Petition to the Federal Communications Commission for Structural Relief (September 4, 2009)

Summary – As AT&T and Verizon gobbled up direct and potential competitors over the past decade, they committed to meet certain pro-competitive provisions. But they have failed to do so, instead seeking to thwart competition through every available means.

The FCC should initiate a formal investigation into Verizon’s and AT&T’s practices. If AT&T and Verizon are found to have willfully violated the law or the FCC’s merger conditions, the Commission should find that they are unfit to hold mobile wireless licenses. This structural relief would break the stranglehold of collusion currently dominating the industry, and would unleash two new powerful companies with the incentive and ability to compete vigorously in all segments of the telecommunications market.


I. Introduction

The relevant market for analyzing mobile communications is the overall telecommunications market, including local, long distance and mobile communications.

AT&T and Verizon understand the dynamics of the telecom market and have re-monopolized it in order to minimize competition in each of its segments.

The elimination of rivalrous competition has resulted in subscribers paying about $50 per month on average for mobile service, or roughly twice as much as would be supported in a fully competitive market. This equates to an overpayment of approximately $75 Billion per year.

As AT&T and Verizon gobbled up direct and potential competitors over the past decade, they committed to meet certain pro-competitive provisions. But they have failed to do so, instead seeking to thwart competition through every available means.

These Comments and Petition request the FCC to initiate a formal investigation into Verizon’s and AT&T’s practices. If AT&T and Verizon are found to have willfully violated the law or the FCC’s merger conditions, the Commission should find that they are unfit to hold mobile wireless licenses.

This structural relief would break the stranglehold of collusion currently dominating the industry, and would unleash two new powerful companies with the incentive and ability to compete vigorously in all segments of the telecommunications market.

II. Competition in Mobile Wireless

Verizon and AT&T (formerly SBC Communications) dominate the mobile wireless segment of the telecommunications market, much like they dominate the entire industry. For example, AT&T and Verizon control about 60% of the mobile subscribers in the United States. The Herfindahl index for mobile wireless in the U.S. exceeds 2200, which is well above the level used in traditional antitrust analysis to identify the highest degree of concentration in an industry.

What former FCC Chairman Reed Hundt once called an unthinkable merger between telecom giants has become the lasting emblem of the non-existent government oversight by the Bush Administration and the resulting egregious corporate behavior.

A key ingredient to judging the degree of competition in a market is the competitive rivalry amongst competitors. In telecommunications, there is no competitive rivalry between AT&T and Verizon and there is an implicit agreement, at a minimum, not to compete on price.

Since their entry into mobile communications, AT&T and Verizon have stressed issues such as network coverage, not price, in marketing their services. For example, every evening TV viewers are subjected to watching a band of merry nerds standing behind Verizon’s ubiquitous network, while AT&T is showcasing its milky roll-over minutes or the speed of its 3G network against world-class athletes. Sprint has followed this “anything-but-price” lead by highlighting network reliability in its television ads.

In contrast, companies in other industries such as GEICO and Wal-Mart routinely champion price leadership in their advertisements. Similarly, in the foregone days when a modicum of competition existed in the telecom industry, MCI would run ads with a clock showing the price savings it would deliver, or feature a grandmother weeping after speaking at length to her family – over the size of the bill.

The current industry structure results in higher prices than would otherwise be the case. In looking at mobile wireless prices around the world, the United States has the highest prices for cellular service according to the Organization of Economic Co-Operation and Development at $635 per subscriber per year. This compares to prices that are less than $140 per subscriber per year in Sweden and the Netherlands, and about $300 per year on average for countries other than the U.S.

In the United States, Clearwire has shown that it can viably offer a bundle of local, long distance and mobiles services on a high-capacity basis in its initial markets for less than $40 a month. Moreover, Clearwire paid for its spectrum and is burdened by high start-up expenses. In contrast, Verizon and AT&T were provided 25 MHz of prime spectrum at no cost and have amassed enormous economies of scale given their early market entry. Clearly, Verizon’s and AT&T’s mobile divisions would be profitable with prices significantly below $40 a month.

While AT&T and Verizon argue that their prices are low on a per-minute basis, this is a non sequitur. For example, would Comcast argue that its Cable TV rates are cheap based on the price per minute of TV viewership?

AT&T and Verizon do not price on a per-minute basis, and their costs do not vary significantly with changes in minutes per customer. For example, both carriers offer pricing plans with a high fixed monthly access rates. On the cost side, wireless networks and the associated equipment are fixed in nature. Moreover, the largest variable costs such as sales, marketing, customer service and billing vary predominantly with the number of subscribers, not with the number of minutes per subscriber.

As part of its investigation, I encourage the Commission to subpoena AT&T’s and Verizon’s internal cost and pricing studies. The Commission should also ask AT&T and Verizon to provide the percentage of revenue that they receive from per minute usage charges. Additionally, for those minutes that are assessed per minute charges, AT&T and Verizon should be required to provide their average revenue per minute.

The Commission will find from the investigation that, with rigorous competition, prices would fall by as much as 50% for mobile communications in the United States. This equates to $75 billion a year in excessive costs borne by consumers. Over the next decade, the existing industry structure could result in $1 Trillion in overpayments by consumers without actions by the federal government designed to increase competition.

Given its public interest mandate, the FCC has an obligation to investigate these facts and take corrective action if they are supported by the evidentiary record.

III. AT&T and Verizon Have A Long History and Culture of Anticompetitive Behavior

Theodore Vail was the original mastermind of the Bell Telephone System. Vail perceived the importance of a nationwide telephone network only two years after Alexander Graham Bell had invented the telephone. Vail also sought to erect barriers to entry wherever possible to sustain his vision for the Bell System.

For example, at the outset of the industry, Vail resolved a patent infringement case with Western Union by getting Western Union to agree to: 1) get out and stay out of the telephone business and 2) let the Bell Companies have access to all of the patents that Western Union owned dealing with the telephone. In turn, Vail committed that the Bell Companies would stay out of the telegraph business.

By the early 1880’s, Vail had come to believe that long distance lines were of prime importance to the Bell Company’s success. Vail’s vision was that the company: “. . . will connect one or more points in each and every city, town or place, in the State of New York with one or more points in each and every other city, town or place in said State, and in the rest of the United States, Canada and Mexico, and also by cable and other appropriate means with the rest of the known world as may hereafter become necessary or desirable in conducting the business of the association.”

Vail said: “The strength of the Bell System lies in this ‘universality.'” His favorite phrase was: “One policy, one system, one universal service”. The Bell System came to use universal service and later regulation as the justifications for maintaining its monopoly position – through both lawful and unlawful behavior.

During the period 1907-1918, Vail molded the Bell System into a long-standing structure. In 1907 there were about 3,132,000 Bell telephones in the United States and some 2,987,000 independent company telephones. As the independent companies ran into financial difficulties, the Bell System associated companies bought them. The financial panic of 1907 brought Western Union to the brink of disaster and Vail used the opportunity to consolidate it as well.

Vail’s approach was allowed to proceed unabated for several years until Clarence Mackay of the Postal Telegraph Company complained to the Justice Department, charging AT&T with violation of the antitrust laws.

As the antitrust movement gained traction, AT&T decided to settle the case in 1913 and agreed to sell its stock in Western Union. AT&T also agreed to provide long distance service to independent telephone companies and to buy additional independent telephone companies only if agreed upon by the Interstate Commerce Commission, and then only in special instances.

This so-called “Kingsbury Commitment” had been in effect only for eight years when the

Graham-Willis Act was enacted. This Act exempted telephone companies from the antitrust laws in order to make it possible for them to “unify the service” by merging competing telephone exchanges.

AT&T’s anticompetitive philosophies were rekindled under the new legislation, as reflected by the approach its new leader, Walter S. Gifford, who was elected president in 1925, and held this position until 1948.

In speaking before the National Association of Railroad and Utilities Commissioners in 1927, Gifford laid out his philosophy by explaining that the telephone business is “from its very nature carried on without competition in the usual sense.” This, he said, has “a most important bearing on the policy that must be followed by the management if it lives up to its responsibilities. The fact that the ownership is so widespread and diffused imposes an unusual obligation on the management to see to it that the savings of these hundreds of thousands of people are secure and remain so. The fact that the responsibility for such a large part of the entire telephone service of the country rests solely upon this company and its associated companies also imposes on the management an unusual obligation to the public to see to it that the service shall at all times be adequate, dependable and satisfactory to the user. Obviously, the only sound policy that will meet these obligations is to continue to furnish the best possible telephone service at the lowest cost consistent with financial safety. This policy is bound to succeed in the long run and there is no justification of acting otherwise than for the long run.”

Gifford was committed to maintaining the Bell monopoly and made sure that its pricing policies protected the financial security of its shareholders.

After its formation in 1934, the FCC conducted an extensive investigation into the Bell System’s practices. As the 1930’s drew to a close and the FCC’s report was issued, the nation grew closer to war. The Bell System’s network was deemed essential for national defense and, as a result, the Department of Justice postponed ruling on a major antitrust suit that had evolved from the FCC’s investigation.

After the war ended, the Department sued AT&T under the antitrust laws which ultimately led to the 1956 Consent Decree. This Decree prohibited AT&T from entering the computer or information services businesses, and required the manufacturing, local telephone and long distance operations to be run in separate business units.

The 1956 Decree was not effective. For example, the FCC struggled with the continued

anticompetitive practices by the Bell companies covering issues such as the refusal to connect third-party terminal devices to the network and the refusal to interconnect with competitive long distance providers.

AT&T was sued once again under the antitrust laws leading to the 1982 Modified Final

Judgment which separated the Bell Operating Companies into 22 distinct companies and prohibited them from operating in the long distance segment, beginning January 1, 1984.

In the following years the implementation of the MFJ under the review of Judge Harold Greene, competition: 1) flourished in the long distance segment of the industry with MCI and Sprint gaining significant market shares, 2) started to take root in the mobile communications industry with McCaw Cellular and Fleetcall gaining prominence and 3) gained a toehold in the local telecommunications market with MFS’ and Teleport’s entry.

These entrants competed on price. For example, McCaw Cellular marketed mobile service that featured no additional charges for long distance calls.

Twelve years after the MFJ had gone into effect, Congress passed the Telecommunications Act of 1996 which removed the restrictions on the Bell Operating Companies in exchange for the commitments of these companies to meet certain pro-competitive conditions. But the Bells did nothing of the sort. Based on their long-standing culture, they refused to open their markets by dragging their feet in allowing competitors to interconnect, did not negotiate in good faith, litigated every nook and cranny of the law to delay competitive entry, and avoided head-to-head competition in any way they could. These actions crushed the new entrants.

Even more damaging, the Bells went on a buying spree that left only two dominant providers remaining in the market, namely AT&T and Verizon. As part of regulatory approval process, these companies made several commitments from network neutrality to broadband coverage that have since been honored in the breach. The failure to meet these commitments requires investigation by the FCC and corrective action if unlawful behavior is uncovered from the sworn testimony.

The Bell system has a long history that is imbued with anticompetitive behavior and a culture that abhors competition. Not only have Verizon and AT&T re-monopolized the industry, they have acted as one provider in terms of setting price. The result has been excessive prices for consumers that have undermined the public interest standard of the law.

These Comments and Petition request the Commission to begin an investigation into the practices of AT&T and Verizon and to require divestiture of their wireless business units if abuses are documented in an evidentiary hearing.

IV. The Relevant Market is the Overall Telecommunications Industry

Economics defines the relevant market by the services that are viewed by consumers as substitutes. For the past fifteen years, consumer research has shown that about 70% of all consumers prefer one integrated provider for local, long distance and mobile service. Despite shoddy in-door coverage, almost 20% of all households now choose cellular service to fulfill this demand. That is, they view mobile wireless service as a substitute for local and long distance service.

With the roll-out of WiMax technology, consumers can increasingly subscribe to a high-capacity platform with good in-door coverage for local, long distance and mobile communications service. In the future, competitive WiMax operators will also provide video service via IPTV, furthering expanding the market definition as consumers seek to buy this bundle of services.

Hence, the relevant market for the Commission’s analysis of mobile communications is the overall telecommunications market, including local, long distance and mobile (and soon video) communications.

AT&T and Verizon have an even more dominant position in the telecommunications market than in the mobile wireless segment. This dominance gives AT&T and Verizon the power to forestall competitive entry and to keep prices above competitive levels, particularly in such a cozy industry with deep anticompetitive roots.

But even more damaging is the lack of AT&T’s and Verizon’s willingness to use their mobile business units to attack the other carrier’s landline base with wireless technology, much like Clearwire is attempting to do. AT&T and Verizon have no products or services designed and/or marketed to replace the other’s landline installed base, despite the enormous size of the opportunity. The FCC should seek depositions from AT&T’s and Verizon’s highest officials regarding these actions, or lack thereof.

If AT&T’s and Verizon’s wireless units were spun off as the remedy for unlawful behavior, there would be substantially increased competition in the local and long distance segments of the telecom market from new entry as well as lower prices in the mobile segment from less price collusion.

V. Conclusion

The relevant market for analyzing mobile wireless services is the overall telecommunications market, including local, long distance and mobile communications. AT&T and Verizon have re-monopolized each segment of the telecom market, which has resulted in less competitive entry into the local and long distant segments, and higher prices in the mobile wireless segment.

These Comments and Petition request the Commission to begin a formal investigation into AT&T’s and Verizon’s anticompetitive behavior, including the failure to adhere to both the procompetitive conditions of the Telecom Act of 1996 and the pro-competitive conditions imposed by the Commission in the various merger approvals.

The Commission should also subpoena Verizon’s and AT&T’s internal cost and price studies to estimate the effect of the current industry concentration and collusion on market prices.

Finally, if the evidentiary evidence shows that AT&T and Verizon willfully violated the law and the result has been significantly increased prices for consumers, the Commission should mandate the divestiture of AT&T’s and Verizon’s wireless holdings by finding the perpetrators to be unfit to hold licenses. This structural relief would increase competitive entry in the local and long distance segments of the telecommunications market, and break the pattern of price collusion in the mobile services segment of the market.