second, because incumbent's central offices were designed on the premise that local service would be provided by a monopoly, they cannot (and are not required to) accommodate ordinary circuit switches belonging to competitors. As a result, whereas incumbents connect loops to their switches by running a short jumper wire across a main distribution frame within the central office, CLECs must locate their switches in other (often distant) buildings and must incur radically greater costs to obtain the same connection that costs the incumbents almost nothing. CLECs must incur distance-sensitive transport costs to deliver their customers' calls to their switches and to "backhaul" them to the incumbent's central office for "intraswitch" calls ­ which are costs that the incumbent does not incur at all. And unless the Commission eliminates restrictions on existing loop-transport combinations, CLECs must not only incur the cost of space and equipment for their switches and "hub" locations, but also must incur the significant costs of collocating transmission equipment in each ILEC's central office in which they want to serve customers. Page 45 Reply Comments of AT&T Corp. July 17, 2002 19 All of these cost disparities are directly and physically linked to the natural monopoly characteristics of the local loop, and their overall effect is that there is only a single class of customers that CLECs can economically serve without reliance on unbundled switching: customer locations that are served by DS-1 and higher capacity loops that generate significantly higher revenues and do not require hot cuts. This is the only segment of the market in which CLECs have had success in using self-provisioned switches, and it accounts for the additional circuit switches that have been deployed since the UNE Remand proceeding. By contrast, marketplace experience has demonstrated that where switches have been deployed to serve other business customers, the result has been switches that are not efficiently utilized and, in many cases, that the CLEC has filed for bankruptcy ­ all of which is graphic proof that the deployment of switches to serve such customers is, under current conditions, "wasteful." The only way the ILECs can respond to these facts is, ironically, to completely ignore the "market specific variations in competitive impairment" they asked the USTA Court to recognize. Their data look only at mere switch deployment, not the class of customers served by such switches or whether those switches have been used profitably. And the ILECs specifically ignore the exact impairments CLECs have clearly demonstrated to the Commission on this record. Such arguments are foreclosed by USTA. Finally, although the economic facts that preclude competitive supply of loops and transport are outside the Commission's ability to affect, the Commission can take action that would help assure the broader development of competition through alternative switching and that could, if other cost impediments are removed, allow the eventual elimination of the unbundled switching requirement in the future. Specifically, the Commission should expressly recognize the inherent practical and cost disparities in loop access that apply to the voice-grade loops that Page 46 Reply Comments of AT&T Corp. July 17, 2002 20 serve the vast majority of customers, and should make it clear that it will not consider removing unbundled local switching (and UNE-P) for low volume customer locations until an ILEC has implemented a practical form of electronic loop provisioning. Similar requirements were necessary to create full-fledged competition in the long distance market, and they are plainly necessary to achieve the Act's goal of creating local competition by "reorganiz[ing]" the ILECs' local exchanges and making them "vulnerable to interlopers." Verizon , 122 S. Ct. at 1661. Under The Act's Terms And Structure And The Supreme Court's Decisions, Any Existing Implicit Subsidies Are Irrelevant To Unbundling Determinations, And In All Events AT&T's Impairment Showings Reflect The Effects of Any Such Subsidies. The Commission can readily respond to USTA's call to explain why the UNE Remand Order did not expressly address the ways universal service subsidies can distort competition. Because section 254 of the Act requires elimination of implicit subsidies and the adoption of explicit, portable, and competitively neutral subsidies, any existing implicit subsidies are simply irrelevant to unbundling determinations under sections 251(c)(3) and 251(d)(2). See IUB , 525 U.S. 366, 392-93 (1999). However, the impairment showings on the record here do not ignore the effects of any subsidies that have yet to be removed by the States. That is because the evidence of impairment is based, in substantial part, on the CLECs' historic inability to serve "above-cost" customers through alternative facilities at prevailing retail rates that include any implicit subsidies that have not yet been removed. This evidence demonstrates that the CLECs' cost disadvantages in using alternative facilities are not "offset" by any "advantages" they may have because they are not required to provide "underpriced" service and that there is, in USTA 's words, a "net impairment" if UNEs are not available. Compare USTA , 290 F.3d at 424. Page 47 Reply Comments of AT&T Corp. July 17, 2002 21 Similarly, the marketplace evidence, as well as the Supreme Court's and the Commission's intervening decisions, allow the Commission to explain the "criteria" under which "impairment" can be found for "rural and/or residential customers" that receive subsidies. Id . at 422. Quite plainly, there are conditions in which a State's failure to adopt explicit and portable subsidies could prevent CLECs from using UNEs to serve such customers. But because the absence of UNEs would further lessen their ability to provide service now (and will preclude service even when subsidies are made explicit and portable), there is no question that lack of access to UNEs "impairs" CLECs' ability to provide service to these customers. And in those cases in which a CLEC could in fact now use UNEs to serve rural and/or residential customers that receive subsidies, that competition is precisely what Congress intended if it results from the facts (1) that UNEs are available at TELRIC rates, rather than historic cost or (2) that CLECs make money (as does the incumbent) because revenues from access and vertical features more than offset the below-cost rates for basic service. See Verizon , 122 S. Ct. 1646 (2002); Vermont 271 Order ¶¶ 68-73; see also Local Competition Order ¶ 849. The Evidence Establishes That The Proposed Unbundling Rules Will Have No Adverse Effect On CLEC Or ILEC Investment. USTA held that the UNE Remand Order had not adequately justified its finding that any substantial overbreadth in its national unbundling rules was costless. It stated that the Commission's "sole" basis for rejecting the incumbents' claim that unbundling had adverse effects on CLEC and ILEC investment was the fact that significant investments had been made by both types of carriers between the passage of the 1996 Act and adoption of the UNE Remand Order . The Court said this was insufficient because that evidence did not address incentives and "t[old] us little or nothing" about what would have happened in the absence of these unbundling rules. USTA , 290 F.3d at 425. Page 48 Reply Comments of AT&T Corp. July 17, 2002 22 USTA's concerns are inapposite here, for the unbundling rules that AT&T proposed are based on the fact of impairment in each relevant product and geographic market and are not substantially overbroad. But the decisive fact here is that the actual marketplace evidence of the past four years confirms such rules have no adverse effect on levels of investment, and clearly promote greater overall investment. Moreover, the Supreme Court considered some of this evidence in Verizon and held that it foreclosed the incumbents' claims. The point is very clear in the case of CLECs. As explained in AT&T's initial comments, UNE availability plainly fosters CLEC investment. Even though they generally cannot obtain facilities at rates that are as favorable as TELRIC from sources outside the incumbents' networks, dealing with incumbents imposes substantial additional tangible and intangible costs that mean CLECs will invest in alternative facilities whenever the cost is even close to the TELRIC rate (if, of course, investment capital is available). The marketplace experience has borne this out, for rather than withhold investments and make them only when facilities could be obtained at lower unit costs outside incumbent's networks, CLECs made investments that proved to be profoundly uneconomic on massive scales. This forecloses any claim that CLECs would have invested more if UNEs were not available. Moreover, the marketplace evidence also confirms the Commission's findings that UNEs are preconditions to investment. For example, the evidence demonstrates that AT&T's economic ability to serve low volume business customers through self-provisioned switches depends, among other key factors, on its ability initially to serve the customers through unbundled switching: e.g. , when AT&T serves customers initially through self-provisioned switches and moves then (where that is economically and technically feasible) on a "project" basis to self- provisioned switches. Beyond that, statistical evidence demonstrates that levels of AT&T local Page 49 Reply Comments of AT&T Corp. July 17, 2002 23 investment are greatest in areas where UNEs are available at the most favorable terms. See generally Clarke Reply Dec. As to incumbents' investment incentives, it would clearly defeat the Act's objectives if the Commission, in the face of impairment findings, exempted incumbents from unbundling obligations on the ground that they might cause incumbents to invest less. As the Supreme Court has held, the Act makes the creation of local competition an "end in itself" that is to be achieved by "reorganiz[ing]" the existing exchanges. Verizon, 122 S. Ct. at 1654, 1661. But here the statistical and other evidence foreclose any claim that unbundling has adverse effects on ILEC investment. It demonstrates that, if anything, the availability of UNEs fosters greater investment by incumbents, precisely because they understand that it will lead to broader and more effective facilities-based entry by CLECs. In this regard, AT&T's initial comments contained "multiple regression analyses" that establish these facts ( compare USTA, 290 F.3d at 425), and AT&T's econometric experts have since run additional analyses using additional data that were not available at the time opening comments were filed, and the new analyses reach the same conclusions. See Willig Reply Dec. ¶¶ 94-102 & Technical Appendix. Indeed, the Supreme Court's holding in Verizon quite plainly establishes that the statistical evidence that AT&T has collected is unnecessary to reject the incumbents' claims. Under Verizon , it is enough to note ­ as AT&T has ­ the "commonsense" propositions that (1) because unbundling leads to greater CLEC investment and brings about "some [facilities-based] competition, the incumbents will continue to have incentives to invest and to improve their services to hold to their existing customer base" ( Verizon , 122 S. Ct. at 1676 n. 33) and (2) because TELRIC compensates incumbents for all risks they incur when they invest in innovation, the availability of UNEs cannot create legitimate disincentives for incumbents to Page 50 Reply Comments of AT&T Corp. July 17, 2002 24 invest ( see id. at 1676-79). Further, while USTA holds that claims of adverse effects on investment cannot be rejected based solely on evidence of ILEC investment that predated the UNE Remand Order , the Supreme Court further considered the evidence of CLEC and ILEC investment in the years since the UNE Remand Order, and concluded that it itself was sufficient to foreclose claims of adverse effects on investment. See Verizon , 122 S. Ct. at 1675-76. Although contrary arguments are made in the opening comments of the incumbents and their suppliers and surrogates, the ILECs do not seriously dispute that unbundling generally has no adverse effects on incumbents' investments. Rather, their claims are targeted to ILEC investments that nominally only enable "broadband" services to be provided more widely over incumbents' networks. The incumbents and their allies argue that the Commission must or should exempt all "new" broadband-related investments in loop infrastructure from the Act's unbundling obligations. However, this claim is wrong as a matter of law and baseless as a matter of fact. As explained in AT&T's initial comments (at 84-88), neither section 706 nor any other provision of the Act adopts a policy of promoting broadband investments that could require or permit the Commission to adopt exceptions to unbundling obligations when, as here, denials of access would impair CLECs' ability to provide service. See AT&T Comments at 84-88. Nor is there any factual basis for the contrary claims. The incumbents and their allies assert ­ and have relied on "studies" that purport to show ­ that unbundling is preventing investments in (1) fiber and NGDLC upgrades (like Project Pronto) that allow DSL to be offered more widely and effectively and (2) fiber to the home ("FTTH"). But these assertions, and the studies underlying them, are shams. As to DSL, the ILECs have already made these investments because they are justified by cost savings in providing narrowband service whether or not DSL Page 51 Reply Comments of AT&T Corp. July 17, 2002 25 is offered, and because they allow ILECs to meet competition from cable modem services and data CLECs. In this connection, the only remotely plausible arguments that unbundling imposes costs in an NGDLC architecture are based on the costs of competitive collocation and unbundling of line cards in remote terminals ­ which are costs that would be eliminated if the Commission corrects the definitional and other errors that have prevented CLECs from accessing "unified" NGDLC loops in central offices. As to FTTH, the assertions and studies are the sheerest contrivances. FTTH, although of potentially significant value, is not being offered today because the costs to deploy it are enormous and the consumer demand and willingness to pay for its enhanced capabilities do not now exist. And the "studies" that purport to show that unbundling prevents deployment of FTTH are fabrications that rest on numerous palpably false (and unsupported) assumptions. See generally Clarke-Donovan Reply Dec. The Intermodal Competition Provided By Cable Operators, Wireless Carriers, And Others Provides No Basis To Alter the Unbundling Obligations. USTA also held that the Commission's Line Sharing Order had improperly failed to consider claims that the "intermodal" competition provided by cable operators, satellites, and wireless carriers is sufficient to satisfy the objectives of the Act and that such competition eliminates any reason to adopt or to maintain that unbundling obligation. The incumbents' comments have thus sought to avoid unbundling obligations by relying on the "competition" provided by wireless carriers and cable operators. Neither has any pertinence to this proceeding. The claims based on wireless carriers are absurd, for wireless service is simply not a remotely adequate substitute for wireline local telephone service. For example, while wireline service is engineered to produce call completion rates in excess of 99.9%, wireless systems fail to complete (or drop) 30% or more of calls, and the most that incumbents can claim is that a Page 52 Reply Comments of AT&T Corp. July 17, 2002 26 small fraction of customers regard wireless service as an adequate substitute for second telephone lines. As to cable television systems, some offer voice "cable telephony services" and most offer internet access services that are reasonable (but not perfect) substitutes for the internet access services that can be provided over the high frequency portion of local loops. But neither provides any basis for eliminating the incumbents' unbundling obligations. Cable telephony is extremely limited in scope. Indeed, CLECs in New York have gained about as many customers using UNE-P as have all cable companies nationwide. Willig Dec. ¶ 86. Further, even if cable telephony competition were to develop, it would permit, at most, a duopoly, which, as the Commission has correctly held, is insufficient to create competition from multiple firms, which is the object of the Act. See UNE Remand Order ¶ 55. Although cable modem services are relatively mature, the same is true for them. Indeed, the Commission need look no further than the price increases that incumbents initiated in response to the contraction of data CLECs last year ­ and the incumbents' current efforts to engage in price signaling and other forms of tacit collusion ­ to demonstrate that the level of intermodal competition is insufficient to achieve the Act's goals. In sum, the Commission should (1) maintain its existing national list of UNEs; (2) eliminate the "interim" use and commingling restrictions and authorize unrestricted access to existing and new loop/transport combinations; (3) correct the definitional and other errors that prevent CLECs from accessing NGDLC loops in central offices; (4) modify the switching "carve out" so it applies only to customer locations served by DS-1 and higher capacity loops; and (5) provide that unbundled switching must remain available for voice grade loops in an office unless Page 53 Reply Comments of AT&T Corp. July 17, 2002 27 and until electronic loop provisioning is implemented and a competitive market for local switching has developed. The bases for these proposals are set forth in detail below. ARGUMENT{ TC "ARGUMENT" \F C \L "1" } I. THE FACTORS ON WHICH AT&T RELIES ESTABLISH "IMPAIRMENT" UNDER VERIZON AND USTA FOR EACH RELEVANT PRODUCT AND GEOGRAPHIC MARKET. Because the particular network elements at issue here are not proprietary (AT&T at 34 n.2), the central question before the Commission is whether denying CLECs access to each element would " impair the[ir] ability" to provide "the services" that they "seek[] to offer." 47 U.S.C. § 251(d)(2). AT&T's initial comments (at 34-40) explained that the Commission's UNE Remand Order established a multi-factor standard for determining "impairment" and that there was no basis to depart from this standard. The Supreme Court's Verizon decision established the general validity of this standard, for it held that the Act makes local competition "an end in itself" and gives "hundreds" of small entrants the ability to use "costly to duplicate" facilities even if there were "large competitive carriers" that had the "resources" to replicate them. Verizon, 122 S. Ct. at 1654 & 1672. n.27. However, in the recent USTA decision, the Court of Appeals held (in reliance on Verizon) that one aspect of one of the five factors in the UNE Remand Order 's impairment analysis was impermissibly overbroad. In particular, the Court of Appeals remanded that order because it found that the Commission's standard for identifying the cost disadvantages that can constitute impairment had improperly allowed the Commission to rely on "cost disparities" that are "universal between new entrants and incumbents in any industry." USTA , 290 F.3d at 426-28. 6 6 The Court also remanded the separate Line Sharing Order on the ground that it had been error for the Commission to refuse to consider the intermodal substitutes for services that can be offered through line sharing. Id . at 428-30. Page 54 Reply Comments of AT&T Corp. July 17, 2002 28 The court stated that the Commission's impairment decisions should focus on cost characteristics of elements that "are linked (in some degree) to natural monopoly," that can make self- provisioning of elements "wasteful," and that can render the elements "unsuitable" for "competitive supply" by "multiple" firms. This aspect of USTA has no practical significance for this proceeding. As explained in detail below, none of the factors on which AT&T bases its showing of impairment relates in any way to cost characteristics of network elements that are "universal" to all industries or that equally affect incumbents and new entrants in local telephony. Rather, in addition to relying on factors in the UNE Remand Order's impairment analysis with which USTA found no fault, AT&T's showing of cost disparities rests on economic barriers to entry that are unique to the local telecommunications industry and that cause new entrants who deploy alternate facilities to incur radically greater unit costs than incumbents across the entire relevant ranges of demand. And critically for these purposes, each disparity is directly linked to natural monopoly characteristics of the incumbents' networks. Each disparity further can render the affected element unsuitable for supply by multiple firms, particularly in the absence of unbundling obligations that, in USTA's words, "enable a CLEC to enter the market gradually, building up to a level where its own investment would be profitable." USTA , 290 F.3d at 424. In this regard, the record here provides direct evidence that deployment of alternative facilities is wasteful, for the broad array of CLECs who have made investments in alternative switching and transmission facilities have been unable to provide service profitably and have, in many cases, gone bankrupt and abandoned their investments. Finally, as explained more fully in Parts III and Part VI below, the evidence fully accounts for any "variations in competitive impairment" that exist among different classes of Page 55 Reply Comments of AT&T Corp. July 17, 2002 29 customers or geographic areas. Id. at 422. The impairment showings address the different cost characteristics of using self-provisioned elements to serve each relevant class of customer ­ reflecting, for example, the factors that cause CLECs' ability to economically use their own switches to vary dramatically depending on whether customer locations generate traffic volumes that require the DS-1 and higher capacity loops that do not require hot cuts or only the use of voice-grade loops. And because the factors that establish impairment now apply in all geographic areas, there can be no separate geographic markets applicable to the Commission's impairment findings. A. Although USTA Prohibits Reliance On "Universal" Cost Disparities, It And Verizon Establish That The UNE Remand Order's Impairment Analysis Is Otherwise Valid And That Impairment Exists When Barriers To Facilities Entry Give Elements A "Degree" Of Natural Monopoly Characteristics. Because the Commission here is reevaluating CLECs' continuing needs for access to the network elements designated in the UNE Remand Order , it is appropriate to begin by reviewing that order and the aspects of its impairment analysis that the USTA did and did not question. The UNE Remand Order was issued in response to the Supreme Court's decision in AT&T v. Iowa Utilities Board, 525 U.S. 366 (1999), that the 1996 Local Competition Order improperly ignored alternatives outside the incumbent's network and allowed the Commission to treat any cost (or quality) difference as establishing necessity or impairment, even if it had no effect on the CLECs' ability to provide service profitably. The UNE Remand Order thus adopted a standard in which the Commission analyzed "alternative elements that are available through self-provisioning or from third party suppliers." UNE Remand Order ¶ 21. It asked whether lack of access to a particular UNE would, as a practical, economic, or operational matter, "preclude" CLECs from offering their proposed services in the case of proprietary elements (where necessity must be shown) or "materially Page 56 Reply Comments of AT&T Corp. July 17, 2002 30 diminish[]" their ability to do so with respect to the non-proprietary elements at issue here (where only impairment need be shown). To make such determinations, the Commission's rules require assessment of a range of factors, including whether the CLEC would incur increased costs, delays, poorer quality service, operational or technical limitations on its services, or limitations on the ubiquity of its offerings if the UNE were unavailable. Id. ¶¶ 72-100. In terms of the cost disparity component of this multi-factor inquiry, the UNE Remand Order identified three relevant cost characteristics: (1) whether the UNE is characterized by fixed costs and economies of scale that mean that new entrants will have higher unit costs than the incumbent, "especially in the early stages of development;" 7 (2) whether deploying the facility would require the new entrant to incur a "sunk cost," that "cannot be recouped" if the firm ceases service and that erects an economic "barrier to entry" through use of alternate facilities that gives the incumbent "first mover advantages" ( id . ¶¶ 75, 77); and (3) whether connecting a self-provisioned element to incumbent's other facilities would cause new entrants to incur "additional costs" that an incumbent does not incur. Id . ¶ 79. In USTA , the ILECs contended before the D.C. Circuit ­ as they claimed in their opening comments here 8 ­ that each factor in the Commission's impairment standard was improper. Each of the five factors can be expressed as cost differences ( see AT&T at 36), but the ILECs contended it was impermissible for the Commission to rely on cost differences at all in making determinations of impairment (or of necessity in case of proprietary elements). The ILECs 7 UNE Remand Order ¶ 76. The Commission recognized that economies of scale are characteristics of "many industries," but said that the existence of "economies of scale" are "[n]onetheless . . . relevant factors" to consider. Id. ¶ 88. 8 E.g. , compare Brief of Petitioners, Nos. 00-1015, 1025, at 27-28 (D.C. Cir.) ("ILEC UNE Remand Br.") with Verizon at 55 ("none of the [five] factors" set forth in the UNE is entitled to significant weight "in making impairment determinations"). Page 57 Reply Comments of AT&T Corp. July 17, 2002 31 further claimed before the Court ­ as they did in their opening comments here ­ that the existence of a single competitor that has a unique set of assets ( e.g ., a cable system) that allows it to provide service customers without using network elements establishes a lack of impairment, 9 that the Commission had improperly focused on whether multiple CLECs could profitably provide service to each of the different classes of customers, 10 and that non-impairment is established by the deployment and "actual" existence of alternative facilities, regardless of whether they are proven profitable. 11 The USTA court accepted only one aspect of one of the challenges to the Commission's impairment standard, and this holding was itself narrow. First, USTA flatly rejected the ILECs' claim that cost differences are irrelevant to impairment determinations. Rather, it held that "any cognizable competitive `impairment' would necessarily be traceable to some kind of disparity in costs." 290 F.3d at 426. Indeed, the Court noted that the ILECs' argument was internally inconsistent, for "the ILECs argued before the Commission and the Supreme Court that the impairment standard embodies the criteria of the `essential facilities' doctrine, which itself turns on concepts of costs" and which applies where competitive duplication would make no economic sense because average costs are declining throughout the range of the relevant market. Id . The Court's holding is similarly a complete response to the Notice 's question (¶ 19) whether "cost 9 Compare ILEC UNE Remand Br. at 30-31 (challenging UNE Remand Order (¶¶ 50, 53, 55) for failure to adopt an "essential" to competition standard) with SBC at 35 (UNEs should be unavailable except in those situations in which "an efficient competitor cannot compete at all except with UNEs"); Verizon, at 46-48 (cable competition establishes that a "competitive market already exists" and the absence of impairment); accord , Qwest at 6-8. 10 Compare ILEC UNE Remand Br. at 27-28 (challenging UNE Remand Order (¶ 54)) with BellSouth, at 4, 22-23; Qwest at 11-12. 11 Compare ILEC UNE Remand Br. at 44-47 with BellSouth at 4, 22; accord Qwest at 11-22. Page 58 Reply Comments of AT&T Corp. July 17, 2002 32 should be afforded less weight than other factors" in the impairment analysis. It plainly should not. See also AT&T at 36. At the same time, the USTA Court concluded that the UNE Remand Order's discussion of the kinds of cost disparities that can establish impairment was overbroad in one respect: the "open ended" reliance on economies of scale that it purportedly permitted. USTA , 290 F.3d at 426. The Court noted that the UNE Remand Order had (as one factor in its discussion of switching) relied on the comparatively modest economies of scale that exist in switching equipment ­ that it is cheaper to buy a 20,000 line switch than four increments of 5,000 each ­ and had referred to each CLEC's "probable inability to enjoy scale economies comparable to ILECs' ` particularly in the early stages of entry .'" Id. at 427 (emphasis in original). The Court noted that "average unit costs are necessarily higher at the outset for any new entrant into virtually any market" and that the Commission had relied on "cost disparities faced by virtually any new entrant in any sector of the economy, no matter how competitive the sector" and "that are universal as between new entrants and incumbents in any industry." Id . at 426-27 (emphasis in original). The Court stated that the Commission's rule did not require it to focus on the presence of the economies of scale " over the entire extent of the market " that render an element an essential facility and a natural monopoly, and that mean that competitive supply can turn out to be "wasteful." Id . at 427 (emphasis in original). The Court concluded that "[w]ithout a link to this sort of cost disparity, there is no particular reason to think that the element is one for which multiple, competitive supply is unsuitable" ( id. ), and it held that the Commission's impairment analysis was impermissible insofar as it "link[ed] impairment to universal characteristics, rather than ones linked in some degree to natural monopoly." Id . (emphasis added) USTA relied upon ­ and must obviously be read in light of ­ the Supreme Court's Page 59 Reply Comments of AT&T Corp. July 17, 2002 33 decision in Verizon , which had been issued only days earlier . Notably, Verizon did not expressly exclude "universal" cost disparities in making impairment determinations, but rather stated that entrants can access ILEC facilities that are "very expensive" or "unnecessarily expensive" to duplicate. Indeed, this is the passage from Verizon on which USTA relied in concluding that "universal" cost disparities may not be dispositive of impairment. Id. at 426 ( quoting Verizon , 122 S. Ct. at 1672 n.27). Most pertinently for present purposes, Verizon held that the Act is designed to allow "hundreds of smaller entrants" to obtain access to elements that are "costly-to- duplicate" even if firms with the "resources of a large competitive carrier such as AT&T or WorldCom" could in fact duplicate the elements. Id. Verizon and USTA thus establish two fundamental points about the impairment inquiry that is required by the Act. First, as Verizon made explicit, a UNE does not have to be a natural monopoly that can economically be provided by only a single firm, for the Act requires unbundling even if there are some "large competitive carrier[s]" that can duplicate the element. Verizon, 122 S. Ct. at 1672 n.27. Thus, USTA stated that it "did not intend to suggest" that the Act requires "use of the criteria of the essential facilities doctrine" and permits unbundling of only those elements that can in fact be provided by only a single firm as a matter of economics. 290 F.3d at 427. In this regard, USTA's holding that a UNE must have "some degree" of the "characteristics" of a "natural monopoly" cannot, by its terms, be read as a holding that an element must be found actually to be a natural monopoly before it may be unbundled. Rather, an element has "some degree" of the characteristics of a natural monopoly if particular CLECs (or if all but exceptional CLECs) will have average unit costs materially higher that the ILECs across all relevant levels of demand, or if the CLECs face other economic barriers to entry through self-provisioned facilities. Page 60 Reply Comments of AT&T Corp. July 17, 2002 34 In this connection, Verizon foreclosed ­ and USTA did not uphold ­ the ILECs' claim (repeated in their opening comments) 12 that the existence of a cable television operator that provides local telephone service over their cable facilities establishes that a competitive market already exists and demonstrates the absence of impairment. The realities are that cable TV systems are effectively no more economic to duplicate than are local telephone networks, and cable providers are not subject to unbundling requirements under the Act. 13 Thus, the existence of a cable provider in an area neither shows that other competitors can economically construct their own network facilities nor that they can obtain such functionalities from a source other than the incumbent. The UNE Remand Order thus rejected the ILECs' claim on the ground that the plain terms of section 251(d)(2) required that unbundling determinations be based on the needs of " all requesting carriers" and did not require or permit them to be "calibrated" to the individual firm whose assets and business plan "allows it to rely the least on the ILEC's network." Id. ¶ 53. It further held that the ILECs' claims were barred by the Act's legislative history, which established that the existence of cable competition cannot alter the incumbents' unbundling obligations, and the fact that accepting the incumbents' argument would result in "stagnant duopolies" that would defeat the Act's objective of "creat[ing] competition among multiple providers of local service that would drive down prices to competitive levels." Id ¶ 55. Indeed, there are still other respects in which the terms of the Act foreclose the incumbents' proposed "essential to competition" standard. In particular, the Act requires a showing that access is "necessary" before CLECs can be required to unbundle proprietary 12 See Verizon at 46-48; Qwest at 6-8. 13 See Z-Tel at 22 ("A cable operator, for example, may not access to all of the elements of the platforms but the Act does not require Z-Tel to buy a cable company in order to compete in the mass market."). Page 61 Reply Comments of AT&T Corp. July 17, 2002 35 elements (which are not involved here), and even for proprietary elements, the Act requires that the Commission ask if access is necessary not for any competition to occur, but for the particular CLEC who has sought access to provide the service that it seeks to offer. In making a "necessary" determination for proprietary elements based on cost disparities, the question is thus whether the cost disparities will "preclude" the CLEC from providing that service if access is denied. UNE Remand Order ¶¶ 44-47. And whatever the meaning of the "necessary" requirement that applies to proprietary elements, the Act makes explicit, and the Commission has elsewhere acknowledged, that the "impair" standard that applies to non-proprietary elements is a "different, and less demanding test." Brief of Respondents, Nos. 00-1015, 1025, at 25 (D.C. Cir.). Because it requires a showing only that CLECs' ability to offer service would be "materially diminished" if access to a UNE were denied, cost disparities are sufficient to establish impairment if they demonstrate that CLECs' ability to provide service would be materially lessened if they could not access the element on an unbundled basis. Thus, it is a textual impossibility to read these statutory terms as adopting an essential facility requirement­ as Verizon and USTA establish. Verizon also foreclosed ­ and USTA did not uphold ­ the incumbents' related challenge to the UNE Remand Order: their contention that the fact that CLECs are serving or could economically serve a subset of customers without use of a UNE means that denial of access to that UNE will not impair their ability to provide service to customers generally. 14 The Commission properly rejected this claim because "the ability of one or more competitors to serve 14 This claim is now pressed mainly by BellSouth, which contends that when there is "actual existence" of deployed alternative facilities to serve certain customers, "there is no need to undertake a `material diminishment' analysis," because "a carrier's self-provisioning or alternative procurement of elements outside of the ILEC network, in and of itself, proves that requesting carriers are not impaired . . . ." BellSouth at 4, 22-23; see also Qwest at 11-12. Page 62 Reply Comments of AT&T Corp. July 17, 2002 36 certain customers in a particular market is not dispositive of whether competitive LECs without unbundled access to the ILEC's facilities are able to compete for other customers in the same market or for customers in other markets." UNE Remand Order ¶ 54. An impairment analysis must take into account whether there are economic or technical factors that allow a facility economically to be deployed and used to serve one customer or class of customers, but that do not apply to other customers. For example, while switches can be deployed and customer locations with DS-1 or higher capacity loops (that do not require hot cuts) can be economically connected to these switches, just the opposite is the case for customer locations served by voice- grade loops that require hot cuts (and that increasingly are served using DLC, which presents additional impediments to CLECs' ability to connect them to their own switches). CLECs that attempt to use a switch to serve such customers thus face dramatically higher costs than the incumbents, often precluding (and at a minimum impairing) their ability to do so profitably. USTA recognized the same point. It did not accept the ILECs' claim that deployment of a switch to serve one class of customers establishes an absence of impairment for all customers. To the contrary, USTA expressly criticized the Order for purportedly failing to conduct a more "nuanced" analysis that addressed "market specific variations in competitive impairment." 290 F.3d at 422, 425-26. Lumping together customers who have different cost characteristics and making determinations of non-impairment based on facts applicable to only certain customers is the antithesis of such a nuanced determination. Second, particularly when read in light of Verizon's holdings that the Act's objectives require maximum unbundling, the other fundamental requirement of USTA is that the only cost disparities that cannot support a finding of impairment are those that are "universal" to all industries and apply to incumbents and new entrants alike. In particular, USTA precludes only Page 63 Reply Comments of AT&T Corp. July 17, 2002 37 findings of impairment that rest solely on the fact that elements have fixed costs that give them surmountable economies of scale and mean only that CLECs will have higher average unit costs than the incumbents "in the early stages of entry." USTA , 290 F.3d at 427. Conversely, USTA did not ­ and could not under Verizon ­ disapprove any of the other cost factors that the UNE Remand Order identified as relevant to an impairment analysis. Each of these other factors addresses cost or other disparities that erect economic barriers to entry through alternative facilities. Each means that new entrants have higher average costs than incumbents across all the relevant ranges of demand. Each means that alternative supply of an element can be wasteful, or that it is otherwise unsuitable for competitive supply by multiple firms. Each is also linked to natural monopoly characteristics of the incumbents' networks. As explained below, that is the case with the two other cost characteristics of network elements that the UNE Remand Order held to be relevant and that the USTA court did not discuss, much less disapprove: (i) whether incumbents have first mover advantages because new entrants must make "sunk" investments and (ii) whether connecting self-provisioned switching to the incumbents' loops requires new entrants to incur "additional costs" that the incumbent does not incur. UNE Remand Order ¶¶ 77, 79. B. Impairment Is Established By The Presence Of Economies of Scale, Sunk Costs Or Other Entry Barriers That Are Linked To Natural Monopoly Characteristics Of The ILECs' Networks And That Make The Elements Unsuitable For Multiple Competitive Supply, And The Fact Of "Actual Deployment" Of Facilities Is Insufficient To Establish Non-Impairment. For these reasons, responding to USTA and Verizon should present no difficulties for the Commission on this record, for it shows that the CLECs' principal impairments are related directly to the natural monopoly characteristics of the ILECs' ubiquitous networks. In this regard, there are two fundamental aspects of telecommunications generally ­ and of local telecommunications in particular ­ that distinguish it from other industries and that, in Page 64 Reply Comments of AT&T Corp. July 17, 2002 38 combination, mean that multiple competitive supply of network facilities is generally wasteful and will not occur even when it could be economically feasible unless new entrants have the ability first to build up a customer base by leasing ILEC network elements. One of these cost characteristics was discussed in USTA ­ that telecommunications equipment and facilities are characterized by fixed costs and economies of scale. For some, but not all, of these network elements, the economies of scale are of such a magnitude that the incumbents' average costs in deploying them decline across all relevant levels of demand and are lower than those that all new entrants (or all but certain uniquely situated new entrants) could achieve. That is the case with all transmission facilities, i.e ., loops and transport, and extends to other elements that are physically integrated with these transmission facilities ( e.g. , switches that are hard wired to voice-grade loops). Under some definitions, this fact alone establishes that a facility has natural monopoly characteristics. See Willig Reply Dec. ¶ 19. And there is a second, additional characteristic that unequivocally applies to telecommunications transmission facilities. It was discussed in the UNE Remand Order and was not addressed, much less disapproved, by USTA . It is that once investment is made in these facilities, the investment is effectively "sunk," in the sense that they cannot be re-deployed for some other use in the future. Id . ¶ 75. It is elementary economics that when a new entrant needs "to incur sunk costs" in order to challenge the incumbent, the new entrant incurs costs and risks that the incumbent did not, and the need to incur sunk costs constitutes a significant barrier to entry if the facilities it must duplicate are characterized by any significant economies of scale. UNE Remand Order ¶ 77; Willig Reply Dec. ¶¶ 21-22. The incumbents deployed facilities adequate to serve all customers, secure in the knowledge that they would face no competition and would be able to charge fully compensatory Page 65 Reply Comments of AT&T Corp. July 17, 2002 39 rates ­ as they did for a century before the 1996 Act was passed. By contrast, precisely because the incumbent has deployed facilities that are adequate to serve all needs of all customers (or can be upgraded to do so at marginal costs that are a tiny fraction of those a new entrant would incur if it tried to replicate those facilities), the new entrant is in a position that entry would require it to invest in wholly duplicative facilities that cannot be used for any other purpose if the investment fails, and that it may be unable to attract sufficient revenues to recover the sunk costs for either of two reasons. First, it must attract customers away from an entrenched monopolist who has established relationships with all customers, and it inherently faces risks that it may not be able to attract sufficient customers. See UNE Remand Order ¶ 77; Willig Reply Dec. ¶ 35. Second, even if the CLEC can attract customers, it may not generate sufficient net revenues, because the new entrant will need to incur marketing and other expenses that the incumbent does not in attempting to dislodge entrenched customers ( see id. ¶ 21, 35) and because the incumbent can respond to competition by pricing at its low marginal costs (s ee id. ¶ 25); UNE Remand Order ¶ 77. Indeed, the only circumstances in which a new entrant's efforts at competitive supply can truly be "wasteful" is when it must make such sunk investments that cannot be used for any useful purpose if it exits the market. See Willig Reply Dec. ¶ 22. Thus, even if the scale economies of a network element could theoretically be "surmountable," there is still a barrier to entry through alternative facilities if the element also requires a CLEC to incur sunk costs. In this event, new entrants generally will not construct facilities at all ­ and certainly would not attempt to enter on a ubiquitous scale even if that were otherwise feasible ­ unless they can first establish a customer base to which they provide local services by leasing facilities from the incumbent. See id. ¶¶ 20-21. That, of course, is what occurred in long distance. Before that market was opened to Page 66 Reply Comments of AT&T Corp. July 17, 2002 40 competition, it was widely believed that it had natural monopoly characteristics due to the combination of scale economies and the sunk nature of any long haul transmission investments. That was so even though establishing a national long distance network required the construction only of intercity "trunk" transmission facilities that hook up to some 164 LATAs, rather than (in the case of local telephony) building transport facilities that connect tens of thousands of wire centers with each other and loops that connect hundreds of millions of lines to the appropriate wire center. See Willig Dec. ¶¶ 211-14. And while it was arguable that the scale economies that characterized the long distance facilities were surmountable, all recognized that the transmission investments that new entrants would make would be "sunk" once they were made in that they could not be deployed for some other purpose. In view of the combination of substantial economies of scale and the need to incur sunk costs, it was recognized that entry into the long distance market simply would not occur on a broad scale ­ and there could not be a "market test" of whether long distance was in fact a natural monopoly ­ unless new entrants could build up a customer base before constructing alternative facilities by leasing the facilities of the incumbent. See id. ¶¶ 215-22. Thus, to allow a market test of whether long distance was a natural monopoly, the Commission gave new entrants the right to provide service by reselling the incumbent's volume discounted long distance service and obtaining exchange access at deep (55%) discounts, and new entrants used these leasing rights to establish a customer base and to build national long distance networks gradually. See Willig Reply Dec. ¶¶ 215-16. The experience with long distance service was the model for the network element provisions of the Act. H.R.Rep. No. 104-204, at 89 (1995). Notably, the Commission has determined that the only mechanism through which new entrants can enter the entire local market ( i.e ., by providing exchange access Page 67 Reply Comments of AT&T Corp. July 17, 2002 41 as well as exchange services) and acquire the customer base, customer usage, and traffic information that would enable them efficiently to deploy alternative facilities is by leasing unbundled network elements under section 251(c)(3). Local Competition Order ¶¶ 332-33 (1996); UNE Remand Order ¶¶ 5, 7, 112, 127. 15 In these regards, although the USTA Court believed that the mere existence of "surmountable" economies of scale alone should not establish impairment, it acknowledged that one of the key benefits of "access to UNEs" is that it may enable a CLEC to enter the market gradually, building up a customer base up to the level where its own investment would be profitable." 290 F.3d at 424. USTA thus recognized the benefits of unbundling where there are sunk costs, for it is the sunk nature of facilities investment that makes such "gradual" entry beneficial. It is clear, however, that the combination of sunk costs and economies of scale do more than establish barriers to competitive supply of local loops and other telecommunications transmission facilities. As the UNE Remand Order holds, these same entry barriers can apply to switching equipment that is connected to loops and other transmission facilities, especially when breaking the physical loop-switch connection requires the CLEC to incur "additional costs" that the ILECs do not. See , e.g. , id . ¶¶ 77, 265-66. USTA did not disapprove this holding either, for the fact that CLECs must incur such additional costs to access their customers' loops is a classic entry barrier that is directly "linked" to the natural monopoly characteristics of the local loop. Finally, USTA and the terms and history of the 1996 Act squarely foreclose the ILECs' claims that non-impairment is established solely by proof of "actual deployment" of facilities to 15 The form of resale of the incumbent's "retail" services that is authorized by section 251(c)(4) allows the provision only of exchange service and provides neither the customer base nor the information required to build alternative facilities. Local Competition Order ¶¶ 332-33. Page 68 Reply Comments of AT&T Corp. July 17, 2002 42 serve a particular class of customer. The reality is that, by eliminating legal barriers to entry, the Act permitted market tests of whether and in what conditions particular ILEC facilities have natural monopoly characteristics or are in fact suitable for multiple competitive supply. Indeed, if the evidence shows ­ as it does here ­ that carriers have deployed facilities but have been unable to use them to provide service profitably, that is direct evidence that investments were wasteful and that the element is unsuitable for competitive supply. See Willig Reply Dec. ¶¶ 81- 83. Conversely, the only actual marketplace experience that could establish that CLECs are not impaired in using an element is evidence that CLECs are able to provide service profitably by obtaining an element's functions outside the ILECs' networks. That is established by the Supreme Court's holding in AT&T v. Iowa Utilities Board, for the deficiency that the Court found with the Commission's standard in the 1996 Local Competition Order was that it permitted elements to be unbundled even when CLECs could earn "profits of 99%" from providing service through alternatives available outside the ILEC's network. 525 U.S. at 389-90. Thus, evidence that facilities have been deployed cannot establish a lack of impairment unless the actual experience of multiple CLECs also demonstrates that the service they provide through self-provisioned facilities is economic ­ and profitable. Thus, USTA did not accept the incumbents' claims that actual deployment of facilities alone establishes that CLECs are not impaired without access to UNEs. In particular, the ILECs' challenged the UNE Remand Order's determination that the evidence of deployment of switches to serve business customers was insufficient to demonstrate that CLECs would not be impaired in providing service if they were unable to obtain unbundled switching. There, the Commission found that it was "too early to know whether self-provisioning is economically viable in the short run." UNE Remand Order ¶ 256. This holding was quite prescient, for with the exception of Page 69 Reply Comments of AT&T Corp. July 17, 2002 43 CLECs serving customers using high-capacity loops, CLECs who invested in switching facilities have failed to attract sufficient traffic and revenues to achieve minimum efficient scale. USTA thus did not accept the incumbents' proposed "actual deployment" standard. Rather, by holding that the question is whether self-supply is "wasteful," the decision quite plainly requires consideration of whether CLECs that have deployed facilities have been able to provide service profitably or have instead been left with underutilized facilities ­ or even gone bankrupt or abandoned them. In this regard, as shown in Part VI below, that has been the actual marketplace experience. Contrary to the ILECs' claims, CLECs did not withhold investments in alternative facilities because they could obtain UNEs at TELRIC-based rates. Rather, CLECs over-invested in their own switches and other network equipment, for they deployed facilities that they could not obtain sufficient traffic and net revenues to support. C. AT&T's Impairment Showings Do Not Rely On Any "Universal" Cost Characteristics, But Are Based On Cost Disparities That Are Linked To Natural Monopoly Characteristics Of Local Telecommunications Facilities And That Establish That There Are Substantial Barriers To Entry Through Use Of Alternative Facilities. AT&T's evidence establishes impairment under USTA and Verizon. AT&T's impairment showings do not rely at all on cost disparities that are "universal" between incumbents and new entrants in "any" market. AT&T's evidence that CLECs are impaired without access to loops, transport, and unbundled switching for voice-grade loops all rests exclusively on cost characteristics that are "linked" ­ not just "in some degree" but pervasively ­ to natural monopoly characteristics of the incumbents' transmission elements. These characteristics can make alternative provision of loop, transport, and switching elements wasteful and severely impair the ability of multiple CLECs to supply them competitively. Indeed, competitive supply in the current market environment can occur only if the Commission (1) maintains the Page 70 Reply Comments of AT&T Corp. July 17, 2002 44 requirements that loop and transport facilities remain available nationally, (2) assures CLEC access to NGDLC loops, (3) modifies the switching "carve out" so it applies only to discrete customer locations served by DS-1 and higher capacity loops, and (4) entirely eliminates its "interim" use and commingling restrictions on loop/transport combinations. Loops . The record here unquestionably demonstrates that voice-grade loops ­ be they entirely copper or copper-fiber combinations in Digital Loop Carrier ("DLC") architecture ­ are quintessential examples of natural monopoly facilities that have average unit costs that decline throughout all relevant levels of demand, that cannot be replicated without sunk investments, and that cannot be economically supplied by ordinary CLECs. This is also the case with high- capacity loops. Those facilities are also characterized by steadily declining average costs, and it is only in rare and exceptional circumstances that a CLEC can deploy a high-capacity loop at economic costs that are close to those of the ILEC. But even when those conditions exist, the facts that CLECs would have to make sunk investments that duplicate the incumbent's and that CLECs have to individually obtain building access and rights of way that incumbents receive as a matter of course due to their first mover advantages mean (1) that a CLEC cannot rationally and economically deploy a loop unless it first serves customers by leasing unbundled loops, (2) even after it obtains a customer commitment that would allow deployment of an alternate loop, it will require unbundled loops during the lengthy period of time required to construct loops, and (3) in some circumstances, building access and right of way impediments will not just further delay, but will preclude entirely the provision of service through alternative facilities. All these cost disparities are directly linked to the natural monopoly characteristics of loops and other factors that render them unsuitable for supply by multiple firms. They are linked to scale economies that give the incumbents average costs that decline over the entire range of Page 71 Reply Comments of AT&T Corp. July 17, 2002 45 the demand. They are also linked to first mover advantages that incumbents enjoy due to the sunk nature of loop investments and the facts that building owners and municipalities place less value on second and third entrants than they do on the ILECs as the first entrants. Collectively, these factors mean that loops will be competitively supplied only in rare circumstances and, even then, loops can generally be constructed only if CLECs first have the right to lease unbundled loops. Thus, there is no general geographic or product market or submarket in which lack of impairment could be found, and no basis for "granular" exceptions to unbundling requirements for high-capacity loops. Finally, the evidence establishes that the Commission's existing rule that bars CLECs from accessing NGDLC loops in central offices ­ and the requirement that they do so by collocating in remote terminals ­ is a separate source of impairment, for it, too, creates cost disparities that are directly linked to the natural monopoly characteristics of the local loop. The rule denies CLECs nondiscriminatory access to loops that have natural monopoly characteristics, and forces them to incur wasteful and unnecessary costs if they attempt to do so. Transport. Dedicated transport has the same monopoly characteristics of loops. Because the fixed costs of all transmission facilities (trenching, support structures, and laying cables) are huge, and because the ILECs' costs of adding incremental capacity on any one route (activating dark fiber and adding new electronics to lit fiber) is very small, it is inherently true that incumbents can provide transport on any point-to-point route at lower average costs than a CLEC. These natural monopoly characteristics are heightened by the economies of scope that ILECs have because loop and transport facilities can use common structures. Indeed, it is only in exceptional circumstances that CLECs will have sufficient volumes to enable them to serve a point-to-point route at costs that are even close to those of an Page 72 Reply Comments of AT&T Corp. July 17, 2002 46 incumbent. Even then, the sunk nature of such investments means no prudent CLECs will make them until they have a sufficient customer base and commitments to provide the revenue stream needed to support such a project over the long term. Moreover, disparities in obtaining rights of way in the same time and at the same unit cost as the ILECs ­ stemming from the fact that municipalities see little incremental value in allowing second, third, or fourth providers to dig up streets and maintain transmission facilities ­ means that alternative transport cannot be built at all on many routes and will be delayed on others. As with loops, all of these factors are linked to the natural monopoly characteristics of the transport element. The evidence similarly demonstrates that CLECs are impaired if they continue to be denied unrestricted access to existing and new loop/transport combinations and if the Commission does not eliminate the use and commingling restrictions that apply to them. The use restrictions prevent a CLECs from using loops and transport facilities, both of which have natural monopoly characteristics, to provide exchange access services in competition with the incumbents, and the commingling restrictions have prevented them using these same natural monopoly facilities to provide local service. In addition, eliminating the restrictions on existing combinations (and rejecting ILEC claims that they should apply to new combinations) allows CLECs who self-provision switching to avoid the significant costs of collocating transmission equipment in every incumbent office where they serve customers and eliminates this barrier to entry for switch-based carriers. Switching. Switching presents different issues from transmission facilities. Switching is relatively scaleable compared to transmission elements, and switches can often be redeployed for other purposes (albeit with some cost penalty) if a CLEC exits a particular local market, so switching investments are not entirely sunk once they are made. And although switches take a Page 73 Reply Comments of AT&T Corp. July 17, 2002 47 significant amount of time to deploy, they do not present many of the rights of way and building access complications related to transmission facilities. Thus, AT&T has not maintained that (other than capital constraints) there is a significant impediment to a CLEC's ability to purchase and deploy a switch, and AT&T's evidence of impairment related to unbundled switching does not depend on these or any other arguably "universal" cost characteristics of switching. Instead, the source of the CLECs' impairment related to unbundled switching is directly ­ indeed physically ­ linked to the natural monopoly characteristics of the ILECs' loop plant and is inherent in the very architecture of the incumbents' local exchange networks. The CLECs' impairment results from the fact that ILECs' exchanges were designed to act as single-provider networks, with no view toward providing other switch-based local carriers with access to monopoly loops that is comparable to the access that incumbents receive to those same loops. There are thus two resulting sources of impairment to a switch-based local carrier. First, and most critically, the incumbents' switches are "hardwired" to their customers' loops, which, of course, themselves have natural monopoly characteristics and cannot be duplicated by typical CLECs. Although this architecture may have been efficient and reasonable in a monopoly environment, the consequence of this network architecture is that CLECs who self-provision switches cannot obtain nondiscriminatory access to natural monopoly loops, but inherently incur costs, delays, and degradations to their service that the incumbents do not incur. These costs are substantial for all customers served by ordinary voice-grade all-copper loops, for even beyond the additional costs that result from the required "hot cuts," they impose delays and service quality problems that market experience shows customers will not accept. These costs and practical impairments completely preclude CLECs from serving low volume customer locations, which must be served by a process that can handle very large volumes as quickly and Page 74 Reply Comments of AT&T Corp. July 17, 2002 48 as competently as the electronic systems used to change long distance carriers or to change local carriers using UNE-P. And the costs and technical quality and access problems can be even greater in the case of the large (over 25%) and rapidly growing percentage of customers served through DLC loops. Second, CLECs who self-provision circuit switches incur another type of "additional cost" that incumbents do not and that also are linked to the natural monopoly characteristics of the local exchange. In particular, because incumbents' central offices were designed on the assumption that local service would be provided by a single monopolist, they do not accommodate switching equipment of multiple providers. Because today's circuit switches are too large to be collocated in a central office, the consequence is that CLECs who self-provision switches must also incur the significant costs of collocating digital loop carrier equipment in every central office in which they serve customers (if loop-transport combinations are not made available free of commingling restrictions) and must, in all events, incur distance-sensitive transport "backhaul" costs to carry calls between the central office and the place where their own switch is deployed. Notably, these CLEC collocation, multiplexing, and transport costs are incurred as a substitute for the functions that ILECs obtain at radically lower cost by merely running a short jumper wire across its main distribution frame. 16 Although it is possible that there are some circumstances in which CLECs are able to place switches in locations that are more efficient to serve the needs of particular customers (for example in providing service to high volume customer locations with high-capacity loops), generally there are no or few offsetting savings, and any savings that exist are not remotely sufficient to offset the additional 16 For loops served by IDLC, the feeder trunks run directly into the ILEC switch, meaning that ILECs do not even need a cross-connect. Page 75 Reply Comments of AT&T Corp. July 17, 2002 49 costs that CLECs alone occur when they attempt to serve customer locations whose low demand only warrants the use of voice-grade loops. All these cost disparities are linked to natural monopoly characteristics of the ILECs' local exchanges. And although CLECs may have the ability to overcome these and other inequalities for large customer locations that generate large amounts of traffic and are served by DS-1 or higher capacity loops that do not require "hot cuts" to transfer each line, the unequivocal fact is that customers served by voice-grade loops cannot be practically or economically served by a CLEC switch. D. AT&T's Showing Of Impairment Also Rests On Meaningful Practical Differences In Timeliness, Quality, Operational And Technical Impediments, And Ubiquity. USTA recognized that all the impairment "factors" set forth in the UNE Remand Order can be expressed as differences in cost, although it is obviously difficult to quantify the four factors that are expressed in different terms: delay and differences in timeliness, differences in quality, operational and technical impediments, and differences in ubiquity. USTA also did not disapprove of the use of any of these factors, for none represent disparities that are universal between new entrants and incumbents in all industries, and, more fundamentally, each affects CLECs in ways that incumbents are not, and each prevents CLECs from offering service on terms comparable to the ILECs' service. Because AT&T's showings of impairment can be expressed in terms of each of these factors, the ILECs' comments have also made arguments that these additional factors are inapplicable or no longer valid. None of these claims has any merit. Delay And Timeliness. Delays that would result from denials of access to a UNE materially diminish CLECs' ability to provide service in multiple ways. For example, hot cuts cause delays that have prevented CLECs from serving the overwhelming majority of customer locations, and even in the relatively rare cases in which it might be economically feasible to Page 76 Reply Comments of AT&T Corp. July 17, 2002 50 deploy alternative loops or transport, delays associated with construction and obtaining rights of way or building access would prevent a CLEC from offering service even if it had otherwise obtained firm commitments from customers. The ILECs' arguments for ignoring these obviously customer-affecting concerns are specious. See Willig Reply Dec. ¶¶ 32-33. They claim that such concerns have lost their relevance because "CLECs have now had more than 5 years in which to deploy and/or make arrangements with alternative sources." Qwest at 14 n.22; see also Verizon at 58-59. But that assertion is not remotely responsive to the ways in which the Commission has found that delay can create impairment. Moreover, it is based on the absurd premise that CLECs could (and should) have begun building ubiquitously in 1996. Particularly in light of the current crisis in the capital market for telecommunications, any such argument is baseless. Delay is not a one-time phenomenon that occurs only when a CLEC first decides to enter a market. To the contrary, the Commission has emphasized that the delay does not only affect the "start-up time required for a competitor to enter a market," but also affects "the time it would take a competitor that has already entered the market to expand its operations to serve more customers." UNE Remand Order ¶ 89. Even with respect to "start-up time," of course, the ILECs' argument is specious, because it would foreclose entry by any new CLEC ­ one that has not been in the market for "more than 5 years." More fundamentally, even those carriers that have already entered "must be able to initiate service promptly upon the request of their customers" "in order to compete effectively." Id. ¶ 93. Thus, the kinds of delays that the Commission has relied upon in the past, such as those relating to rights of way access ( see id. ¶¶ 186, 384), do not cease to apply for new customers, even if a CLEC had served other customers for "more than five years." To the contrary, these Page 77 Reply Comments of AT&T Corp. July 17, 2002 51 delays exist "on a recurring, ongoing basis as to CLECs that have already `entered' a market and are seeking to win new customers, to build and connect facilities for those customers, and to compete with the ILEC in offering timely commitments for due dates when those customers are choosing a carrier." Id. ¶ 93 n.161 (quoting comments). The ILECs do not even attempt to explain why those delays have lost their relevance to "impairment." 17 Quality. Other impairments that AT&T has demonstrated can also be expressed as quality differences. Again, the outages and service degradations associated with hot cuts fall into this category. Quality is also the complete answer to the incumbents' startling suggestion that the competition provided by the nation's wireless carriers is sufficient to satisfy the Act's objective of "creat[ing] competition among multiple providers of local service." Compare UNE Remand Order ¶ 55 with ILEC Report at IV-12-14. Whereas the ILECs' networks are engineered to have call completion rates in excess of 99.9%, wireless networks' call failure rates are 30% or higher. For this reason, the most that ILECs can claim about wireless services is that a relatively small fraction of customers regard wireless services as a substitute for second telephone lines. Thus, the ILECs' proposal that CLECs pursue wireless alternatives is a proposal that CLECs be relegated to service that is of materially poorer quality and that virtually no customers regard as substitutes for first telephone lines, and that the vast majority of customers do not even regard as substitutes even for second lines. With respect to direct assessment of "quality" issues, SBC correctly acknowledges that such issues are relevant to impairment, but Verizon claims they are not. Compare SBC at 35 17 SBC also claims that it should be sufficient if CLECs can provide service within two years. SBC at 35. No customer would wait that long, and the ILECs could easily use that period to "lock-up" the customer with "long-term contracts." UNE Remand Order ¶ 91. The Commission thus properly rejected SBC's two-year time frame when it was proposed by SBC's predecessor, Ameritech, finding it "unreasonable and inconsistent with the objectives Act." Id. ¶ 92. Page 78 Reply Comments of AT&T Corp. July 17, 2002 52 with Verizon at 59. Verizon simply states that "there is no basis to believe that network elements from non-ILEC sources are of lower quality than ILEC UNEs." Verizon at 59. However, no one has ever suggested that such a blanket determination should be made, and AT&T does not claim that using facilities from non-ILEC sources will always create quality problems. However, when there are specific identified quality differences ­ such as, for example, when the inability to properly provision hot cuts means that CLECs' customers suffer delays and outages that ILECs' customers do not ­ it would be arbitrary and unlawful to ignore them. 18 Verizon also claims that, "[i]n any event," the Supreme Court has held that "mere" differences in quality do not constitute "impairment." Verizon at 59. This is true but irrelevant. Indeed, it is the same misstatement the ILECs make with respect to the Supreme Court's decision on "cost." A "mere" difference in quality does not necessarily constitute impairment (which is the mistake the Court held that the Commission made in the Local Competition Order ), but a material difference in quality does create an impairment, and neither the Commission nor any reviewing court has ever held otherwise. Operational And Technical Impediments. Hot cuts, again, are an obvious example of technical and operational impediments to the use of non-ILEC network elements, as are the 18 The importance customers attach to quality ­ and the ILECs' recognition of that importance in all forums except this one ­ is underscored by the ILECs' marketing and advertising campaigns. SBC, for example, has been running a series of advertisements suggesting that business customers could face massive quality problems if they switch local carriers. In one such television commercial, a businessperson is approached by a CLEC and asked to consider changing carriers. He nervously thinks, "Hmm, we changed our coffee vendor once." The commercial then shows the coffee machine spewing hot coffee directly in people's faces. The businessperson then explains to the CLEC, "Uhh, we're happy with what we've got." Finally, the announcer asks "Why risk it? Stick with the one you know." Such commercials are particularly outrageous in light of the fact that quality problems experienced by CLEC customers are at least as likely to arise from ILEC mistakes (in performing hot cuts or in their OSS) as CLEC mistakes. Page 79 Reply Comments of AT&T Corp. July 17, 2002 53 rights of way and building access problems associated with attempting to use alternative transmission facilities. Thus, the ILECs now contest the Commission's settled holding that "material operational or technical differences in functionality that arise from interconnecting alternative elements may also impair a requesting carrier's ability to provide its desired service." UNE Remand Order ¶ 99. SBC contends that the Commission should deal with such concerns "directly," rather than by examining them in determining which UNEs should be made available. SBC at 36-37. That objection is silly. If Commission or State commission action can and does eliminate a particular operational impediment ­ e.g. , by having ILECs implement electronic loop provisioning ­ then by definition that impediment will no longer exist and will not be considered in the impairment analysis. But electronic loop provisioning has nowhere been implemented, and the problems that have plagued the manual hot cut process, for example, reflect at least in part inherent operational limitations that other regulatory action have not been able to be overcome. That is vividly confirmed by the Comments of the New York PSC, which has worked assiduously and with great dedication in this area. See New York at 3-4 ("There are still major issues that hamper the development of facilities-based competition. Until hot-cuts can be performed in much greater volumes, CLECs' lack of access to the UNE-P will materially diminish their ability to provide local service.") Unless and until these operational problems are in fact "directly" eliminated, they will continue to impair CLECs' ability to provide service through alternative facilities and must be considered in the impairment analysis. Indeed, SBC is wrong not merely factually, but also legally, in suggesting that operational problems in connecting facilities have "nothing to do with" access to UNEs. SBC 36-37. The Commission held in the Local Competition Order (¶ 312) that the "access to network Page 80 Reply Comments of AT&T Corp. July 17, 2002 54 elements" required by section 251(c)(3) "refers to both the physical and logical connection to the element and the element itself." Accordingly, the Commission must examine the "connection" between the element and adjacent facilities in determining whether the failure to provide "access to such network elements" (47 U.S.C. § 251(d)(2)(B)) would create an impairment. 19 Further, as the UNE Remand Order held (¶¶ 62-63), the Act requires a determination of the effect a denial of access to a particular network element would have upon the "services" that the CLEC seeks to offer. When, as in the case of unbundled switching, such denial would prevent the CLEC from offering service to some customers altogether, and would materially delay and degrade the service to others, there is no question but that impairment exists. Finally, the Supreme Court's decision in Verizon recognizes that the Commission rules should "ensure that the statutory duty to provide unbundled elements gets a practical result," and "remove practical barriers to competitive entry into local-exchange markets." Verizon , 122 S. Ct. at 1683, 1685. Ubiquity. The Act makes the creation of local competition on the "broade[st]" possible basis an "end in itself" ( Verizon , 122 S. Ct. at 1654), and differences in ubiquity are directly and fundamentally related to the cost disparities that give elements natural monopoly characteristics. As Professor Willig explains, when, as is the case for the elements at issue here, facilities are characterized by economies of scale and require sunk investments (or are physically linked to facilities with these characteristics), there are immense barriers to facilities-based entry on a large scale and a new entrant will provide service through alternative facilities only if it can do so on a very small scale. See Willig Reply Dec. ¶¶ 19-47. But that poses other problems for the 19 Verizon separately contends that it is not relevant to "impairment" that a CLEC has to "incur the same costs or perform the same tasks" as the ILEC ­ tasks such as "connecting various elements to make up a network." Verizon at 5, 41. This argument is as disingenuous as it is frivolous. ILECs do not have to perform hot cuts when they sign up a new customer. Page 81 Reply Comments of AT&T Corp. July 17, 2002 55 new entrant because, when there is a "material restrict[ion]" on "the number or geographic scope of the customers [CLECs] can serve," it can severely impair a CLEC's ability to provide service. UNE Remand Order ¶ 97. The Commission has noted, for example, that serving broader areas can enable CLECs to spread marketing and other overhead costs across a larger number of customers, thereby reducing the disadvantages they face as a result of the ILECs' superior economies of scale, and that serving broad areas can be particularly necessary in order to be a viable service provider to residential and small business customers. Id. ¶ 98. This is a source of impairment even in circumstances when it is feasible for CLECs to enter through alternative facilities broadly, but in which, for obvious reasons, they cannot build simultaneously everywhere. Thus, the UNE Remand Order reasonably concluded that a showing that denial of access will prevent a CLEC from providing ubiquitous service constitutes impairment. In this regard, USTA quite plainly approved of this proposition, for it noted the Commission's determination that lack of ubiquity is a source of impairment, and did not criticize it. 290 F.3d at 422. Instead, the court merely questioned whether ubiquity actually supported national unbundling of the transport element because, for reasons discussed in Part II, infra, the Court could not exclude the possibility that alternative transport was in fact available between all wire centers that CLECs needed to access to reach "above-cost" business customers. Id. In fact, the ILECs' comments do not deny that resulting differences in ubiquity can constitute impairment. They merely note that many CLECs do not seek to provide ubiquitous service, but focus initially on the most profitable segments. See SBC at 37-39; Qwest at 13-14; Verizon at 60-61. But that is not invariably true, and is in any event a non sequitur . AT&T and WorldCom, for example, often seek to provide statewide service where the economics and Page 82 Reply Comments of AT&T Corp. July 17, 2002 56 technical capabilities within a State would support such entry. More fundamentally, the fact that some CLECs enter on a narrower basis than others does not mean that a CLEC who would seek to enter more broadly, but who could not do so without access to UNEs, is not "impaired" in its "ability" to provide "the services it seek[s] to offer." 20 Indeed, a key purpose of the Act is "to give aspiring competitors every possible incentive to enter local retail telephone markets, short of confiscating the incumbents' property." Verizon , 122 S. Ct. at 1661. This clearly encompasses rules that enable competition to emerge as ubiquitously as possible. Thus, the premise that CLECs do not need access to UNEs because they can cream-skim is completely antithetical to the Act's goals. Tariffed Services. The ILECs also again contend that the Commission should overrule its prior holding that the availability of ILEC tariffed access services, and resold services, are not to be considered in the impairment analysis. See Verizon 6, 51-55; SBC 27-29, 105. AT&T's initial comments fully addressed this claim. As AT&T explained (at 38-39), the Commission has properly rejected this argument each time it has been made, on the ground that it would enable the ILECs to render the unbundling obligations meaningless. The ILECs present no new arguments here, and there is no basis for changing this straightforward and plainly proper holding. Intermodal Competition. USTA also vacated the Line Sharing Order on the ground that the Commission had ordered the unbundling of the high frequency spectrum ("HFS") of the loop 20 See , e.g. , GCI at 5-6, 10 (explaining that GCI serves many parts of Alaska using alternative facilities, but UNEs are necessary for it to provide "ubiquitous competitive service"); Moline Dispatch at 6 ("In some cases, access to UNEs from the incumbent is necessary for a competitor to achieve geographic ubiquity."); NewSouth at 8-9, 21-22 ("UNEP allows NewSouth to expand its customer base and geographic range. Through UNEP, NewSouth can serve customers it could not technologically or economically serve over its own platform."). Page 83 Reply Comments of AT&T Corp. July 17, 2002 57 to allow CLECs to provide DSL-based services but had not considered the relevance of competition in broadband services from cable, satellite, and others. 21 The Court held that the Commission should not have refused to consider the existence of substitutes for DSL services that are provided over other media simply because DSL is the only service that CLECs were seeking to offer and DSL can be offered only over telecommunications facilities. USTA , 290 F.3d at 228-30. The Court left no doubt, however, that the Commission could, after such a review, readopt its line sharing rules on remand, for the Court expressly rejected the incumbents' alternative claim "that a portion of the spectrum of the loop cannot qualify as a `network element.'" Id . This aspect of USTA thus stands for the proposition that the Commission must consider whether substitute services that are offered outside the ILECs' networks have led to the profitable provision of service by multiple providers that is the object of the Act. The answer is that it does not. That is plainly the case for the voice services. As explained in greater detail below and by Professor Willig, competition provided by cable telephony is extremely limited in scope. Indeed, to date, CLECs in New York have gained about as many customers using UNE-P as all cable companies have obtained nationwide. Willig Dec. ¶ 86. Further, even if cable telephony competition were to develop, it would permit, at most, a duopoly. As the Commission explained in its UNE Remand Order (¶ 55), the language and history of the 1996 Act make it explicit that Congress rejected any notion that voice competition from cable television operators could afford grounds to do away with the Act's unbundling requirements: 21 The Commission's line splitting requirements were not a subject of the appeal of the Line Sharing Order . Consequently, USTA has no bearing on line splitting arrangements in which the CLEC purchases access to an entire loop. Page 84 Reply Comments of AT&T Corp. July 17, 2002 58 We believe that Congress rejected implicitly the argument that the presence of a single competitor, alone, should be dispositive of whether a competitive LEC would be "impaired" within the meaning of section 251(d)(2). For example, although Congress fully expected cable companies to enter the local exchange market using their own facilities, including self-provisioned loops, Congress still contemplated that incumbent LECs would be required to offer unbundled loops to requesting carriers. A standard that would be satisfied by the existence of a single competitive LEC using a non-incumbent LEC element to serve a specific market, without reference to whether competitive LECs are "impaired" under section 251(d)(2), would be inconsistent with the Act's goal of creating robust competition in telecommunications. In particular, such a standard would not create competition among multiple providers of local service that would drive down prices to competitive levels. Indeed, such a standard would more likely create stagnant duopolies comprised of the incumbent LEC and the first new entrant in a particular market. An absence of multiple providers serving various market would significantly limit the benefits of competition that would otherwise flow to consumers. As Professor Willig explains (¶ 109), CLECs cannot remotely match the cable companies' ability to deploy loop functionality. Like the ILECs, cable companies were able to deploy their near-ubiquitous transmission networks as legally franchised monopolies, and, like local telephone networks, cable networks exhibit huge scale economies and are characterized by substantial sunk costs. Thus, CLECs could no more replicate the cable companies' networks than they can hope to replicate the ILECs'. This is equally true for broadband services. The Commission need look no further than the price increases that incumbents initiated in response to the contraction of data CLECs last year ­ and the incumbents' efforts to engage in price signaling and other forms of tacit collusion ­ to demonstrate that the level of intermodal competition is insufficient to achieve the Act's goals. See infra Part III.B. Again, the ILECs' ability to exercise market power arises from the fact that they face only one significant source of intermodal competition, i.e ., cable modem Page 85 Reply Comments of AT&T Corp. July 17, 2002 59 services. 22 Further, cable modem services are not uniformly available and are generally not available to small business customers. See id. In fact, analysts estimate that nearly 40% of households have access to DSL but not cable modem service. McKinsey & Company and JP Morgan, Broadband 2001 , Chart 25 (Apr. 2, 2001). Vigorous intramodal broadband competition is particularly necessary because the ILECs have strong incentives to charge high prices for DSL. See infra Part III.B. That is because DSL- based services cannibalize high margin second line and T1 services. See id. Thus, by keeping DSL prices high, ILECs not only earn profits on DSL that are comparable to what they earn on existing high margin services, but they know that many of the customers that they "lose" because of the high DSL prices will end up returning to or staying with other high margin services. Intramodal competition from CLECs provides customers with an alternative to the ILECs' DSL offerings that would constrain the ILECs' exercise of market power. II. THE COMMISSION CAN AND SHOULD DECLARE ANY EXISTING SUBSIDIES TO BE IRRELEVANT TO ITS UNE DETERMINATIONS, BUT IN ALL EVENTS THE RECORD DIRECTLY PROVES CLECS SUFFER IMPAIRMENTS FOR BOTH "ABOVE-COST" AND "BELOW-COST" CUSTOMERS AND ADDRESSES ALL "MARKET SPECIFIC VARIATIONS IN COMPETITIVE IMPAIRMENT." In addition to holding that the UNE Remand Order applied an overbroad standard of "impairment," USTA held that the UNE Remand Order insufficiently explained its adoption of national unbundling rules that applied to all "customer classes and geographic areas." Although the UNE Remand Order had addressed (¶ 20) whether there should be exceptions to the national list of elements for "discrete geographic and product markets," USTA was concerned that the 22 As explained in Part III below, although initially promising, fixed wireless and satellite-based data services have to date failed to live up to expectation and have achieved only minimal consumer acceptance. Page 86 Reply Comments of AT&T Corp. July 17, 2002 60 Commission had failed to consider "market specific variations in competitive impairment" and that by instead lumping all customers together into a single market, it had ordered unbundling "in many markets where there is no reasonable basis for thinking that competition is suffering from any impairment of the sort that might have been the object of Congress's concern." USTA , 290 F.3d at 422. As explained in Part I and in subsequent sections of these reply comments, AT&T's impairment showings fully reflect the "variations in competitive impairment" that apply to different classes of customers due to the cost characteristics of the relevant UNEs, and they establish that where impairments now exist, the conditions apply to all geographic areas. Ironically, USTA principally faulted the UNE Remand Order for failing to explain why its unbundling determinations focused solely on cost and cost-related disparities and did not consider the effects of the historic system of funding universal service, which allowed incumbents to charge "above cost" rates to certain customers in order to "cross-subsidize" the underpriced basic service that incumbents have been required to provide to certain "rural and/or residential customers." As USTA noted, this system distorts competition for both classes of customers, and USTA concluded that the Commission had not explained why it had not taken these effects into account in its unbundling determinations. See id. at 422-23. First, the Court noted that, quite apart from incumbents' costs advantages in deploying UNEs, the competitive provision of basic service to "rural and/or residential customers" can be independently precluded by State requirements that incumbents provide the service at below-cost rates in some conditions. Id. at 422. In other circumstances, the Court said that any resulting UNE-based competition would develop only if (1) UNE rates were "well below the ILECs' historic costs" or (2) CLECs can offset below-cost basic service rates with revenues from long distance or enhanced services. Id. The court said "the Commission never explicitly addresses by Page 87 Reply Comments of AT&T Corp. July 17, 2002 61 what criteria want of unbundling can be said to impair competition in such markets where, given the ILECs' regulatory [restrictions], any competition will be wholly artificial." Id. Second, the Court stated that the "gap[s] in the Commission's reasoning [were even] greater in the case of "above-cost customers." Id . The Court said that even if there had been findings of impairment specific to these customers, the findings appeared skewed, because the Commission "nowhere appears to have considered the advantage CLECs enjoy in being free of any duty to provide underpriced service to rural and/or residential customers and thus of any need to make up the difference elsewhere." Id. at 423. In the Court's view, this could give CLECs a price advantage in providing service to above-cost customers that "offset[s]" the cost disadvantages that CLECs have in deploying alternative facilities, and that the question for the Commission seemingly should be whether there is a "net impairment." Id. The Court noted that "as a matter of pure language," the Commissioner could "perhaps" treat the CLECs' cost disadvantages in deploying and using alternative facilities to constitute "an impairment" and ignore any advantage that CLECs enjoy under the historic system of subsidiaries. Id. at 423. However, the Court stated that "the Commission has never explained why such a view makes sense." Id. There is a single short answer to the Court's concerns about below-cost and above-cost customers. Section 254 of the Act requires that any implicit subsidies that have been built into retail rates be eliminated and that such subsidies be replaced with a "competitively neutral" method of funding universal service that is explicit and portable ­ so that universal service support mechanisms have no effect on competition for either below-cost or above-cost customers. Indeed, because of section 254's separate mechanisms, the Supreme Court has already held that historic methods of funding universal service are irrelevant to unbundling Page 88 Reply Comments of AT&T Corp. July 17, 2002 62 determinations under the Act. See IUB , 525 U.S. at 392-93. However, even if the Commission were to attempt to reflect any existing subsidies in its unbundling analysis, they have no effect on its impairment determinations. AT&T's evidence of actual marketplace experience focuses on its and other CLECs' ability to serve "above-cost" customers at prevailing retail rates that reflect any existing subsidies. It demonstrated that, despite any resulting advantages, CLECs have been unable profitably to serve "above-cost" large business locations through alternative loops or transport facilities, or to provide service to customer locations served with voice-grade loops using their own switches, each of which demonstrates a "net impairment." USTA , 290 F.3d at 423. This marketplace experience, as well as the Commission's findings in section 271 cases and other orders, demonstrate that CLECs are, a fortiori, impaired in offering service even when basic service rates are priced below cost. A. Section 254 And The Supreme Court's IUB Decision Make The Existence of Implicit Subsidies Irrelevant To The Commission's Unbundling Determinations. The subsidy-related deficiencies that USTA identified in the UNE Remand Order were, on their own terms, failures of explanation only. The Court held that the Commission had not explained why impairment determinations had not weighed the effects of subsidies that, as a historic matter, could preclude the competitive provision of local service to certain rural and/or residential customers who received "underpriced" service and could give CLECs seeming arbitrage advantages in serving the other customers who had been charged above-cost rates to fund the implicit subsidies. But providing this explanation is an exceedingly simple matter. A fundamental object of the Act is to eliminate implicit subsidies and their potential to distort the competitive provision Page 89 Reply Comments of AT&T Corp. July 17, 2002 63 of local service in the ways USTA identified. 23 As the Supreme Court held in AT&T v. Iowa Utils. Bd. , supra , the Act's terms and structure permit, and indeed require, the Commission to make unbundling determinations based solely on cost-related disparities and without regard to any residual implicit subsidies. This is clear from section 254 and its relation to section 251. Section 254 requires the Commission and the States to remove implicit subsidies from interstate and intrastate retail and other rates, to fund universal service support explicitly ( e.g., through surcharges on customer bills), and to make the subsidies portable and "competitively neutral" ­ such that subsidy payments are received by whichever carrier serves the rural and/or residential customers who are to be subsidized. Once this regime is fully implemented everywhere, universal support will have no distorting effects on competition anywhere. There will be no customers that carriers must serve at losses, for carriers that serve those "rural and/or residential" customers who receive "underpriced" service will also receive explicit, portable subsidies that make up for any shortfall. And because the funding of subsidies will be explicit and will be paid by other customers regardless of the carriers that they use, CLECs will have no arbitrage or other advantage in serving those customers. Critically, under the Act's terms, this process of universal service reform begins only after the Act's unbundling requirements are first implemented. In particular, section 251(d)(1) (and the timetables established by section 252) required the implementation of the Act's unbundling provisions by rules issued within six months of the enactment of the 1996 Act and by interconnection agreements arbitrated within ten months. By contrast, section 254