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Pretty Good ISDN Cost Study (fwd)



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  INFORMATION POLICY NOTE  - ISDN Cost Study
  March 15, 1996
  
  -    Below is the expert testimony of Dr. Scott Rafferty
       regarding how ISDN tariffs should be in set in Delaware. 
       The testimony was filed on March 13, 1996, on behalf of the
       Delaware "Public Advocate" (Patricia Stowell,  Voice: 302/
       577-3087).  Some of the highlights of the testimony are:
  
  -    Bell Atlantic should be required to offer a second
       residential line with 100 hours of ISDN data service at the
       SAME PRICE as a second analog telephone line.  (Note, at
       present, Bell Atlantic charges from $120 to $240 of usage
       charges for 100 hours of residential ISDN service).
  
  -    Additional minutes of use should be priced at TRUE
       incremental cost and CAPPED at the marginal cost of a
       dedicated ISDN circuit. 
  
  -    The true incremental cost of ISDN is between $4 and $9 and
       falling.
  
  -    The RESIDENTIAL rate should be made available to SCHOOLS, as
       has been done in Tennessee.  The installation charge should
       be the same as for analog service.
  
  -    American jobs are at stake.  ISDN adapters are made by
       Motorola, US Robotics, IBM, 3Com, and Cisco.  There are
       enormous export opportunities for the first country that can
       mass produce the electronics required by this technology. 
       If regulators allow telephone companies to price ISDN at
       artificially high levels, America's lead will be lost and
       emerging economies may adopt the competing European standard
       for ISDN. 
  
     jamie (love@tap.org, 202/387-8030)
  
  Here is Scott's testimony:
  
  Date: Wed, 13 Mar 1996
  DIRECT TESTIMONY OF SCOTT RAFFERTY
  AerieGroup@aol.com
  
  Q.   PLEASE STATE YOUR NAME AND ADDRESS.
  A.   My name is Scott J. Rafferty.  My business address is 4730
  Massachusetts Avenue, Washington DC 20016.
  Q.   HAVE YOU PREVIOUSLY TESTIFIED BEFORE THE DELAWARE PUBLIC
  SERVICE COMMISSION?
  A.   Yes.  I presented testimony and prepared comments on behalf
  of the Public Advocate in Regulation Dockets No. 33, 41, and 42
  (alternative regulation) and Case No. 92-47, the most recent Bell
  Atlantic rate case.
  I.   BACKGROUND AND SUMMARY
  Q.   WHAT IS THE PURPOSE OF YOUR TESTIMONY?
  A.   My testimony proposes that residential ISDN be tariffed on a
  revenue neutral basis.  This is required by the terms of the
  Telecommunications Technology and Investment Act and by the rules
  that Staff has proposed to implement the statute.  Universal ISDN
  was one of the principle goals of the statute.  Unlimited local
  usage for a modest price, indexed to inflation, was one of the
  principal benefits of price cap regulation for Delaware
  consumers.
  Q.   WHAT IS AN APPROPRIATE PRICE FOR ISDN?
  A.   Bell Atlantic should offer a second residential line with
  100 hours of ISDN data service at the same price as a second
  analog line with unlimited local usage.  Additional minutes of
  use should be priced at true incremental cost (which I cannot
  determine with current data) and capped at the marginal cost of a
  dedicated ISDN circuit.  Additional revenues from usage should be
  tracked and used to reduce other rates through a revenue neutral
  restructure.  These prices will provide the predictability and
  affordability that consumers need to make the significant initial
  investment that ISDN requires.
  Q.   DO THESE RATES RECOVER BELL ATLANTIC'S COSTS?
  A.   Yes.  Demand for residential ISDN has been for second lines,
  and it should be tariffed as such.  Second lines generate
  significant excess contribution.  Since Bell Atlantic equips
  residential installations with at least one spare pair, in most
  cases second lines can be provisioned with no additional
  trenching.  Bell Atlantic includes all loop costs in the
  incremental cost of ordinary access lines, so any extraordinary
  growth in second lines - which ISDN creates - creates a windfall
  for Bell Atlantic.  This windfall is more than sufficient to
  cover the actual incremental costs of an ISDN connection (e.g.,
  the difference between an analog line card and an ISDN card plus
  the U-repeater).    The price for unlimited local usage was
  established when Bell Atlantic elected price cap regulation.  The
  growth in usage for data transmissions was clearly foreseen.  The
  consumer's adoption of a more efficient technology, which reduces
  transmission time, should not forfeit the entitlement to
  low-cost, flat-rate local service.  Such a policy would be
  intensely discriminatory, since Bell Atlantic promotes Centrex
  ISDN for business customers to "nail up" virtual connections on a
  full-time basis - without any charge whatsoever.
       Based on public sources, the true incremental cost of ISDN
  is between $4 and $9 and falling.  Bell Atlantic claims that its
  cost studies, which have produced inconsistent results, are
  proprietary and cannot be disclosed publicly.  The claim of
  proprietary treatment ignores the fact that ISDN is a monopoly
  service that cannot currently be replicated by any competitor. 
  The inadequacies and inconsistencies of the cost studies are
  discussed in the restricted version of this testimony.
  Q.   SHOULD ISDN SUBSCRIBERS BE REQUIRED TO LOSE THEIR INTRASTATE
  VOICE PLAN?
  A.   No.  The residential ISDN tariff provides that "the customer
  must subscribe to residence individual line per call service" and
  "local measured rate usage charges" apply to voice calls. Section
  10A, Orig. Sheet 14, 2.d(1) and (2).  The business tariff does
  not have this provision.  This restrictions discriminates against
  residential customers and should be eliminated.  
  Q.   DO YOU HAVE OTHER RECOMMENDATIONS?
  A.   Yes.  The residential rate should be made available to
  schools, as has been done in Tennessee.  The installation charge
  should be the same as for analog service.
  II.  TECHNICAL CHARACTERISTICS OF ISDN
  Q.   WHAT IS ISDN?
  A.   Integrated Services Digital Network is an architecture that
  allows people access to higher data speeds using existing
  telephone lines.  It has been capable of implementation since
  about 1988 and is in use in a number of foreign countries.  The
  purpose of the standard is to provide a gradual shifting of
  analog communications networks to digital transmission.
       There are two levels of ISDN.  The basic rate interface (or
  BRI) includes two bearer channels and one delta channel and is
  often abbreviated as "2B+D."  Each of the bearer channels
  provides a circuit for digitized voice or data at a speed of 64
  kilobits per second (kbps).  The delta channel, which has a speed
  of 16 kbps, is generally used for signaling, but can transmit
  packetized data. 
       The primary rate interface includes a delta channel and
  either 23 or 30 bearer channels.  Because this capacity exceeds
  most currently foreseeable residential applications, I do not
  recommend that it be tariffed as a residential service at this
  time.
  Q.   CAN ISDN-BRI CARRY TWO CONVERSATIONS AT ONCE?
  A.   Yes.  In theory, each of the two bearer channels can carry
  an independent voice, data, or facsimile transmission, although
  the line has only one phone number.  However, the most frequent
  application of residential ISDN may be for high-speed internet
  access.  Most users will want to combine their two bearer
  channels (through bonding or the use of the multilink
  point-to-point protocol) to achieve a speed of 128 kpbs.
  Q.   HOW DOES THIS SPEED COMPARE TO ANALOG TRANSMISSION?
  A.   Because of Bell Atlantic's advanced network, computer users
  are often able to connect at the highest speed now capable of an
  analog modem, which is 28.8 kbps.  However, the modem often steps
  down to lower speeds.  In addition, the analog conversion makes
  the transmission particularly vulnerable to voltage drops and
  other interruptions.  Most experts believe that 28.8 kbps is the
  practical maximum that modulated data will ever be able to travel
  over copper wire.
       By contrast, 128 kbps service is almost five times faster
  than the highest attainable speed using modem technology. 
  Furthermore, algorithms for digital compression are being
  introduced that will boost effective throughput even higher.
  Q.   HOW USEFUL IS THIS ADDITIONAL SPEED?
  A.   In recent years, a number of consumers and businesses have
  placed information on an internet-based network known as the
  "World Wide Web."  The Web uses a graphical interface to permit
  users to view and download text, photographs, sound and video
  files through the use of "browser" software.  The government
  published a free browser known as "Mosaic," while Microsoft
  bundled its "Explorer" browser into Windows 95.  An even more
  popular browser is "Netscape," which has additional capabilities
  for transactions and database applications.  Web sites are
  distinguished by addresses that begin with "http://."  By
  connecting your computer to my Web site
  ("http://www.concentric.net/~Rafferty"), for example, you can
  search the new telecommunications act, track a Federal Express
  package, find a zip code or 800 number, download President
  Clinton's speeches or Bell Atlantic's press releases, connect to
  the Library of Congress, to the Idaho Public Service Commission,
  or the Japanese telephone company.  The Web provides the ability
  to transfer from site to site through the use of Hyper-Text
  Mark-up Language, which creates "links" or "clickable maps" that
  the user can select with a mouse.  Sites readily accessible from
  most personal computers may actually be located on servers
  throughout the world.
       Web browsing can be almost intolerably slow at analog
  speeds, even with the best modems.  For example, a
  high-resolution full-screen picture could contain a 1.5 megabit
  of data.  Simply to view such a single frame would take 45
  seconds under the best possible conditions attainable with analog
  technology.  With ISDN, the image can be transmitted in about 12
  seconds.  Analog technology is incapable of transmitting quality
  voice and video files in real time.
  Q.   HOW BROADLY IS ISDN AVAILABLE?
  A.   According to TelSoft International, 90 million access lines
  in the United States were ISDN-capable at the end of 1995.1  At
  least 29 states have tariffs for residential ISDN.  As of October
  1994, Bell Atlantic had 16 million ISDN-capable lines - more than
  any other Bell operating company.2
  Q.   IS ISDN SUITABLE FOR PRIMARY RESIDENTIAL SERVICE?
  A.   Ordinary telephones are line powered.  Since they draw
  necessary electricity from the telephone line, they continue to
  operate when electrical lines are cut.  This is an important
  safety feature, since it enables essential communications to
  continue during power outages.
       Although ISDN service is ordinarily more reliable,
  particularly for data calls, it involves more components.  The
  network interface, the protocol converter, and the adapter may be
  combined in a single device.  However, this device is often
  internal to a personal computer.  If any component fails to work,
  or if the computer malfunctions, voice telephone communications
  may not be possible.  In this respect, an analog line with
  multiple telephone instruments is more reliable.
       A final limitation of ISDN as primary service involves the
  cost of wiring extensions.  Generally, every room in which a
  telephone is located must be connected with 8-line wire.  Each
  location requires an adapter and network interface, which costs
  about $300 even with the minimum functionality to connect a voice
  instrument.  For these reasons, most residential subscribers
  would do well to retain their primary analog service.
  
  III. IMPACT OF MONOPOLY PRICING
  Q.   WHAT IS THE IMPACT OF PRICING ISDN SERVICE OVER COST?
  A.   According to Bell Atlantic, consumer demand for ISDN is
  highly price sensitive.  In February 1995, Bell Atlantic filed an
  "emergency petition for waiver" from a Federal Communication
  Commission ruling that would have required two subscriber line
  charges of $3.50 per month for BRI service.  Bell Atlantic
  claimed that a $3.50 price increase would have these dire
  consequences:
       [C]onsumers are underrepresented on the "net." . . .  The
  Commission's order requiring multiple subscriber line charges for
  ISDN lines will seriously clog this on-ramp.  The resultant
  [$3.50] price increase will cause fully 60 percent of the
  expected ISDN consumer base to stay with traditional telephone
  lines.  This will perpetuate the existing under-representation of
  consumers on the internet and retard continued construction of
  the Superhighway.  It will also curtail internet and other
  information service access to a large number of educators, health
  care professionals, government agencies, and businessmen.  The
  order will have an even greater longer-term effect, because it
  will dry up demand for - and investment in developing - future
  services that make efficient use of the local loop. 
       Without a waiver [establishing a single $3.50 federal
  surcharge per ISDN line], the Commission's recent order . . .
  will deprive residential and business ratepayers of a new,
  innovative information superhighway service that provides high
  quality digital access to advanced services, such as the internet
  and on-line information services.
       ISDN alone affords consumers and businessmen alike
  high-quality digital access to the Internet, a multiplicity of
  database services, videophone capabilities, digital data at a
  range of speeds, and a burgeoning host of voice and data
  features. . . .  An increase in the SLC charge, however, is
  likely to price the service above most consumers [sic]
  willingness to pay, reducing the potential consumer demand by 60
  percent or 100,000 customers over the next three years. . . .  It
  is also likely to cause 10-25 percent of current ISDN customers,
  who have already invested in expensive ISDN [terminal equipment]
  to terminate service.  Most significantly, as shown above, it
  will substantially curtail the number of residential subscribers
  who will find ISDN a cost-effective way of entering the
  Information Superhighway.  Instead, they are likely to retain
  their existing traditional analog local service and lose the
  Information Superhighway benefits of ISDN. In the Matter of Bell
  Atlantic Telephone Companies, Emergency Petition for Waiver, Feb.
  10, 1995 [emphasis supplied].
       If a $3.50 federal surcharge will have these dramatic
  effects on residential demand, there will be a devastating impact
  if the Commission allows Bell Atlantic to price 100 hours of
  internet usage at more than $150 over the price charged by
  telephone companies in other jurisdictions.
  Q.   HOW MUCH DOES ISDN COST ELSEWHERE?
  A.   On March 8, 1996, the Consumer Project on Technology
  published a survey of residential ISDN tariffs.  Bell Atlantic's
  proposed prices were the second highest for 100 hours of usage
  and the fourth highest for full access.  The latter rate is 67
  times higher than the price paid by consumers in Whitewater,
  Arkansas.3
  
  
  
  State (Company)               100 hr 2B+D         Full Access
  
  BELL ATLANTIC                 198.00                   1206.48
  
  Alabama (BellSouth)           68.60                    68.60
  
  Arkansas (NATCO)              17.90                    17.90
  
  California (PacBell)          63.62                    268.32
  
  
  Florida (BellSouth)           57.15                    57.15
  
  Georgia (BellSouth)           63.75                    63.75
  
  Illinois (Ameritech)          33.05                    28.05
  
  Indiana (Ameritech)           314.83                   1828.59
  
  Kansas (SBC)                  104.30                   104.30
  
  Kentucky (BellSouth)          60.05                    60.05
  
  Louisiana (BellSouth)         71.66                    71.66
  
  Massachusetts-E (NYNEX)       226.39                   1419.41
  
  MassachusettsW (NYNEX)        159.19                   911.65
  
  Michigan (Ameritech)          36.61                    33.51
  
  Mississippi (BellSouth)       65.61                    65.51
  
  Missouri (SBC)                69.00                    104.30
  
  New York (NYNEX)              153.58                   890.98
  
  No Carolina (BellSouth)       75.10                    75.10
  
  Ohio (Ameritech)              26.00                    26.00
  
       [CPT Note: the Ohio numbers were incorrectly reported
       in the Version 1.0 version of the CPT study.  The
       correct number should have been $32.20]
  
  Oregon (USWest)               68.00                    1949.64
  
  So Carolina (BellSouth)       60.40                    60.40
  
  Tennessee (BellSouth)         29.50                    29.50
  
  Utah (USWest)                 173.88                   184.00
  
  Wisconsin (Ameritech)         36.56                    30.90
  
  
  Q.   WHAT ADDITIONAL COSTS MUST A RESIDENTIAL CONSUMER INCUR?
  A.   For each room in which the subscriber wants to use ISDN, he
  must buy an adapter.  These cannot be obtained from most phone
  and computer stores or even mail order houses.  In this region,
  Bell Atlantic is one of the only suppliers to the retail market. 
  Most of these adapters cost between $275 and $600.  Bell Atlantic
  recommends the Bitsurfer Pro, which costs $374. 
       In addition, the subscriber must order a new line
  installation, even if he already has two lines.  He must also
  install new 8-line wire in his house and new RJ-45 jacks.  Bell
  Atlantic bundles these elements.  The company will provide a $5
  discount if the adapter is ordered with service, plus a $150 if,
  in addition to service, the customer allows Bell Atlantic to
  install the software and inside wire.  Bell Atlantic charges $160
  for the line installation, $100 for wire installation and from
  $75 for software installation ($125 if it must open the
  computer).4  For a typical installation, the initial costs of
  ISDN are over $700, less the bundling discount of $155, but not
  including the cost of any telephones or computer equipment.  A
  second jack and adapter would cost about $450.
  Q.   WILL THESE PRICES FALL?
  A.   In a rate case in Maryland during 1992, Bell Atlantic's
  expert witness stated:
  My feeling is that those prices will remain high until the ISDN
  market really starts taking off, and then they will fall fairly
  rapidly until they end up with like a slight premium over current
  top of the line phones. Case No. 8462 before the Public Service
  Commission of Maryland, July 8, 1992, Transcript at 371.
       I agree that prices for terminal equipment will fall only
  when the market for the service "takes off."  Eventually, states
  like Ohio, Tennessee, and Arkansas will move beyond Delaware. 
  However, because Bell Atlantic has more ISDN capable lines than
  any other telephone company in the country, its policy of
  overpricing residential ISDN has a significant impact on delaying
  the development and cost reduction of ISDN-compatible equipment
  for the mass market.
  Q.   ARE THERE OTHER ADVERSE ECONOMIC EFFECTS?
  A.   Yes. American jobs are at stake.  ISDN adapters are made by
  Motorola, US Robotics, IBM, 3Com, and Cisco.  There are enormous
  export opportunities for the first country that can mass produce
  the electronics required by this technology.  If regulators allow
  telephone companies to price ISDN at artificially high levels,
  America's lead will be lost and emerging economies may adopt the
  competing European standard for ISDN.  As Compaq and Intel
  observed before the California Public Service Commission: 
       Reasonable pricing of ISDN services and the development of a
  mass market for such services are essential for the growth of the
  high technology industry in California and the U.S., and for the
  public's need for improved Internet, on-line services, remote LAN
  access, and video conferencing. Complaint on Grounds of Pacific
  Bell's Unjust and Unreasonable Rates and Charges and Practices
  and Inadequate Service for its ISDN Services, Before the
  California Public Utilities Commission, Feb. 1, 1996,  21.
       Compaq and Intel were challenging the residential rate for
  full internet connections in California, which is one-fifth the
  level that Bell Atlantic proposes to charge.  In New Mexico,
  Intel's witness testified:
       USWest's proposed pricing for ISDN will severely retard, if
  not entirely preclude, the development of a mass market for the
  service in New Mexico, with adverse consequential effects outside
  the state as well.  This will retard the growth of the
  high-technology industry in New Mexico and the productivity and
  competitive of the state. Docket No. 95-769-TC, New Mexico Public
  Service Commission, Testimony of Ted Hetu.
       The rate being challenged in New Mexico was $184 for a
  full-time connection - less than one-sixth of Bell Atlantic's
  residential tariff in Delaware.
  Q.   DOES THE SOFTWARE INDUSTRY REGARD ISDN AS AN IMPORTANT
  TECHNOLOGY?
  A.   Yes.  Bill Gates has underscored the basic fact that ISDN is
  critical to reach a mass market for data communications.
       "[T]he PC will drive explosive demand [for ISDN]. . . .  The
  line costs vary by location but are generally about $50 per month
  in the United States.  I expect this will drop to less than $20,
  not much more than a regular phone connection.  We are among
  companies working to convince phone companies all over the world
  to lower these charges in order to encourage PC owners to
  connect, using ISDN. . . . 
       "The companies providing local [telephone] service have been
  slowly introducing advanced digital transmission capabilities
  into their networks.  They haven't felt the pressure to hurry,
  because until now it seemed they were protected from competition
  by large financial barriers to market entry. . . .  The
  opportunity to provide ISDN to PC users will provide new revenues
  to phone companies that want to bring the price levels down to
  establish a mass market.  I expect ISDN adoption to get off to a
  faster start than cable mode[m]s."  Bill Gates, The Road Ahead
  101, 240-41 (1995).
  
  Q.   WHEN DID BELL ATLANTIC BEGIN OFFERING ISDN?
  A.   Bell Atlantic began offering ISDN with Centrex in May 1992. 
  At this time, Bell Atlantic stated that it would offer ISDN to
  non-Centrex based customer by the end of 1992.5  The
  Telecommunications Technology and Investment Act required Bell
  Atlantic to make ISDN available to all ratepayers in the state by
  March 1997. 26 Del. Code 711(3).  In March 1994, however, Bell
  Atlantic committed to make ISDN available "from every central
  office" by 1996.6  In addition, the company stated that it would
  make ISDN available "immediately" to all subscribers (using
  foreign exchange links when necessary).  However, Bell Atlantic
  did not even file a tariff to provide residential ISDN anywhere
  in Delaware for more than a year and a half. 
  Q.   IS REGION-WIDE PRICING OF ISDN REASONABLE?
  A.   No.  It may be appropriate to price ISDN at a premium if
  rates for other monopoly services can be reduced.  This can occur
  in states that use a form of rate of return regulation, such as
  Maryland.  Usage charges in Maryland may offset the total revenue
  requirement and make lower rates for other services possible. 
  Since Delaware's rates for other basic services can escalate
  automatically under price caps, there is no basis for pricing a
  monopoly service above its cost. 
       Furthermore, almost all switches in Delaware are ISDN
  capable.  Average loop distances are shorter than any other Bell
  Atlantic jurisdictions except the District of Columbia.  Uniform
  region-wide rates subsidize subscribers in other states. 
  Instead, Delaware's prices should be determined on the basis
  required by the statute that implemented regulatory reform in
  Delaware.  Under price cap regulation, it is important that the
  Commission establish a just and reasonable rate in the first
  instance, since there are no opportunities to require significant
  rate reductions later.
  Q.   IS THE COST OF IMPLEMENTING ISDN "EXOGENOUS" FOR PURPOSES OF
  THE TELECOMMUNICATIONS TECHNOLOGY AND INVESTMENT ACT?
  A.   No.  Bell Atlantic clearly foresaw the need to implement
  ISDN at the time it elected price cap regulation under Delaware's
  Telecommunication Technology and Investment Act.  Indeed, the
  promise to implement ISDN was one of the explicit promises that
  Bell Atlantic made to the legislature and to the Commission.  The
  statute specifically provides that ISDN is a "basic service." 
  Under price cap regulation, rate restructures of basic services
  must be revenue neutral.  Therefore, to the extent that
  residential dial tone is enhanced with the promised ISDN
  capability, any new rate elements must be offset by rate
  reductions and approved by the Commission.  Delaware's tariffs
  have never distinguished dial tone line by technology, even
  though digital switches make available features that are not
  offered to customers of analog offices.  Therefore, it would not
  be appropriate to classify residential dial tone as a wholly
  "new" service simply because it uses a new technology (ISDN). 
  Even if this was the case, however, staff's proposed rules
  require revenue neutrality. Staff Proposed Rules, April 26, 1994, 
  6.1.5.
  Q.   WHAT DOES REVENUE NEUTRALITY MEAN?
  A.   Revenue neutrality means that Bell Atlantic absorbs the
  incremental costs of providing the new functionality. 
  Residential dial tone lines with ISDN is cross-elastic with
  "regular" dial tone.  Bell Atlantic should recover (in the rates
  for ISDN lines) the revenues lost from the "regular" lines that
  they displace.  Since the additional costs of implementing ISDN
  were foreseen at the time that Bell Atlantic elected price cap
  regulation, they cannot be recovered from ratepayers except
  through a revenue neutral rate restructuring.
  Q.   ARE THE REVENUE LOSSES LOWER IN DELAWARE THAN IN OTHER
  JURISDICTIONS?
  A.   Yes.  According to Bell Atlantic, every single Delaware
  subscriber has retained an analog line. Public Hearing
  Transcript, Jan. 16, 1996, at 42.  Some have added ISDN as a new
  second line, while others have replaced an existing second line. 
  The penetration of second residential lines in Delaware is
  unusually low, so ISDN lines generate substantial new revenues.
  Q.   DOES ISDN MEAN AN INCREASE IN USAGE?
  A.   No.  Usage is increasing because of internet traffic, not
  because of ISDN.  For the equivalent number of bits, ISDN will
  decrease minutes of use - since it is so much faster than analog
  transmission.  In the public comment hearing, Bell Atlantic
  conceded that there was "no difference" between subscribers
  making longer calls with a modem and with ISDN.  "[E]nough people
  did that through our voice network with an analog modem, which we
  are starting to see more and more of these days because of
  on-line and internet services . . ., that assumptions about usage
  are being, for lack of a better phrase, blown out of the water. .
  . .  So we are having to expand the capacity of those switches
  for the analog side, not just the ISDN." Public Hearing
  Transcript, Jan. 16, 1996, at 42.
       Bell Atlantic admits that there "has not been sufficient
  experience" to predict any net impact on local usage from
  offering ISDN.7  The only conceivable increase in minutes of use
  would result if analog technology was so slow that users chose
  not to reduce the amount of data that they transmit.  Otherwise,
  these data sessions will be completed with one-fourth the minutes
  of use.  Consumers should not be penalized for using a more
  efficient technology that saves the phone company money.
  Q.   ARE THE COSTS OF INCREASED SWITCH CAPACITY RECOVERABLE UNDER
  PRICE CAPS?
  A.   No.  The maintenance of a low-price unlimited usage was the
  major accomplishment of price cap reform for residential
  subscribers. In May 1992, the Public Advocate stated that the
  Commission should continue flat-rate dial tone in order to
  maximize local usage. Initial Comments of the Office of Public
  Advocate on Staff's Proposal for Incentive Regulation, Docket No.
  33, filed May 26, 1992.  Dramatic increases in local usage were
  clearly foreseeable, and therefore cannot be recovered as an
  "exogenous cost."
  Q.   WHAT INCENTIVES DOES BELL ATLANTIC HAVE TO PRICE ISDN OVER
  COST?
  A.   There are several incentives.  The first is to realize
  monopoly profits, particularly in the short term.  According to
  one source, Chairman Ray Smith of Bell Atlantic has told the
  trade press that "ISDN is going to be a major revenue source in
  1996, 1997, and 1998." Hetu Testimony, supra.  Beyond this
  period, additional technologies may eventually limit the ability
  of telephone companies to price ISDN at monopoly levels.
       Bell Atlantic may hope to advantage its own information
  service by pricing monopoly components at a high level.  This may
  account for the delay in introducing residential ISDN at any
  price level until the eve of the new federal Telecommunications
  Act, which authorized Bell Atlantic's entry in this market.  Bell
  Atlantic has announced plans to become a "full service internet
  provider" by midsummer.8  It is also considering offering ISDN as
  part of a larger information service.9
       Alternatively, Bell Atlantic may form a partnership with an
  information provider on terms that are more favorable than the
  public tariff.  When asked if it had already discussed providing
  ISDN to particular information providers on an "individual case
  basis," Bell Atlantic claimed that its answer was proprietary.
  Response to OPA Request 10, dated Jan. 26, 1996.  On March 12,
  1996, Pacific Bell entered an alliance with Microsoft Corporation
  to provision ISDN in California.10  On its information service,
  Microsoft will accept orders for Bell Atlantic ISDN service in
  Delaware for an installation charge of $35.96, monthly charge of
  $28.90 and no additional usage charges (although these prices may
  be in error).11
  Q.   WILL BELL ATLANTIC DEVELOP ALTERNATIVE TECHNOLOGIES?
  A.   Bell Atlantic may also wish to delay ISDN pending the
  development of a proprietary architecture for residential data
  transmission.  On February 22, 1996, Bell Atlantic told the
  Washington Post that it would offer asymmetrical digital
  subscriber line (ADSL) for data within a year.12  USWest will
  offer service by November 1996.13  ADSL will initially operate at
  1.5 megabits per second (or 12 times the speed of ISDN), but
  could increase to 10 megabits per second.  Installation costs run
  from $500 to $1000 a line.  Bell Atlantic has suggested pricing
  at the $30 level, plus possible usage, while US West suggests
  $150.  Though a joint venture with NYNEX and Pacific Telesis,
  Bell Atlantic may try to dominate the market for proprietary ADSL
  set-top boxes.  Unlike ISDN, ADSL will not provide a standard
  that can eventually be used on wireless systems.
       ADSL is not a practical substitute for ISDN in the near
  future.  ADSL modems cost $2500, although one manufacturer claims
  that a home version will be available for $995 "real soon."14 
  There are conflicting ADSL standards that may impede reductions
  in equipment prices.  Motorola is pursuing discrete multitone
  (DMT), while AT&T has developed carrierless amplitude and
  modulation (CAP).  Not all DMT modems are compatible, but this
  technologies may work better over longer loops.  When these
  technical problems are resolved, ADSL may provide superior data
  access as prices comparable to ISDN.  Bell Atlantic has not
  performed any studies of the cross-elasticity between ADSL and
  ISDN.15  Its director of technology states that ISDN plans will
  continue "unabated," because "I believe ISDN truly meets most
  people's data requirements in the home right now."16  Therefore,
  the future prospect of ADSL should not delay timely
  implementation of residential ISDN at revenue-neutral rates.
  Q.   DO CABLE MODEMS PROVIDE A POTENTIALLY COMPETITIVE
  ALTERNATIVE TO ISDN.
  A.   Cable modems are not available to consumers in Delaware at
  the present time.  The cable industry has announced 24 trials of
  their own asymmetric technology.  Potentially, cable modems can
  operate at 500 kbps to 27 Megabits per second - 4 to 50 times the
  speed of basic rate ISDN.  Many of the trials involve unusually
  sophisticated network architectures, such as Continental's
  facilities in Eastern Massachusetts; none are in Delaware.
       The unswitched architecture of most cable systems reflects
  their principal function of transmitting uniform content
  downstream.  Cable modem technology dynamically reallocates
  bandwidth to dedicate channels to specific users.  Upstream links
  are vulnerable to voltage surges and outside interference from
  radios or lights.17  Because of the star configuration, line
  pollution can accumulate upstream and threaten a large number of
  subscribers.  If demand progresses at a predictable rate, the
  network can be subdivided with additional headend facilities. 
  However, there are serious technical challenges, particularly at
  high penetration levels.  By contrast, the telephone network can
  provide near universal access to switched data circuits with
  relatively little alteration to the basic network architecture. 
  For these reasons, cable operators will be unable to offer a
  competitive product to most residential subscribers in Delaware
  for several years.  During this time, there is a substantial risk
  of monopoly pricing and delays in the provision of affordable
  data service.  
  
  IV.  ISDN COSTS
  Q.   WHAT HAS BELL ATLANTIC SAID PUBLICLY ABOUT ISDN COSTS?
  A.   At the public comment hearing, Ms. Gaghan of Bell Atlantic
  stated that the costs of "overutilizing the analog facilities"
  with data calls "are far in excess of what you're actually paying
  for" because the "price you pay for an analog circuit today is
  based on primarily voice traffic assumptions which have very
  short connect times." Public Comment Hearing at 51.  She stated:
  "People are always trying to get around the rules."  (Since
  unlimited local usage for a flat rate is provided by tariff, it
  is difficult to understand why Bell Atlantic views intensive use
  of analog facilities as an evasion.)  According to Ms. Gaghan,
  however, the 4 cent per peak minute usage charges "reflect the
  actual cost of the facilities." Id.  As discussed below, this
  claim is not consistent with any of the public literature about
  usage costs.
       Even if Bell Atlantic was entitled to recover costs of
  increases in local usage associated with internet access, which
  it is not, it has not made public any data that would support a
  claim that usage charges of this magnitude can be cost-justified. 
  All studies produced by Bell Atlantic have been proprietary.
  Q.   HOW MUCH DID BELL ATLANTIC SAY IN 1993 THAT BUSINESS ISDN
  SERVICE COSTS?
  A.   In February 1993, Bell Atlantic produced cost studies for
  individual line business ISDN, but these are under a protective
  order.
  Q.   HOW MUCH DID BELL ATLANTIC SAY THAT RESIDENTIAL ISDN COSTS
  IN OCTOBER 1995?
  A.   Bell Atlantic claimed proprietary treatment for this study. 
                            [redaction]                          
  The study understates the contribution impact for a number of
  reasons.
  
            [redaction]
             There is no showing that Residential ISDN will
  increase Bell Atlantic's investment in land and buildings, so
  none of these costs are incremental.    [redaction]    fiber and
  cable investments that are not incremental to ISDN.  
  
  Q.   HOW MUCH DID BELL ATLANTIC SAY THAT RESIDENTIAL ISDN COSTS
  IN NOVEMBER 1995?
  A.   A month later, Bell Atlantic announced that its demand
  projections had changed dramatically, purportedly because 
            [redaction]
         Undated fax, Smith to Citrolo, "Bell Atlantic - Delaware
  Residence ISDN - Filing Details," submitted circa Oct. 20, 1995. 
  In fact, America OnLine began providing ISDN access (through
  intermediary providers) in February 1996.  It is difficult to
  understand how the delay by a single on-line company of access
  for five months could have a material impact on a five-year
  demand forecast.  
            [redaction]
  
       In the second study, 
  
  
            [redaction]
  
  
  
  Undated facsimile, Smith to Citrolo, circa Oct. 20, 1995.
  Q.   HOW MUCH DID BELL ATLANTIC SAY THAT RESIDENTIAL ISDN COSTS
  IN FEBRUARY 1996?
  A.   Bell Atlantic's third study is a more conventional
  incremental cost study.  Instead of a highly aggregated
  present-value analysis of total revenues and costs, the study
  purports to analyze the direct cost of components of the service. 
  Bell Atlantic uses the Capcost Plus Cost Model.
       
            [redaction]
                           These costs are not additive and need to
  be analyzed separately.  For example, Bell Atlantic later
  admitted that the analog line card is not used for ISDN and its
  cost should be deducted from an incremental cost study.18 
                 [redaction]
  ISDN set-ups complete almost four times more quickly than analog
  calls.  Although the study claims that circuit switched data
  costs more than [redaction] an hour, Bell Atlantic gives away
  on-net data calls to Centrex customers and promotes their use for
  24-hour nailed-up connections.
       In other respects, the study is not adequately documented.       [redaction]              - even though the costs of
  ISDN equipment is falling quickly. 
       [redaction]    even though Bell Atlantic later admitted that
  software licenses are part of a "buyout option and are not
  separately developed for the ISDN feature."19 
  
            [redaction]
  
       20  The [redaction] surcharge to provide foreign exchange
  service to customers of non-equipped offices is not supported,
  and could not last beyond the conversion of these switches, which
  will occur early in the study period. 
       Generally, cost allocations have no place in an incremental
  cost study.  
  
            [redaction]
  
       Usage costs, which are generally insignificant, depend to
  some extent on elements of switch capacity which must be
  engineered to peak.  
  
            [redaction]
                        There are time inconsistencies. 
            [redaction]
                           As Bell Atlantic has conceded, analog
  internet usage has blown historical studies "out of the water." 
  Any attempt to determine a unit cost for set-up or minutes of use
  would have to be redone for substantially increased call volumes. 
  For this purpose, circuit switched data usage from residential
  ISDN would need to be combined with on-net Centrex data usage
  (which is provided free) to generate a lower average cost (peak
  and off-peak).
  Q.   WHAT INFORMATION IS PUBLIC ABOUT ISDN COSTS?
  A.   The most detailed public analysis is the studies by the
  Tennessee Public Service Commission and by South Central Bell,
  which were reviewed by the fellows of the National Regulatory
  Research Institute (NRRI).  The Tennessee Commission did not
  provide proprietary treatment for ISDN costs.  Its staff found an
  incremental cost of $9.77, while South Central claimed $66.13. 
  NRRI found that ISDN plus loop costs cost about $24.00.  Based on
  these studies, the Tennessee Commission ordered flat rate service
  for $21.40 to $26.00 depending on density group.  The Commission
  waived all installation charges for the first year.
       There are a number of reasons why ISDN costs in Tennessee
  are higher than Delaware.  Average loop length is much longer and
  switching is not as advanced.  Thirty percent of loops in South
  Central's territory are loaded and must be deloaded (at a cost of
  up to $2000 per loop) to provide digital service.  The cost of
  money used by South Central is significantly higher than that
  faced by Bell Atlantic.
       The Tennessee staff and NRRI share many of my concerns about
  improper costing.  NRRI criticized South Central for including
  "practically every nut and bolt in the loop plant, buildings and
  land," since these cost elements are not "marginal or addition to
  providing ISDN services." "NRRI's Review of Tennessee's ISDN Cost
  Studies," NRRI Quarterly Bulletin, 125, 127.  The staff properly
  excluded costs of loop plant (except pair gain equipment), as
  well as land, buildings, and administrative cost.  Because of
  downsizing, the authors specifically questioned increasing
  administrative costs in proportion to investment.
  Q.   DID THE NRRI EXPERTS MAKE OTHER RECOMMENDATIONS?
  A.   Yes.  The NRRI paper recommended that "residential
  customer[s] choosing ISDN should not lose any preferential
  advantage available using POTS service." Id. At 130. 
  Specifically, lifeline should be extended and flat rate service
  for circuit switching maintained.  Indeed, they concluded that
  "considerations of promoting ISDN services may justify a lower
  rate [for usage]." id. at 131.  They suggested that a charge
  might be made for packet usage on the D channel (but the
  Commission ordered this charge waived this charge for the first
  year).  The NRRI study also proposed requiring a marketing plan
  to assure than 4 percent of all residential lines elect ISDN
  within three years.  The study also recommended that the
  residential rate be made available to schools.
  Q.   ARE THE PROPOSED RATES FOR RESIDENTIAL ISDN JUST AND
  REASONABLE?
  A.   No.  The getting started costs of ISDN, which are not a
  significant part of Bell Atlantic' total costs, were incurred to
  serve business customers, who have had ISDN for more than three
  years.  Universal availability of ISDN was a promise that Bell
  Atlantic made to the legislature in return for price cap
  regulation.  A technology deployment plan was required by the
  legislature as a condition of electing price cap regulation. 
  Although this plan promised "immediate" availability of ISDN, no
  steps were taken to tariff the service for 18 months.  The
  proposed rates reflect region-wide tariffs that subsidize
  jurisdictions with higher costs or the ability to use premium
  charges to offset basic rates under rate-of-return regulation. 
  They are not appropriate for Delaware and retard a technology
  that is important for the economic and educational development of
  the state.
  Q.   SHOULD INSTALLATION, LINE AND USAGE CHARGES BE HIGHER FOR
  ISDN THAN FOR ANALOG SERVICE?
  A.   No.  The costs that are truly incremental to ISDN service
  can be covered by current rates, particularly since the marginal
  costs of second lines is below the existing tariff.  I would
  support a surcharge, however, on the use of ISDN for exclusive
  service.  Since this has economic and safety disadvantages for
  the subscriber, it is unlikely to be sought (especially at
  current adapter prices).  Although there may be some short-term
  costs in training and materials, over the life cycle of the
  product, ISDN installation should not be significantly more
  expensive than plain old telephone service.  The consumers who
  pioneer this technology should be rewarded, not penalized and
  required to pay for installers to learn the new technology.
       I would accept a cap on switched data usage of 100 hours a
  month to distinguish dedicated lines.  Even a full-time
  connection should be priced at its marginal cost, to ensure
  against the windfall that above-cost usage charges would create.
  Q.   DOES THIS CONCLUDE YOUR TESTIMONY?
  A.   Yes.
  1  Summers and Dunetz, ISDN: How to Get a High-Speed  Connection
  to the Internet at 5 (1996)
  2  id., at 32, citing Bellcore.
  3 Source: "CPT Survey of ISDN Tariffs," love@essential.org to
  isdn@essential.org, 11 Mar 1996, 11:37.  The 100 hour assumptions
  are: 100 calls, 30% from 8am-5pm, 10% from 5pm-7pm, 35% from 7pm
  to 11pm, 25% weekends and 11pm-7am.
  4 Prices from Bell Atlantic, 800-204-7332, as of March 12, 1996.
  5 PR Newswire, May 6, 1992, Wednesday, Financial News, BELL
  ATLANTIC FILES ISDN TARIFFS AS AN OPTION TO CENTREX.
  6 Notice of Election, March 24, 1996, Tab D: Telecommunications
  Deployment Plan, at 11.
  7 Response to OPA Request 7, Dated Jan. 26, 1996.
  8 Mills, "Making Copper a Bit Faster," Washington Post, Feb. 22,
  1996, at D-1.
  9  Response to OPA Request 14, Dated Jan. 26, 1996.
  10  Business Wire, March 11, 1996, "Pacific Bell Joins with
  Microsoft to Make ISDN Access Just a Few Keystrokes Away"
  11  http://www.microsoft.com/isapi/windows/provider.exe
  12 Mills, "Making Copper a Bit Faster," supra.
  13 Telechoice Report on ADSL, March 9, 1996, "US !nterprise [sic]
  Group Commits to Late October/Early November Deployment"
  http://www.telechoice.com/xdslnewz
  14 Http://alumni.caltech.edu/~dank.isdn/adsl.htm
  15 Response to OPA Request 13, dated Jan. 23, 1996.
  16 Mills, "Making Copper a Bit Faster," supra.
  17  Robichaux, "Cable Modems are Tested and Found to Be
  Addictive," Wall Street Journal, Dec. 27, 1995.
  18 Response to OPA Request 17, dated Jan. 26, 1996.
  19 Response to OPA Request 9, dated Jan. 26, 1996.
  20  The current mix is  [redaction] 5ESS. Conversation with
  Virginia Leonetti, Bell Atlantic, March 13, 1996.
  
  
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