AT&T Company Long Lines Department 9 Common Carrier, Rates, Charges, see also Tariff Tariff, Rejection Of Wide Area Telephone Service (WATS) WATS Tariff F.C.C. No. 259 revisions, filed in response to deci­ sion and order (59 FCC 2d 671), rejected as it violated express findings and tariff filing requirements set forth in the prior deci­ sion. Carrier must file lawful tariff. Current tariff shall remain in effect pending suitable filing.

F.C.C. 77-529 BEFORE THE FEDERAL COMMUNICATIONS COMMISSION WASHINGTON, D.C. 20554 In the Matter of AMERICAN TELEPHONE AND TELEGRAPH COMPANY (LONG LINES DEPARTMENT) Revisions to Tariff FCC No. 259, Wide Area Telecommunications Service (WATS), Transmittal No. 12745

MEMORANDUM OPINION AND ORDER (Adopted: July 21, 1977; Released: August 12, 1977) BY THE COMMISSION: COMMISSIONERS HOOKS AND WHITE CONCUR­ RING IN THE RESULT; COMMISSIONER FOGARTY CONCURRING AND ISSUING A SEPARATE STATEMENT. Background 1. On April 29, 1977, the American Telephone and Telegraph Com­ pany—Long Lines Department (AT&T or Bell) filed revised Wide Area Telecommunications Service (WATS) tariff schedules under AT&T Transmittal No. 12745.J According to AT&T, those revisions were filed to comply with requirements and guidelines set forth in our Final Decision and Order (Decision) in Docket No. 19989, AT&T Revi­ sions to WATS Tariff FCC No. 259, Transmittal No. 11935 (WATS), 59 FCC 2d 671 (1976). The WATS Decision directed AT&T to file tariff revisions on not less than 60 days notice to become effective 210 days after publication of the Decision in the Federal Register. By a subse­ quent Letter Order from the Commission, FCC 76-11031 dated No­ vember 30, 1976, a filing date of on or before April 30, 1977 was established. By letter dated April 15, 1977, the Chief, Common Carrier Bureau further directed that the tariff revisions be filed on not less than 90 days notice to the public. Therefore, the revisions are filed with an effective date of August 1, 1977. However, certain revised

1 Also considered herein is Hawaiian Telephone Company's (HTC) tariff filing of April 29, 1977, Transmittal No. 441, effective August 1, 1977, under which HTC Tariff FCC No. 13 would permit Hawaiian residents to make Outward WATS calls to, and receive Inward WATS calls from, the other 49 states. 66 F.C.C. 2d 10 Federal Communications Commission Reports rates and charges are filed to become effective on subsequent dates as hereinafter described. 2. AT&T introduced interstate Outward WATS service in 1961 to provide a monthly rate for interstate telephone services for subscrib­ ers having requirements for substantial amounts of communications to diverse geographical points. The Commission investigated AT&T's ini­ tial Outward WATS service offering in Docket No. 13914, AT&T Regulations and Charges for WATS, 37 FCC 688 (1964), on reconsid­ eration, 38 FCC 475 (1965). Outward WATS is a customer-dialed ser­ vice, i.e., it does not include operator-assisted calls such as person-to- person, collect, conference, credit card calls or calls charged to a third number. Interstate Inward WATS service was introduced by AT&T in 1967. Inward WATS calls are dialed by the caller but are paid for by the Inward WATS subscriber. Although both Outward and Inward WATS services utilize the same public switched network they do so in a significantly different manner. Outward WATS calls are screened and blocked (to determine whether a call is in the authorized service area or not) in the originating toll office, thus minimizing network set­ up and holding time. Such screening and blocking of Inward WATS calls presently occurs after the call has traversed the telephone net­ work, in a terminating toll office serving the Inward WATS access line. Bell's tariff requires separate access lines for originating Outward WATS and receiving Inward WATS calls. Both Outward and Inward WATS services are used in numerous computer applications, reserva­ tion services, credit verification services, store and forward message services, marketing services, etc. 3. Presently, the WATS tariff does not differentiate in charges be­ tween Outward and Inward WATS services. Outward and Inward WATS services are offered on both a Full Business Day (FBD) and Measured Time (MT) basis. In MT service the access line is continu­ ously available to the customer and the monthly initial period rate covers 10 hours of use per month with additional charges applying for each additional hour or portion thereof of use during the month. In FBD service the customer has continuous use of an access line with a flat rate for 240 hours a month, and additional period rates for usage over 240 hours which are set at a level of two thirds the equivalent hourly rate for the initial period. In both FBD and MT services, the customer has a choice of five progressively larger geographic service areas. The largest includes the entire United States, excluding Alaska and Hawaii and the customer's home state. In both monthly initial and additional periods, charges vary generally with the size of the geo­ graphical areas served. Itemized billing is not provided as part of the WATS offering and payment of monthly initial period charges is in advance. 4. AT&T describes the proposed tariff revisions, AT&T Transmittal Letter No. 12745, as follows: (1) Separate Outward WATS from Inward WATS by establish­ ing individual rate structures and rate levels which more closely reflect the costs of providing each service. Rate levels for heavy usage per access line for both Outward WATS and 66 F.C.C. 2d AT&T Company Long Lines Department 11

Inward WATS will be lower during an interim period of six months from the effective date of this filing.2 (2) Combine the Full Business Day (FBD) and Measured Time (MT) classes of service into a single rate schedule which is distinctly structured for Outward WATS and Inward WATS. The Outward WATS rate structure provides for a 10 hour initial period per access line with a tapered schedule of charges for overtime usage. The additional usage will be at progressively lower per hour rates at higher levels of usage per access line, reflecting the lower costs associated with these hours of usage. The Inward WATS rate structure pro­ vides for a monthly access line charge in addition to a tapered schedule of charges for usage. Usage charges will be progres­ sively lower per hour rates at higher levels of usage per access line, reflecting the lower costs associated with these hours of usage. The furnishing of Inward WATS will be sub­ ject to a monthly minimum period charge for ten hours usage per service group. In keeping with the goal of improving call completions and reducing network congestion, each Inward WATS service group will be required, for a period of 18 months, to consist of a minimum of two access lines in place of the present provision of two terminations for the first Inward WATS access line in a service group.3 (3) Decrease the number of service areas for the contiguous United States from 5 to 3 by combining present Service Areas 2, 3 and 4. Service Area "A-l" (present Service Area 1) will consist of approximately 10 percent of the total serving area. Service Area "A-2" (present Service Area 2, 3 and 4 combined) will consist of approximately 60 percent of the total serving area. Service Area "A-3" (present Service Area 5) will consist of the entire contiguous United States except for the state in which the access line is terminated. Consis­ tent with the reduction of the number of service areas, the number of rate steps has been reduced from 18 to 8. (4) Extend WATS to Alaska and Hawaii by introducing Service Area A-4 as an addition to the three proposed Service Areas encompassing the contiguous United States. This new Service Area includes service to the lower numbered Service Areas.4

2 For a period of six months from the effective date of the revisions embodied in this filing, AT&T states that lower rates will apply for both Outward WATS and Inward WATS usage, generally beyond 90 to 150 hours per month per access line According to AT&T, the temporary delay in the application of the higher rates for heavy usage is to allow customers the opportunity to plan for the increased charges or to adopt alternative communications solutions These higher rates are scheduled to become effective February 1, 1978 * Each Inward WATS service group is required to consist of a minimum of two billed access lines, in lieu of the additional termination for the first access line for each service group, previously furnished at no charge This requirement is an interim arrangement which expires effective January 31, 1979 AT&T indicates that studies of structural and rate alternatives will be made during the ensuing months to determine the most effective means of ensuring a high level of network call completions for Inward WATS It states that a specific plan based on the results of those studies will be submitted to the Commission prior to the expiration of the interim arrangement 4 In the past, WATS service has been limited to the contiguous 48 states See our discussion hereinafter concerning the provision of WATS services between and among Alaska, Hawaii, Puerto Rico, the U S Virgin Islands and the U S Mainland 66 FCC 2d 12 Federal Communications Commission Reports (5) Introduce a multi-element rate schedule for certain nonrecur­ ring charges. Installations, moves and conversions of the WATS access line and suspension of Outward WATS subject to charges for the elements required to perform these activi­ ties. These elements are (1) service ordering (2) central office connection and (3) on-premises work. Each applicable element will have an associated nonrecurring charge. Charges for the activity performed are determined by adding the charges for each of the applicable elements. The effective date for the multi-element charges for installation, move and conversion activities will be delayed for 3 months following the effective date of this filing.5 During that period of time, nonrecurring charges equal to the presently effective nonrecurring charges will apply in order to allow customers the opportunity to evaluate the effects of the revisions, and provide them time for a reconfiguration of their communications services as ap­ propriate, prior to the implementation of the higher charges. (6) Revise the structure of extension station charges to better reflect the differences in costs associated with the various extension station arrangements. Costs are substantially dif­ ferent where extension stations are located in the same build­ ing versus different buildings within the same exchange. The revised charges which apply to these situations will reflect the difference in costs. The interexchange channel mileage rates which apply if the extension is in a different exchange will be at the same rates that are scheduled to become effec­ tive June 8, 1977, for Series 2001 Multi-schedule Private Line channels (MPL).6 Rate centers will be classified as Category "A" or Category "B" to determine the applicable rate sched­ ule. (7) Revise the regulations pertaining to charges for fractional periods and the provision of an interruption allowance to rec­ ognize the difference between the structure of the Outward WATS rate schedule and the Inward WATS rate schedule. (8) Change the regulations for payment of charges to recognize the billing of Inward WATS minimum period and hourly us­ age in arrears. (9) Establish regulations to provide for a standard telephone jack termination for WATS access lines. (10) Establish regulations to provide for a cross-reference for charges, set forth in the Telephone Company's Exchange Ser­ vice Tariffs, for station terminal equipment and communica­ tions systems.7 (11) Provide a cross-reference for applying the Maintenance of Service Charge as set forth in the Telephone Company's Ex­ change Service Tariffs.

5 The scheduled effective date for these non-recurring charges is November 1, 1977. 6 AT&T's MPL tariff is under investigation in Docket No. 20814, 59 FCC 2d 428 (1976). 7 It appears from AT&T's filing that it intends this change to apply to terminal equipment and communications systems which are used exclusively in conjunction with interstate WATS services. See WATS Justification, Vol. 1, p. 2-24. This would appear to violate Section 203(c) of the Act which provides that no carrier shall engage or participate in interstate communication unless tariffs are filed with the Commission. 66 F.C.C. 2d AT&T Company Long Lines Department 13 (12) Revise the suspension of service regulations to provide for the suspension of Outward WATS only. (13) Change the definition of "Exchange," "Service Group" and "Station." (14) Establish a definition of "Building," "Conversation," "Rate State," and "contiguous United States." (15) List Hawaiian Telephone Company; Honolulu, Hawaii and RCA Alaska Communications, Inc.; Anchorage, Alaska, as Other Participating Carriers. (16) Change text for clarification purposes. 5. AT&T claims that the restructured rates for Outward WATS and Inward WATS are of economic benefit to the great body of users of these services as evidenced by the comparison of filed rates with pre­ sent rates, assuming no change in the number of access lines and usage characteristics. On this basis, AT&T states that 89 percent of Inward WATS customers would receive rate decreases. Likewise, it indicates that 56 percent of Outward WATS customers would receive rate de­ creases. According to AT&T, only 8 percent of Inward WATS custom­ ers and 7 percent of Outward WATS customers would receive in­ creases greater than 10 percent. 6. More particularly, AT&T states that the WATS tariff revisions were prepared within the framework of the following four ratemaking concepts, Volume I of Justification, pp. 1-3 to 1-4: (1) Outward WATS and Inward WATS are each separate, op­ tional public switched network services. Their rates should be cost related and consist of both usage sensitive and non-usage sensitive rate elements in accordance with actual cost causa­ tion. (2) As optional services, both Outward WATS and Inward WATS should produce, as a minimum, an earnings ratio at least as high as the lower limit of the range of the authorized inter­ state rate of return. (3) Outward WATS and Inward WATS should continue to provide a significant level of contribution to cover the common costs of the interstate enterprise so that MTS rates can be set at lower levels than would be possible without that contribution from WATS. (4) Outward WATS should provide a higher level of contribution than Inward WATS since Outward WATS users have a wider range of alternatives than do Inward WATS users. According to AT&T, in setting the rate levels for the Outward WATS and Inward WATS offerings, its tariff filing has been designed to provide rate schedules for each WATS category that would have re­ sulted in an earnings ratio of at least 9.5%, as measured by cost studies under the revised Fully Distributed Cost (FDC) 7 methodology for the twelve-month period ended September 30, 1976.8 This, AT&T alleges, "would be in accordance with the objective that each of the WATS

"Revised FDC-7 was the cost methodology adopted by the Commission in Docket No. 18128, Private Line Rate Case, 61 FCC 2d 587 (1976), reconsideration FCC 77-385, released June 13, 1977. Among other things, this methodology is to ensure carrier accountability for rates for all services and determine unlawful cross-subsidization among and between all services. 66 F.C.C. 2d 14 Federal Communications Commission Reports categories should meet at least the minimum level of the overall inter­ state rate of return (i.e., 9.5%) authorized by the Commission in Docket No. 20736, [59 FCC 2d 960, 972-73 (1976)] (or at least meet the going overall interstate earnings level in the event that it is less than the interstate rate of return)." Moreover, according to AT&T, "[s]etting the WATS minimum rate levels to yield at least 9.5% under revised FDC-7 studies would assure that the minimum earnings level for the services would be in accordance with the Commission's Decision in Docket No. 18128." In addition, for purposes of this tariff filing, AT&T determined that no change should be made in the overall earnings levels for Outward WATS and Inward WATS services, after assuring that its "minimum earnings level test" has been passed for each cate­ gory. The filing indicates that Outward WATS presently earns 19.0% and Inward WATS 11.6%, respectively, as measured by revised FDC-7 methodology for the twelve month test period ending September 30, 1976. Thus, AT&T states that the instant tariff filing maintains such earnings levels and thus has been designed to produce a net effect to Bell's interstate operations of approximately zero for the calendar year 1977 based on revenue/cost analysis, after market reaction, assuming the continuance of those rates for other services that were in effect on January 1, 1977. 7. AT&T states that the "adverse impact" on MTS rates weighed heavily on its determination that no change should be made in the earnings levels for the WATS categories. AT&T alleges that if the WATS rate levels were to be reduced to yield earnings ratios of 9.5%, "there would be a net revenue loss from WATS services in the range of $350-400 million (on a repriced basis)." AT&T alleges that "this revenue loss would have to be made up largely by increases in the rates for MTS." AT&T argues that "given the pronounced cross elas­ ticities between MTS and Outward WATS in particular, such an in­ crease in MTS rates would cause more MTS traffic to be diverted to Outward WATS and could cause another upward spiral in MTS rates." AT&T determined, therefore, that «etaining the Outward WATS and Inward WATS offerings at their present earnings levels provide a greater contribution to the coverage of the "common costs" of the "interstate enterprise" and thus directly benefit the MTS users. 8. AT&T contends further that its WATS ratemaking approach is consistent with the Commission's Decision in Docket No. 18128, supra. According to AT&T," [w]hile the Decision itself focused on circum­ stances in which the revenue level of a service may fall below the FDC Method 7 criterion (paras. 223, 232), it did not deal with the converse situation." AT&T alleges that "[jjust as the Decision acknowledged that public interest considerations can justify setting rates lower than the FDC Method 7 level, such public interest considerations can justify a higher level." This is particularly true, claims AT&T, in the case of the Outward WATS and Inward WATS offerings, in which retention of the present earnings levels is conducive to the public interest. Thus, AT&T's position is that if WATS services "can continue to be priced in such a manner as to provide a substantial contribution to the coverage of the common costs of the public switched network shared with MTS, this may be of even further benefit to the users of MTS." 66 F.C.C. 2d AT&T Company Long Lines Department 15 9. Finally, AT&T argues that Outward WATS and Inward WATS are "optional public switched network services" which are available and attractive to customers with large calling volumes to or from diverse geographic locations. AT&T states that because of the thresh­ old costs and calling volumes required to realize overall savings, these services are, as a practical matter, for business customers. Since their inception, AT&T claims, Outward WATS and Inward WATS have been well accepted and have experienced substantial and continued growth. It alleges that the WATS services have stimulated not only additional but also new and innovative uses of the public switched network and that such results have been achieved while, at the same time, producing high earnings levels which have resulted in substantial contribution to MTS users. Under these circumstances, AT&T claims, "the appropriate constraint on the rate levels for the WATS offerings, over and above meeting the minimum cost standard under revised FDC Method 7, should be considered in relationship to the overall return levels for MTS-WATS combined."9 Bell submits the following tabulation of the combined revised FDC-7 ratios for MTS and for Outward WATS and Inward WATS (under the filed rates) for the year ending September 30, 1976:

MTS 8.3% Outward WATS 19.0 Inward WATS 11.6 Combined MTS-WATS . 9.4%

According to AT&T, the "9.4% combined earnings ratio for the public switched network service is, in fact, below the range of reasonableness for the overall interstate rate of return (9.5 to 10.0%) established by the Commission in Docket No. 20736, 57 FCC 2d 960, 972-73." Under these circumstances, Bell concludes, the instant WATS tariff filing retained essentially the same earnings levels for the two WATS cate­ gories. 10. In purported compliance with Sections 61.38 and 1.363 of our Rules, the findings and guildlines set forth in our decision in Docket No. 19989, and the principles and guidelines established in our Docket No. 18128 Decision, AT&T has filed 52 volumes of justification, consist­ ing of some 16,000 pages. According to AT&T, those volumes contain the revised FDC-7 studies which result in the earnings ratios dis­ cussed above, the "network cost" studies used to develop tapered and usage sensitive charges, and other cost studies which were used to develop a multi-element rate structure for non-recurring charges and charges for extensions and access lines. AT&T states that cost data are

9 AT&T argues that "[rjegulating the rate levels of the WATS offerings on a combined basis with MTS would meet the Commission's concern in Docket No. 18128 as to whether the users of Bell's basic switched services (MTS and WATS) are subsidizing users of various private line services. At the same time, such an approach permits the WATS offerings to make a greater contribution toward keeping MTS rates lower than would otherwise be required. There is nothing inappropriate if the WATS offerings have return levels (on FDC Method 7) exceeding that of MTS; it shows that the WATS offerings are making a larger positive contribution to MTS users. On the other hand, the imposition of an FDC ceiling on WATS would have an adverse effect on the interests of MTS users." 66 F.C.C. 2d 16 Federal Communications Commission Reports not available regarding the extension of Outward and Inward WATS to Alaska, Hawaii, Puerto Rico, and the U.S. Virgin Islands since "those points were based on the relationship to MTS rates for Step 2 of rate integration ordered by the Commission."10 Among other things, AT&T states that these volumes also contain a description of the rate- making procedures it employed and the market and demand analyses which were undertaken to support the filing. 11. Before us are numerous comments, letters, petitions for suspen­ sion and investigation (usually accompanied by requests for accounting orders of increased charges), and petitions for rejection which chal­ lenge the lawfulness of AT&T's proposed WATS tariff revisions.11 Several parties also filed replies to AT&T's opposition to their rejec­ tion petitions. Formal pleadings have been filed by WATS subscribers of AT&T and by certain communications common carriers which com­ pete with AT&T. We shall address first the formal pleadings filed by subscribers to AT&T's WATS services and their major arguments.12 Objections of WATS Subscribers 12. WATS subscribers filing on or before May 27, 1977 formal re­ quests to suspend and investigate, and usually requesting the entry of accounting orders for increased charges, are Christian Broadcast Net­ work, Inc., which utilizes Inward WATS primarily in connection with its network telethons; Gulf Refining and Marketing Company, which utilizes WATS services for sales and administrative purposes; Real- tron Corporation, which uses WATS services to provide remote access data processing services to the real estate industry; Computerized Automotive Reporting Services, Inc.; which uses WATS services to provide remote access data processing services to automotive dealers and automotive service counters; the Ad Hoc Telecommunications Us­ ers Committee;13 the Aerospace Industries Association, which repre­ sents the manufacturers of aerospace products; the American Truck­ ing Association, representing the motor carrier industry, which uses WATS services to route deliveries; Consolidated Rail Corporation, which utilizes WATS services to administer its rail network; Meredith Corporation; Schneider Transport, Inc., a trucking firm utilizing WATS service in routing deliveries; the American Newspaper Publish­ ers Association, representing newspapers which utilize WATS services for news gathering and administrative purposes; National Data Corpo-

10 See our discussion of rate integration below. 11 All such pleadings were to have been filed on or before May 27, 1977. On May 27, 1977, however, the Chief, Common Carrier Bureau, Mimeo No. 82676, granted an extension of time until on or before June 3, 1977, for the filing of such pleadings. 12 Space does not permit a listing of all the informal comments and letters we have received from the public regarding AT&T's proposed WATS tariff revisions. However, we have considered them herein and note that the formal pleadings before us, for the most part, are representative of the views and contentions which are made in informal comments and letters. Several procedural matters are before us. We shall grant American Trucking Associations, Inc.'s motion to refile its petition to reject and its amendment changing its combined petition to reject or suspend to a suspension peti­ tion. We shall also grant MCI's motion for late acceptance of its reply to AT&T's opposition. Finally, we shall consider Comdata Network, Inc.'s, Roberts Advertising, Inc.'s, Top Farmers of America's and Container Transit Inc.'s untimely filed suspension petitions. la This Committee represents the interests of several large corporate users of WATS services: American Express Company; Bethlehem Steel Corporation; E.I. du Pont de Nemours and Company; Exxon, USA; Ford Motor Company; General Electric Company; Monsanto Company; Olin Corpora­ tion; J.C. Penny Company; Republic Steel Corporation; Sears Roebuck and Company; and Westing- house Electric Corporation. 66 F.C.C. 2d AT&T Company Long Lines Department 17 ration which uses primarily Inward WATS service to provide such services as check verification, reservations, cash management, etc.; the American Hotel and Motel Association, representing hotel and motel chains such as Best Western, Ramada Inns, Quality Inns, Sheraton Inns, Holiday Inns and Days, which use WATS services in their reser­ vation systems; Aeronautical Radio, Inc. and the Air Transport Asso­ ciation of America, representing the airline industry, which utilizes WATS services to provide reservation services and satisfy administra­ tive needs; Micor Inc., which provides reservation and computer ser vices for Ramada Inns, Inc.; General Services Administration, repre­ senting the executive agencies of the United States, which use large volumes of WATS services; Arrow Industrial Sales Co. and numerous other California companies,14 which utilize WATS services in retailing, wholesaling, and other marketing activities; and Telenet Communica­ tions Corporation, which uses WATS services extensively to provide the public its packaged data communications services. Additional WATS subscribers filing on or before the extended June 3, 1977 dead­ line formal requests for suspension and investigation are Air Couriers International, National Car Rental, Holiday Inns, Inc., and DeBeers Diamond Investment, Ltd. Aerospace Industries Association, Consoli­ dated Rail Corporation, Aeronautical Radio, Inc., the American Hotel and Motel Association, and Empire Paging Corporation filed petitions to reject. The State of Hawaii, representing the interests of the people of the State of Hawaii in WATS services, filed a petition for investiga­ tion of certain aspects of AT&T's WATS filing. We consider the State of Hawaii's petition separately in our discussion of rate integration later herein. 13. Virtually all of the WATS subscribers requesting suspension, and investigation and accounting orders allege severe financial impact if AT&T's proposed WATS tariffs become effective. They claim that substantial rate increases will result from the interim six month WATS rates and ultimate WATS rates. Some of the WATS subscrib­ ers allege percentage increases in their WATS charges varying from 15% to 30% under the interim six month rates. As for the ultimate WATS rates, some WATS subscribers, depending on the level of their WATS usage, allege annual percentage increases in their WATS charges in the range of 5% to 65%. It appears that the heaviest users of WATS services, e.g., those using Inward WATS service 300-400 hours monthly, would incur the largest rate increases. Numerous WATS subscribers stress the importance of WATS services in main­ taining the viability of their businesses. In this regard, many of the WATS subscribers argue that the rate increases may require them to reduce or eliminate the vital services they provide to the public through the use of WATS lines, resulting in employee lay-offs and adverse financial impact on their particular industries. Other WATS subscribers contend that because there are no communications alterna­ tives to the WATS services, particularly Inward WATS, the proposed WATS rate increases will be particularly difficult to absorb.

14 Filing jointly with Arrow Industrial Sales Co. are Coast Industrial Exchange; Foremost Indus­ trial Exchange; Industries Trade-X, Inc.; Pacific Freight and Salvage; PGF, Inc., dba Trans-Ameri­ can Products; Republic Distributors, Inc.; S&H Sales Co., Inc.; Standard Supply of California, Inc.; 3A Corporation; and Trans Continental Products. 66 F.C.C. 2d 18 Federal Communications Commission Reports 14. In addition to alleging that the adverse financial impact on cus­ tomers from the WATS rate increases justifies suspension and inves­ tigation of AT&T's proposed WATS tariff revisions, most WATS sub­ scribers also claim that the bulk and complexity of the filing constitutes a further reason. They argue that more time is required for them and the Commission to adequately examine the filing to deter­ mine its lawfulness and this can best be done through a hearing. Fur­ ther, most WATS subscribers challenge the lawfulness of the earnings levels Bell has chosen to maintain for WATS services in the proposed revisions, namely, a 19% rate of return for Outward WATS and an 11.6% return for Inward and AT&T's ratemaking theory which views WATS return levels in combination with the MTS return level. They maintain that the WATS return levels result in excessive Outward and Inward WATS rates, as well as in unlawful cross-subsidization of other Bell services, in particular, MTS. This, they claim, violates the Commis­ sion's Decision in Docket No. 18128 wherein they argue that the Com­ mission determined that present and past WATS earnings levels were "excessive" and resulted in unlawful cross-subsidizations, citing 61 FCC 2d at 651. Many of the WATS subscribers also argue that the WATS earnings levels will themselves, or in combination with other expected rate increases to be filed for other Bell interstate services pursuant to Docket No. 18128,16 result in an overall interstate return for the Bell System in excess of the 9.5%-10.0% range prescribed by the Commission in Docket No. 20376, supra. 15. Most WATS subscribers also request suspension and investiga­ tion on the ground that AT&T's filing does not comply with the WATS Decision in Docket No. 19989, supra. Some of the WATS subscribers contend that, contrary to the Commission's directive in Docket No. 19989 that rates for both Outward and Inward WATS services must be cost justified, 59 FCC 2d at 678, the AT&T tariff revisions do not comply because, in some cases, they are not based upon actual costs, but rather are developed on the basis of "average" customer usage rather than "actual" customer usage.16 Other WATS subscribers allege violation of the Decision in Docket No. 19989 because, contrary to a concern expressed by the Commission that WATS rate structures should encourage efficient usage of the public switched network, 59 FCC 2d at 701, the proposed revisions would allegedly lower incentives for more efficient use of access lines by subscribers and discourage off-peak usage." This inefficiency will result, they contend, because the rate increases will cause many Inward WATS subscribers to re­ duce the number of access lines they utilize, resulting in less efficient services to their own customers, more busy calls, and increased public switched network costs. Another allegation is that AT&T is continuing

16 Our Memorandum Opinion and Order, FCC 77-332, released May 20, 1977 in Docket No. 18128 established a staggered schedule to govern AT&T's filing of revisions in its various interstate service offerings to comply with our Docket No. 18128 Decision. 16 Telenet Communications Corporation argues that the WATS rate structures are not truly usage sensitive because charges are calculated on the basis of "average" use rather than a customer's "actual" usage. Gulf Refining and Marketing Co. argues that the concept of averaging for billing purposes is applied dissimilarly to Inward WATS and Outward WATS because the Inward WATS method of determining charges averages the total usage of the service group among Inward access lines while the Outward WATS method averages only additional usage. 17 Arrow Industrial Sales Co., and the other California WATS users filing jointly with it, argue that because California WATS users allegedly make more off-peak usage of WATS, their rates should be reduced to reflect such off-peak usage patterns. 66 F.C.C. 2d AT&T Company Long Lines Department 19 to use the "MTS alignment" theory, i.e., establishing WATS rates on the basis of MTS costs and revenues rather than WATS costs and revenues, in violation of the Commission's Decision in Docket No. 19989 which rejected such theory, 59 FCC 2d at 678-80. In this regard, it is argued that AT&T has failed to cost justify Outward and Inward WATS services and rates separately, because Bell treats them as "op­ tional" public switched network services such that their rates of return are combined with the MTS return. It is further alleged that Outward WATS is excessively and unlawfully priced, and not separately justi­ fied, vis-a-vis Inward WATS as demonstrated by the higher rate of return for Outward WATS than for Inward WATS. 16. Finally, in support of suspension and hearing, many other allega­ tions are made. For example, the reasonableness of the minimum one month subscription period for WATS service is challenged because it does not permit WATS subscribers to utilize WATS for occasional use, such as on an hourly basis; the two access line requirement for Inward WATS is alleged to be unreasonable because it may not always be needed by subscribers; the minimum one minute time requirement utilized in computing WATS charges beyond the initial period is al­ leged to be unreasonable because it ignores a customer's actual usage; unlawful rate inequities are alleged to exist between different levels of usage within both Inward and Outward WATS services and between the proposed Service Areas and rate steps; it is argued that the pro­ posed non-recurring charges are not sufficiently justified and are un­ lawful; it is argued that AT&T incorrectly accounts for separations effects in its rate design; it is contended that the WATS tariff revi­ sions are unlawful because they have caused WATS users to unreason­ ably and unnecessarily reconfigure their networks; and it is alleged that there was inadequate notice of the proposed tariff revisions given to the public. 17. To the extent some WATS subscribers request rejection of the proposed AT&T tariff revisions, rather than merely suspension and hearing, they do so primarily on the grounds of adverse financial im­ pact or that the Outward and Inward WATS earnings levels relied upon by AT&T and AT&T's ratemaking theory result in excessive rates and earnings for both WATS services and probably for Bell's interstate operations overall. This, they allege, violates the Commis­ sion's Decisions in Docket Nos. 18128, 19989, and 20376, respectively. See discussion in paragraphs 14 and 15 above. Objections of Competing Common Carriers 18. Common Carriers filing on or before May 27, 1977 and request­ ing suspension and investigation of AT&T's proposed WATS tariffs are MCI Telecommunications Corporation and its affiliated companies (MCI), The Western Union Telegraph Company (Western Union), Southern Pacific Communications Company (SPCC), and United States Transmission Systems, Inc. (USTS). MCI and Western Union also filed petitions to reject. 19. Turning first to the petitions for suspension and investigation filed by the aforementioned carriers, these carriers appear to be con­ cerned primarily with the competitive implications of AT&T's pro­ posed WATS tariff revisions. The carriers argue that Outward and 66 F.C.C. 2d 20 Federal Communications Commission Reports Inward WATS services, e.g., when used in conjunction with AT&T's Dataphone, are viable communications alternatives to private line rec­ ord services provided both by AT&T and the specialized carriers com­ peting with AT&T. Western Union states that "the lower level of WATS rates over a substantial range, 50 to 120 hours of usage per month (2-1/2-6 hours per day) greatly increases the potential ability of WATS/Dataphone to compete more intensively with narrow band and voice-grade private line services offered by Western Union and other carriers." MCI gives several examples where WATS services may be utilized in lieu of AT&T or specialized common carrier private line services and alleges, citing internal Bell marketing documents, that AT&T markets WATS services to its customers as private line ser­ vices. Thus, the carriers are concerned with the impact that the WATS tariff revisions may have on their ability to compete fully and fairly with AT&T in the data communications market. Indeed, MCI con­ tends that the WATS tariff revisions are "predatory in effect and intent," violating the full and fair competition standard adopted by the Commission in its Specialized Common Carrier Decision in Docket No. 18920, 29 FCC 2d 870 (1971), and requests that in the event there is a hearing a competitive impact issue should be designated. 20. More particularly, MCI, USTS, Western Union and SPCC con­ tend that Bell violated our Decision in Docket No. 19989 because it has failed to justify Outward and Inward WATS services either as a bulk discounted MTS service or as separate services. They argue primarily, however, that WATS services are unlawful bulk discount MTS ser­ vices for large business customers. In this respect, they allege, among other things, that it costs Bell more to provide WATS services than it does to provide MTS service. For example, they allege that the addi­ tional costs associated with screening and blocking equipment and with access lines, which are not required for MTS, actually make WATS services more costly to provide than MTS.19 They further argue that rates for MTS services are unlawfully cross-subsidizing rates for WATS services, rather than WATS rates operating to keep the MTS rates lower as claimed by Bell. In this regard, USTS and SPCC chal­ lenge Bell's treatment of MTS as a residual cost in allocating its total interstate investment. They claim Bell's cost allocation approach is arbitrary and permits Bell to understate its costs for non-MTS ser­ vices, thereby raising the costs of MTS even though such costs were incurred by another service. Thus, it appears that the carriers compet­ ing with Bell are primarily of the view that WATS rates should be generally increased to reflect the alleged higher costs of providing WATS services vis-a-vis MTS.20

lli Western Union is also one of the larger subscribers to Inward WATS service, utilizing such service to enable its Telegram and Mailgram customers to reach Western Union operators at three Central Telephone Bureaus. It alleges that it will incur annual rate increases over 50% when the ultimate WATS rates become effective and cites this as an additional reason for suspension and hearing. 19 MCI also cites numerous special arrangements that are required to provide Outward and Inward WATS services which it claims are not required for MTS and makes the provision of WATS services more costly vis-a-vis MTS. See MCI Suspension Petition, pp. 13-15. Western Union questions whether the WATS costs provided by AT&T in its filing account for the additional costs caused by Inward WATS network congestion. 20 As set forth herein, MCI goes beyond this position to allege that perhaps there should be no WATS services provided at all, or if they are provided, resale and sharing of such services should be permitted. 66 F.C.C. 2d AT&T Company Long Lines Department 21 21. Most of the other contentions made by the carriers in support of their requests for suspension and hearing relate to the more specific aspects of the cost and other justification AT&T filed with the pro­ posed tariffs. For example, they argue that the cost justification pro­ vided does not comply with the Commission's Decisions in Docket Nos. 19989 and 18128, respectively. They claim both Decisions required the filing of FDC-1 cost studies but Bell failed to do so. With respect to the FDC-7 cost studies Bell did file, they claim either that such studies do not conform to certain aspects of the revised FDC-7 Cost Alloca­ tion Manual developed by Bell in consultation with the Commission staff,21 or that such studies violate the Decision in Docket No. 18128 because the costs provided with the filing are not allocated among all of Bell's 16 interstate service categories. Under such circumstances, they claim that the validity of the WATS and MTS earnings levels given by Bell cannot be determined. Western Union and SPCC chal­ lenge the techniques utilized by AT&T to forecast demand for WATS services, claiming the techniques utilized are erroneous in theory or not documented as required by the Docket No. 19989 Decision. The result, they allege, is that the WATS costs and revenues, based, in part, on such forecasting techniques, may be highly questionable. Fur­ ther, questions are raised by Western Union about the manner in which AT&T uses total day message-minute-miles and busy hour mes­ sage-minute-miles to allocate particular investments to WATS ser­ vices, and SPCC challenges the propriety of AT&T's use of so-called "shift factors" in measuring inter-relationships between services. It is also alleged that AT&T has failed to adequately demonstrate the level of cross elasticity it shows existing between Outward WATS and MTS. 22. Other contentions in support of suspension and hearing are that the bulk and complexity of AT&T's filing requires such relief; AT&T's selection of a 10 hour initial period for an entry level to WATS ser­ vices is not cost justified; record users of WATS services may be unlawfully subsidized by voice users of WATS services; AT&T failed to adequately study the question of peak hour usage caused by WATS services and the overall effect its provision of WATS services has had, and may have, on the efficiency and cost of the public switched net­ work; AT&T's proposed WATS rate structures are not usage sensi­ tive; and the timing of the respective rate increases and decreases for WATS services is inconsistent and prejudicial to the interests of com­ peting carriers. 23. MCI raises additional questions. MCI argues that because of the "anticompetitive" and "predatory" impact the WATS tariff revisions will have on competing carriers the Commission should, in the event it orders a hearing, consider in the first phase of such hearing whether the public interest requires that Bell allow resale and sharing of WATS services. MCI contends that even though the Commission re­ jected this requirement in Docket No. 20097, Resale and Shared Use Inquiry, 60 FCC 2d 261 (1976), its determination was inconsistent with the rationale underlying its policy with respect to sharing and resale of communications services other than WATS and MTS, citing 60 FCC 2d at 298-303. MCI contends that the Commission's stated concern about shifts of MTS users to WATS, and possible increased MTS rates as a

21 See, e.g., SPCC's Suspension Petition, p. 8. 66 F.C.C. 2d 22 Federal Communications Commission Reports result of resale and sharing of WATS, is mere speculation. The likely result if resale and sharing of WATS is permitted, MCI argues, is that AT&T would withdraw WATS services for the same reasons that it is withdrawing TELPAK service, namely, "because everyone is free to take advantage of discriminatorily low rates the carrier cannot afford to maintain them." If AT&T withdrew WATS under these circum­ stances, MCI claims that small communications users would be re­ lieved of the "burden" they have been carrying in order to support large users' "discounted WATS rates." MCI further argues that there is nothing about the characteristics of switched services such as MTS and WATS vis-a-vis private line services which demonstrate that re­ sale and sharing should be permitted for private line services and not MTS and WATS. MCI claims that the benefits of resale and sharing, citing 61 FCC 2d at 298-303, would apply equally to resale and sharing of WATS services. 24. MCI suggests further that an issue be included in the hearing calling into question AT&T's character qualifications as a licensee of the Commission if it is found in the hearing that AT&T has been guilty of "intentional or deliberate actions of an anticompetitive or predatory nature" with respect to the WATS tariff revisions. It also requests an issue as to whether the Commission, as a condition precedent to future tariff filings, should require Bell to employ a recognized firm of public accountants to supervise, direct and audit all cost studies submitted by Bell in support of tariff changes. Finally, MCI requests that the Com­ mission condition its hearing order to impose a "moratorium on the expansion of WATS service or the introduction of any new anticom­ petitive uses of the public switched network" pending a decision on the issue of WATS resale and sharing. 25. Both Western Union and MCI also argue for rejection of the WATS tariff revisions. MCI requests rejection primarily on the basis that the WATS revisions "are no better" than the ones found unlawful in the Docket No. 19989 Decision, claiming AT&T has failed to either justify WATS services as non-discriminatory subcategories of MTS or to demonstrate that they are services distinct from MTS and cost justified. It further argues that such tariff revisions are "predatory" in effect and intent. See paragraph 19 above. It also argues that rejection may be justified on the basis of the Commission's February 16, 1977 decision in MCI Telecommunications Corp., 63 FCC 2d 237 (1977), wherein the Commission approved two options offered in connection with MGI's Shared Private Line Services, SPLS, but rejected a third.22 According to MCI, the third option, SPLS III, was found by the Com­ mission to present public interest issues which could only be resolved in a hearing to determine whether it is in the public interest to autho­ rize "specialized interstate services" like SPLS Option III which would be terminated vis facilities used in common with public message ser­ vices (local exchange, MTS and WATS), citing 63 FCC 2d at 248. MCI states that the Commission further held that even if SPLS III were otherwise lawful, it could not be terminated in public message facili-

22 See MCI Telecommunications Corp. (SPLS), 61 FCC 2d 131 (1976), 63 FCC 2d 237 (1977), and Southern Pacific Communications Corp. (SPRINT), 61 FCC 2d 144 (1976), 63 FCC 2d 309 (1977), consolidated appeals pending sub nam. MCI Telecommunications Corp. v. FCC, Nos. 76-2071, 77-1196, 77-1189 and 77-1195 (D.C. Cir.). 66 F.C.C. 2d AT&T Company Long Lines Department 23 ties, pending a hearing. MCI argues that the same rationale should be applied to AT&T's WATS services. It alleges that Bell has sought to convert WATS into a "specialized interstate service" which employs MTS facilities and terminates in those of local telephone exchanges. In this regard, MCI argues that Bell in this tariff filing is attempting to differentiate WATS from MTS and that Bell markets WATS services as private line services. MCI claims that since specialized carriers can­ not use common terminating, switching, and distribution facilities of the public switched network, citing the SPLS and SPRINT Deci­ sions,23 neither should AT&T be able to do so in conjunction with its WATS services. MCI further takes issue with the characterization of WATS as a "monopoly" service along with MTS. MCI claims that WATS should not be considered a "protected monopoly" service when at the same time it is being used as a competitive weapon by AT&T against specialized carriers. In this regard, MCI challenges the Com­ mission's Execunet Decision, 57 FCC 2d 271 (1975), 60 FCC 2d 25 (1976), reversed sub nom. MCI Telecommunications Corp. v. FCC No. 75-1635, (D.C. Cir. July 28, 1977), which it claims erroneously equated MCI's Execunet service to MTS by equating it to WATS. It thus contends that AT&T's WATS tariff must be rejected until a hearing is completed on the appropriateness of terminating WATS in MTS and local exchange facilities and whether WATS services are anticompeti­ tive. 26. MCI concludes further that "the Commission should reject the WATS tariff offering in such a way that Bell cannot continue to offer WATS service under the existing rates (held to be unlawful in the Docket No. 19989 Decision) or keep the service alive by filing another tariff which does not comply with the Act and with past Commission orders." The only possible exception, MCI argues, should be if the Commission is willing to allow resale and sharing of WATS services. See paragraph 23 above. MCI claims that such action is necessary to prevent "continued abuse of the Commission's processes" and "further injury" to Bell's MTS users and to its specialized carrier competitors by further prolonging a rate structure that MCI alleges "has been illegal since its inception 16 years ago." According to MCI, "no one will lose service, since everyone can continue to use MTS without the dis­ criminatory and predatory discounts of the WATS tariff." The only change, MCI argues, will be that present users of WATS will be billed for this service at MTS rates like smaller users of communications. It alleges that those who have used WATS services have enjoyed a rate preference for years, at the expense of the general public which uses MTS. 27. Western Union requests rejection on the grounds that: (1) the filing does not include a FDC Method 1 study as required by the Decisions in Docket Nos. 19989 and 18128, citing 59 FCC 2d at 705 and 61 FCC 2d at 589, 591, 662-63, 665-68, respectively; (2) the WATS filing does not contain studies of peak hour usage as required by the Decision in Docket No. 19989, 59 FCC 2d at 701, n. 36; and (3) Bell has not supplied embedded cost data developed under FDC Method 1 to supplement its incremental cost studies as required by the decision in

23 Supra, n. 22. 66 F.C.C. 2d 24 Federal Communications Commission Reports Docket No. 19989, 59 FCC 2d at 704 and 706.24 It is Western Union's contention that the omission of this vital information causes the WATS filing to be in substantial non-compliance with the Commission's Deci­ sions in Docket Nos. 19989 and 18128 and that such non-compliance requires rejection. AT&T's Response 28. In its opposition to WATS subscribers' and competing carriers' requests for rejection AT&T makes the following arguments. In re­ sponse to requests for rejection on the grounds of adverse financial impact on WATS subscribers AT&T alleges that the petitioners make no citation to any statute, Commission Rule, Regulation or Order in support of their argument that adverse financial impact is a basis for summary rejection. Further, it alleges that the WATS charges for the complaining subscribers are based upon costs of serving them. 29. In reply to arguments that rejection is justified because of "ex­ cessive and unlawful" WATS rates of return, "unlawful" cross-subsidi­ zation by WATS of other interstate services and "unlawful" discrimi­ nation between classes and subclasses of users, in violation of the Commission's Decisions in Docket Nos. 18128, 19989 and 20376, AT&T alleges that "[n]one of those orders prescribe any WATS return levels; none reject the concept of contribution flowing between services; and none say unequivocally that all services must earn no higher than the overall authorized 9.5-10% rate of return in all circumstances." AT&T argues that it is repeatedly recognized that public interest and other considerations can properly constitute justification for departures from that rate of return level. AT&T contends that the very best that can be said of the arguments made by the petitioners is that they raise threshold issues which are properly before the Commission only in an evidentiary hearing to determine the lawfulness of a tariff revisb n, or at the preliminary stage when the Commission is exercising its discre­ tion on whether or not to suspend and order an investigation. 30. More particularly, with respect to the Commission's Decisions in Docket Nos. 20376, 19989 and 18128, respectively, AT&T makes the following arguments. AT&T contends that the Docket No. 20376 Deci­ sion established a range of overall rate of return for the Bell System's interstate and foreign services of 9.5-10%. Nowhere in the Decision, AT&T alleges, is any separate service of the Bell System discussed and further, it argues that Docket No. 20376 does nothing more than set an overall Bell System interstate rate of return. 31. In regard to Docket No. 19989, AT&T claims that no rate level was found by the Commission to be "per se lawful" or "unlawful" in Docket No. 19989, citing 59 FCC 2d at 708. According to AT&T, the Commission only determined that AT&T's "methodology" in support of the filed tariff was not legally sufficient. AT&T also argues that in the instant filing, "AT&T has made no alignment of WATS rates with MTS rates; has priced Inward and Outward WATS separately from MTS and from one another as separate services; has filed cost data using the methodologies ordered by the Commission on which the sub-

24 Western Union dropped its rejection request based on ground (2) above in its reply to Bell's opposition to its rejection petition.

66 F.C.C. 2d AT&T Company Long Lines Department 25 ject rates are based; and has supported its structure and rates for the miscellaneous portions of the filing." 32. With respect to Docket No. 18128, AT&T claims that such pro­ ceeding was primarily an examination into the overall rate levels of Bell private line services and it was not specifically directed to the subject of WATS rate structure nor to the absolute upper limit of the WATS rate levels. AT&T alleges that the "Docket's major thrust was the determination of the proper costing methodology by which the costs of interstate private line services are to be determined in the future." According to AT&T, "[i]ts principal purpose was to assure that Bell private line services were not subsidized by the Bell monop­ oly services, i.e., MTS and WATS. 61 FCC 2d at 590." AT&T further alleges that "[a]s an aside, it was observed by way of dictum in the October 1, 1976, Order that existing WATS rate levels appear to be excessive when fully distributed cost methodology is applied, indicat­ ing the possible presence of unidentified cross-subsidization within the various categories of interstate service." AT&T claims, however, that "the Commission expressly disclaimed requiring in Docket No. 18128 any action on limiting WATS return levels," citing 61 FCC 2d at 651 as follows: Despite the foregoing, we do not require any specific actions be taken respecting WATS' return levels at this time, in view of our recent decision in Docket 19989, 59 FCC 2d 671 (1976). In the WATS proceeding we concluded, inter alia, that the existing WATS tariff was illegal insofar as Bell did not attempt to justify its rates on the basis of costs. Indeed, Bell did not provide any cost support for WATS rates. Instead, Bell attempted to show an "alignment" between WATS rates and those of MTS. As a result of the WATS decision, Bell is to file a new tariff together with rate support cost justification by November 8, 1976. Accordingly, it does not appear prudent, in the public interest, to require changes in WATS rate levels at this time. Paragraph 188, 61 FCC 2d at 651 (footnotes omitted, emphasis added). Accordingly, AT&T argues that "the lawfulness of the WATS return levels was neither decided nor prescribed in Docket No. 18128, but rather, the issue was expressly reserved until such time as AT&T filed tariff revisions in response to the Final Decision in Docket No. 19989." 33. Moreover, AT&T argues that "[t]he Order in Docket No. 18128 does not reject contribution flowing between specific services in appro­ priate cases. The Order definitely does not say that all services must earn no higher than the overall rate of return based on revised FDC 7 costs." AT&T claims that "it repeatedly recognizes that public inter­ est considerations can properly constitute justification for departures from this standard. See, e.g., paras. 221, 223, 232, and 238 of the Or­ der."25 AT&T concludes that "[t]he revisions to WATS complained of do generate a contribution which benefits MTS customers by keeping rates for this basic interstate service as low as practicable consistent with the overall constraint on earnings, a goal which is desirable and in the public interest" and argues that "[petitioners' contention, that the Commission's Ruling in Docket No. 18128 prohibits such a benefit to MTS users, is without foundation." In this latter respect see our sum­ mation of AT&T's "public interest" justification for the WATS tariff filing set forth at paragraphs 5-9 above.

26 AT&T also cites Chairman Wiley's "Additional Views" attached to the Docket No. 18128 Deci­ sion, citing 61 FCC 2d at 669, paragraph 3, in support of the Bell interpretation.

66 F.C.C. 2d 26 Federal Communications Commission Reports 34. In reply to MCI's rejection petition, AT&T discusses the major grounds urged by MCI for rejection. It contends that MCI's petition must be "stricken" under Section 1.52 of the Commission's Rules for contravening prior Commission orders and for failure to provide "good grounds to support it." 47 CFR § 1.52. With respect to MCI's assertion that the proposed WATS revisions must be rejected because of failure to provide for resale and sharing, AT&T argues that in its recently concluded Docket No. 20097 Decision, supra, the Commission specifi­ cally declined to order resale and sharing of MTS and WATS. AT&T argues that MCI actively participated in that proceeding and is ac­ tively engaged in the pending review of that Commission Order by the U.S. Court of Appeals.26 AT&T claims that neither MCI nor any other party has sought reconsideration or court review of that portion of the Commission's Order excluding MTS and WATS from resale and shar­ ing requirements. According to AT&T, MCI's current "diatribe" can only be construed as an improper collateral attack on the Commission's Docket No. 20097 Decision. AT&T argues that "similarly," the Com­ mission has recently ruled in the Execunet and SPLS cases, supra, that MCI is authorized to provide only private line services, and that it may not offer a WATS-like service. In reply to the MCI argument that the Commission's Policy of full and fair competition requires that AT&T likewise be barred from offering WATS, AT&T argues that unlike MCI, AT&T is authorized to provide both public switched net­ work services and private line services, while MCI sought and has received authorization from the Commission to provide private line services only. AT&T asserts that it is "frivolous" and an "abuse" of Commission processes for MCI to request rejection of the WATS tar­ iff revisions on grounds "flatly contrary" to recently enunciated Com­ mission policies that MCI is simultaneously seeking to overturn in the courts. Finally, in reply to MCI's allegations of "anticompetitive" and "predatory" conduct, AT&T alleges that MCI's "unsubstantiated" alle­ gations fail to demonstrate whether the proposed WATS rates "are too high or too low," or why any aspect of the filed rate structure is inappropriate for whatever reason. AT&T claims that "MCI has twice before been censured by the Commission for its habit of making 'sup­ positious allegations and innuendos that are mere conclusions totally unsupported by any factual showing,' " citing Memorandum Opinion and Order in Docket No. 19129, 38 FCC 2d 981, 982, (1972) and The Western Union Telegraph Co., 41 FCC 2d 232, 233 (1973). 35. In reply to Western Union's rejection petition, which seeks re­ jection primarily on the grounds that AT&T failed to provide FDC Method 1 cost studies in support of the filed tariff revisions and in supplement to AT&T's incremental cost studies, and that AT&T has failed "to submit studies which would allow the Commission to deter­ mine whether WATS is compensatory for peak period usage or whether it is promoting efficient use of the public switched network," AT&T argues that its failure to supply FDC Method 1 studies is not grounds for rejection because such requirement was superseded by the requirement to provide revised FDC Method 7 studies, citing WATS,

26Resale and Shared Use Inquiry, supra, reconsideration, 62 FCC 2d 588 (1977), consolidated appeals pending sub nom. AT&T v. FCC Nos. 77-4057, 77-4067, 77-4068, 77-4073, 77-4074, 77-4075 (2d Cir.). 66 F.C.C. 2d AT&T Company Long Lines Department 27

59 FCC 2d at 689, n. 27, Docket No. 18128, 61 FCC 2d at 668, and an April 15, 1977 letter to AT&T from the Chief, Common Carrier Bu­ reau. Further, AT&T alleges that it has, in fact, submitted studies examining peak hour usage impact and has demonstrated that the filed tariff revisions promote efficient use of the network. Finally, AT&T argues that pursuant to Commission directive AT&T and the Chief, Common Carrier Bureau conferred in order to identify the specific supporting material which must be submitted with the tariff revisions, and the Chief "confirmed" that the type of information which AT&T proposed to provide seemed consistent with the requirements of the Docket No. 19989 Decision, and revised FDC Method 7 appeared to be the applicable costing standard for the filing as expressed in Docket No. 18128. 36. Finally, AT&T alleges that the various arguments made by the petitioners are insufficient grounds for rejection as a matter of law, citing, e.g., a Memorandum Opinion and Order in Docket No. 21139, 63 FCC 2d 728 (1977), Municipal Light Board v. FCC, 450 F.2d 1341, 1346 (D.C. Cir. 1971) and Associated Light v. FCC, 448 F.2d 1095, 1103 (D.C. Cir. 1971). In particular, it alleges the Commission may not reject a tariff because of the level of rates filed, because rejection on such grounds "would in effect determine the lawfulness of the level of the rates without a hearing," citing, among other cases, Associated Press v. FCC, supra, 448 F.2d at 1104. 37. In requesting that the numerous requests for suspension and investigation be denied, AT&T repeats most of the arguments it makes in its opposition to the rejection petitions. To the extent WATS sub­ scribers or competing carriers seek suspension and hearing for alleged violations of the Docket Nos. 18128, 20376 and 19989 Decisions, respec­ tively, see our summary of AT&T arguments at paragraphs 29-33 above. In regard to the MCI request for suspension and investigation on the grounds that there should be resale and sharing of WATS services and that the WATS tariff revisions are "predatory and anti­ competitive," the AT&T position summarized at paragraph 34 above is pertinent. 38. AT&T further objects to suggestions that its WATS tariff revi­ sions should be suspended for the full statutory period and set for hearing on the grounds that the AT&T supporting materials are too detailed. It alleges that it would be inherently unfair to suspend the tariff of a carrier merely because it complied with the Commission's documentation requirements, citing WATS, 59 FCC 2d at 705, 705-09. As regards the alleged financial impact on WATS subscribers, AT&T replies that customers are simply paying charges based on the cost incurred by AT&T in furnishing them service. In reply to allegations of geographical and other discrimination (e.g., AT&T's averaging of line usage, use of a 30-day minimum average time requirement, and allegations that WATS is an unlawful bulk-rate MTS offering), AT&T alleges that rates paid are a function of the costs to provide the ser­ vices, reflect marketplace considerations, and that no degradation of WATS services is likely to occur from the tariff revisions. 39. Further, Western Union and USTS claim that FDC Method 1 studies should have been provided, and National Data and SPCC claim that the "datum" (earning levels and costs for all 16 interstate service 66 F.C.C. 2d 28 Federal Communications Commission Reports categories) required by the Docket No. 18128 Decision was omitted. Still other claims are made that AT&T did not provide revised FDC Method 7 studies and it is alleged that all relevant WATS costs (e.g., screening and blocking costs) were not provided or identified. In reply, AT&T claims that it provided and identified all costs required by Com­ mission Decisions in Docket Nos. 18128 and 19989, revised FDC-7 methodology was utilized, and all costs were taken into account in "structuring" the WATS offering. More particularly, AT&T alleges WATS is less costly than MTS because itemized billing is not provided, person-to-person, collect, and credit candor other operator handled calls are not allowed, and due to the "queuing" effect, i.e., only one call can be made over an access line at a time causing more calls to fall outside of peak periods, further cost savings are realized. AT&T also challenges the validity of certain comparisons made by MCI and West­ ern Union to demonstrate that WATS is more costly than MTS. In regard to the SPCC allegation that MTS is treated as a "residual cost" AT&T disagrees. It states that by the FDC procedure used: (1) The total interstate message layout interexchange plant costs are allocated be­ tween MTS, WATS and Other (Western Union TWX) on the basis of relative message minute miles (MMM) of use, by the ten route mileage bands: (2) The total interstate message toll dial switching costs are allocated among these same three categories of service on relative minutes of use: (3) interstate local switching costs are likewise allocated among services on relative minutes of use: (4) interstate traffic switchboards are allocated between MTS and WATS on relative traffic units of operator work time. AT&T Reply, p. 46. AT&T contends that these methods are incorporated in the Method 7 FDC Implementation Manual. In response to challenges of its market demand studies by Western Union and SPCC, AT&T claims that it has properly explained and supported its methods as required in Docket No. 19989, 59 FCC 2d at 710-15, Appendix A. Discussion 40. Based upon our analysis of the WATS tariff revisions and the pleadings before us, our discussion focuses on the major questions of lawfulness raised by the filing. By not addressing all issues raised or all provisions of the proposed tariffs, we do not mean to imply ap­ proval or disapproval of such issues or tariff proposals. Most of the questions we shall address concern whether, and if so, to what extent the WATS tariff revisions comply with our Decisions in Docket Nos. 19989 and 18128, supra, respectively.27 Paragraphs 42-94 deal primar­ ily with our WATS Decision and paragraphs 95-110 with Docket No. 18128. 41. At the outset, we wish to respond to a Bell statement, see para. 35 above, which appears to imply that the Commission staff has in some manner given its prior approval to the justification and method­ ologies utilized in the WATS filing. It is true that Bell discussed in broad outline form the general nature of its planned WATS revisions in meetings with the staff following the WATS Decision, but prior to the Docket No. 18128 Decision. However, there was no Bell presenta­ tion or discussion concerning the specific details of the justification or

27 Compliance with Docket No. 20376 can be determined only in the context of an examination of returns for all Bell services, as that Decision, unlike our Docket No. 18128 ruling, dealt with AT&T's return level from all interstate and foreign operations considered together. 66 F.C.C. 2d AT&T Company Long Lines Department 29 methodologies to be employed. For example, as set forth in detail below, there was no indication that the WATS filing would use the "basic service philosophy," set specific WATS rates on the basis of a LRIC methodology, continue to use "alignment," continue to provide outdated FDC data, fail to segment FDC costs by subclasses of ser­ vice, utilize the INC model (renamed as the "Network Cost System"), or fail to provide a benchmark to the Commission to measure depar­ tures from cost-based pricing. We also note that in the April 15, 1977, letter from the Chief, Common Carrier Bureau referred to by AT&T, see para. 35 above, the Bureau stated that "[w]hether the actual infor­ mation provided or costing methodology employed is adequate to sup­ port the tariff revisions remains, of course, a matter for ultimate Com­ mission determination." Moreover, the Bureau Chief indicated that the rights of the Commission or other parties to challenge AT&T's imple­ mentation of Docket No. 18128 were not waived as a consequence of any staff consultations. Finally, in addressing these very same consul­ tations the Commission has stated that the "burden of justifying rates and costing techniques remains with Bell in accordance with statutory and legal standards" and thus "the results of the consultative process are . . . not binding on the Commission or staff elements charged with rate evaluation and hearings . . ." See In re Revisions of FDC Costing Methodologies Subsequent to Docket 18128, FCC 77-110 at para. 3, fn. 1, released February 14, 1977. Accordingly, the staff did not, nor was it authorized to, give prior approval to the WATS filing. As noted below, we have directed our staff to consider the development of pro­ cedures for undertaking public pre-filing conferences with AT&T with respect to future tariff filings to avoid any possible misunderstandings as well as facilitate the filing of adequate costing and other informa­ tion in support of proposed tariffs. 42. WATS as Separate Services or as Bulk MTS Offerings. In Docket No. 19989, we directed AT&T to justify separately the costs associated with Inward and Outward WATS services and to justify WATS either as separate "unlike" services from MTS or as bulk rate MTS offerings. WATS, 59 FCC 2d at 683 and 710. We further dis­ missed as unsupported AT&T's contention that WATS costs were aligned to, but somewhat less than, those of MTS. We now wish to expand upon the question of whether WATS and MTS are "like" ser­ vices within the meaning of Section 202(a) of the Act such that any rate discrimination must be fully justified by costs or otherwise, e.g., that WATS services are justified as bulk-rate offerings. While we shall discuss this subject herein, any final determination on this legal issue will be made in a separate proceeding which we will initiate in the near future. 43. At the outset, we question the attempt in this filing to justify the WATS services as separate "unlike" services from each other and from MTS. As we shall discuss at paragraphs 50-55 below, the rate- making approach employed herein purports to justify WATS services and rates separately as "unlike" services but then attempts to set WATS rates by, in part, aggregating WATS and MTS services' return levels into a single monopoly service category. On its face, this is not in compliance with our previous decisions. We also question other as- 66 F.C.C. 2d 30 Federal Communications Commission Reports pects of the purported justification of both WATS services as separate "unlike" services, which we shall discuss in this section. 44. We note that the filing attempts to differentiate Outward WATS from MTS on the basis of physical characteristics (i.e., Outward WATS service is restricted to outgoing dial-type calls only), customer perception (e.g., convenience, improvements in their business, and economies realized in their total communications bills), market applica­ bility (e.g., meets needs of large users with diverse number of calling locations), network usage characteristics (e.g., Outward WATS calls are allegedly shorter in time and longer in distance), stimulation (e.g., Out­ ward WATS users allegedly increase total usage and revenues when they switch from MTS to Outward WATS) and economic factors (in­ cremental cost comparisons of MTS and Outward WATS calls alleg­ edly show WATS is economically cheaper because of the queuing ef­ fect.28 See Volume I of Justification, pp. 2-8 to 2-16. 45. The filing further attempts to differentiate Inward WATS from MTS and Outward WATS, respectively, on the basis of physical char­ acteristics (i.e., outward calling is not permitted), alleged operator cost savings (i.e., it is an automatic collect call communications service), unique business markets served (e.g., dispatch and report services, message forwarding, reservation services, governmental use, credit checking and data services), stimulation, (i.e., development of an other­ wise untapped market, deriving revenues from new users), network utilization (e.g., Inward WATS has lower usage per line, shorter con­ versations and more extension of usage into non-business hours than does Outward WATS and the queuing effect occurs at the terminating end), and economic cost (e.g., the additional incremental minute cost for an average Inward WATS conversation is lower than a MTS operator station-to-station call). 46. Turning first to Outward WATS service vis-a-vis MTS Direct Distance Dialing (DDD), the showing made in this filing is insufficient to convince us that Outward WATS and MTS are not "like services," in which case any difference in rates must be justified under Section 202(a) of the Act. Besides the differences between the services enu­ merated above, there are many significant similarities. For example, the same technology is used to provide both MTS DDD and Outward WATS services and oncq an MTS or Outward WATS call enters the network, they are indistinguishable. Cf. DDS, 62 FCC 2d at 796. In­ deed, when Outward WATS and MTS services are used in conjunction with a "WATS box," i.e., arranged in rotary such that the "box" chooses between WATS and MTS lines on the basis of availability or economy no difference exists between the two services except rates. Moreover, it appears that the primary basis for customer preference for WATS appears to be the substantial cost savings which results from the lower unit tariff charge for Outward WATS calls. CF, DDS, 62 FCC 2d at 796. The formal pleadings, comments and letters re­ ceived from WATS subscribers repeatedly emphasize the cost savings they obtain from WATS services vis-a-vis MTS and other services, and that this fact initially induced them to secure outward WATS to re-

28 According to AT&T, the fact that only one Outward call can be placed over a particular Outward WATS access line at a time causes the spreading of calls out of peak hours with resultant cost savings. 66 F.C.C. 2d AT&T Company Long Lines Department 31 place some of their MTS lines. Further, the WATS business market studies submitted in this filing demonstrate that the primary reason given by customers for starting WATS services is economy in the customer's total communications bill. See Volume 51 of Justification, pp. 2-24 and 2-25. This is also shown in this filing by the cross-elastic­ ity between MTS and Outward WATS which is described as "pro­ nounced." 47. In the event we determine that Outward WATS and MTS are "like" services, without in any way prejudging the proceeding we are instituting on this issue, the type of showing that must be made to justify cost differences between like services includes, inter aha, item­ izing and quantifying of such cost differences on a revised FDC-7 basis. Mere subjective judgments that there are cost savings because no itemized billing is provided or because of the queuing effects will not suffice.OT Although the present filing alleges that such cost savings exist, it appears just as likely that there may be additional costs in­ curred in the provision of Outward WATS services which are not incurred in providing MTS. w 48. To some extent, our discussion above may apply to Inward WATS as well. On a tentative basis, it appears that Inward WATS and MTS could possibly be considered "like services" subject to Section 202(a), although we cannot make such a finding from the record before us. There appear to be no functional differences between Inward WATS and MTS calls as they traverse the network, and in Inward WATS, even more so than in Outward WATS, the customer's prefer­ ence for the service appears to be based in large part on cost savings to him vis-a-vis MTS operator-assisted collect, station-to-station and other MTS calls. With respect to costs, it is important that Bell itemize and quantify on an embedded cost basis consistent with Docket No. 18128 all costs or alleged cost savings associated with its provision of Inward WATS service. Presently, as admitted in the filing, there is much network congestion caused by Inward WATS services. These additional and other costs, or alleged cost savings such as in billing, must be itemized and quantified." 49. In the proceeding to be ordered, if Bell should choose to justify Inward WATS and Outward WATS, respectively, as "unlike" services from MTS, we expect a showing to be made, among other things, that customers perceive the services primarily as different from other ser­ vices in terms of capability of being used for different communications needs and not as replacement services. A mere segmentation of the market, e.g., as discussed at paras. 53-54 below, through lower charges to the customer for one service or another would appear to be insuffi­ cient. Also, consideration must be given to whether the two services, in fact, satisfy different communications requirements, regardless of any

& Relevant cost savings from the queuing effect have not been demonstrated In our discussion of peak off-peak pricing of WATS services we note that such cost savings may even be illusory w) For example, screening and blocking costs and costs associated with the special arrangements that are required to provide Outward and Inward WATS services, supia, n 19, must be itemized and quantified Further, since WATS services are business services, there could be proportionately greater marketing and sales costs associated with the WATS offerings than with MTS All of these costs must be itemized, quantified, and accounted for Our discussion of the effect of WATS peak usage of the public switched network is also pertinent *i See our discussion of the Impact of WATS on peak hour usage and the efficiency of the overall network See also, snpia, n 30 66 F C C 2d 32 Federal Communications Commission Reports rate differentials which may exist. This showing must be made sepa­ rately for Inward and Outward WATS vis-a-vis other services. Fur­ ther, Bell should show that institutional demand by public switched network business customers (MTS and WATS) is, in fact, price sensi­ tive by time of day and thus network peaks could be shifted by offer­ ing discounted WATS services. If not, then it would seem that there may be less justification for offering discounted public switched net­ work services. We note that irrespective of whether we find Outward and Inward WATS services, respectively, to be "like" or "unlike" MTS, any rates or rate structures submitted must be shown to be just and reasonable within the meaning of Section 201(b) of the Act. 50. Alignment. In Docket No. 19989, 58 FCC 2d at 667-81, 683 and 710, we discussed at length and rejected Bell's "alignment" theory of justifying WATS rates not on the basis of independent WATS costs, but rather on the basis of maintaining "consistent" rate relationships with "equivalent" MTS charges over distance. We thus ordered Bell to justify WATS services either separately or as bulk rate offerings of MTS. This filing meets neither of these requirements. It does not attempt to justify WATS as bulk offerings of MTS. Instead it purports to justify WATS rates separately based on Outward and Inward WATS costs and other factors. However, when the key decision is made as to setting the rates, the filing wholly departs from separate justification of WATS services and rates and establishes rates on the basis of an arbitrary combination of Outward WATS, Inward WATS and MTS service returns which purport to yield a combined return of 9.25 percent. Thus, WATS rates are not established on the basis of independent costs of WATS but depend to a large extent on whatever particular return level for MTS may exist. Under such circumstances, independent WATS costs, revenues and other independent attributes of WATS services have little significance for WATS rates. This is nothing more than a variation of the same alignment theory we re­ jected in Docket No. 19989. 51. Further, we have concerns regarding the ratemaking proposal used in the filing which sets Outward WATS and Inward WATS rates such that the services achieve different return levels, 19% for Outward WATS and 11.6% for Inward.82 The sole alleged justification for treat­ ment of Outward and Inward WATS subscribers in this manner, is that "[Ojutward WATS users have a wider range of alternatives than Inward WATS users." This is pure "value of service" pricing and such alleged justification does not meet the policies and requirements un­ derlying our Docket No. 19989 Decision, which requires the submission of cost and other justification for WATS rates. See, e.g., 59 FCC 2d at 703. To the extent that the WATS filing on its face departs from cost based pricing, because of the disparate return levels and rates chosen,

32 AT&T's submission to the Commission on June 8, 1977, shows the revised FDC-7 earnings ratios for the year ended December 31, 1976, under the existing rates, as follows: MTS 8.2%; Outward WATS 16.6%; Inward WATS 12.9%; combined MTS-WATS 9.25%. AT&T states that the combined MTS-WATS earnings ratio can be compared to the total interstate earnings ratio for the year ended December 31, 1976 of 9.25%, and the earnings for all private line categories of 9.24%, it claims that the earnings ratios submitted in the June 8 filing reflect the most recently refined FDC-7 method­ ology. In neither case, AT&T alleges, does the combined WATS and MTS rate of return exceed 9.5%. See Description of AT&T Response to FCC Decision in Docket No. 18128, June 8, 1977, Volume 1, pp. 2-3. These new returns can be compared to the return levels shown in the WATS filing. See para. 9 above and infra, n. 31. 66 F.C.C. 2d AT&T Company Long Lines Department 33 it has failed to provide a benchmark to measure the departure herein from cost based pricing in violation of the WATS Decision, 59 FCC 2d at 678. We further describe the filings failure to provide benchmark rates at paras 107-08 below. 52. These further comments on Bell's ratemaking theory are war­ ranted. The unsupported claim that a WATS rate schedule designed to yield a return of 9.5% will result in a $350-400 million revenue shortfall which "would have to be" recovered by MTS users shows only one aspect of a complicated picture. See paras. 5-9 above. Such an MTS rate increase is based on the premise that WATS rate must be lowered overall to achieve the targeted 9.5% return, without reference to ca­ pacity utilization, short run and long run pricing objectives, and invest­ ment decisions. The lack of any documentation to support this asser­ tion will be addressed at paras. 107-08 below. Although this lack of documentation makes any detailed discussion herein difficult, we shall attempt to discuss in general terms why the assertion of the need for MTS rate increases is misleading. 53. At the outset, it is important to differentiate between WATS rates and WATS return levels. Rates refer to the charges paid by the public. Return levels refer to percentage return on investment calcu­ lated on an appropriate FDC basis. See Docket No. 18128, FCC 77-385 at para. 1, fn. 2. Even though the higher return levels for WATS might at first glance suggest that there are cost differences between MTS and WATS services, i.e., WATS is less costly than MTS, certain char­ acteristics of WATS indicate that it resembles a bulk discounted MTS. The concept of a discount is essential to understanding the peculiar­ ities of WATS services. In particular, Outward WATS performs like a bulk MTS Direct Distance Dialing (DDD) from the demand side, i.e., a customer utilizes it much as he would MTS DDD. Yet, despite the availability of a considerable discount to the customer paying the lower WATS rates, and despite the fact that WATS users use the same public switched network as MTS users, the rates of return generated by the WATS service (19% for Outward, 11.6% for Inward) are higher than MTS (8.3%), as reported by AT&T.w The crucial question is what could cause such great disparity? 54. AT&T argues that the disparity in returns is due, at least in part, to the cost differences which it alleges exist between MTS and WATS. However, the filing has not demonstrated what these differ­ ences are, much less shown that any such differences are substantial enough to cause an earnings ratio disparity of the magnitude claimed. As noted elsewhere herein, the disparity could also be a result of improper cost allocation procedures. On the other hand, there may be simply a demarcation of the public switched network market between MTS and WATS services, based on the volume of usage of customers. Such a market separation would allow, for example, services with simi­ lar cost to show a different rate of return. Under certain circum­ stances, the service with the lower price may show a higher return, depending upon the elasticity of demand for that service, the volume

*• As noted elsewhere in this Order, we have serious reservations concerning the validity of the cost studies and returns submitted herein. However, for the purposes of this discussion, we will accept arguendo that the WATS return will be higher than that of MTS, and that the Outward return is higher than Inward. Supra, n. 32. 66 F.C.C. 2d 34 Federal Communications Commission Reports of sales and their relationship to the costs of providing service at differing levels of output. These relationships are well known to econo­ mists and the business community in general. Under such circum­ stances, an entrepreneur can lower his prices but increase sales and revenues as well as profit. Under other circumstances, the price of a good may be increased, but sales decreased, and still result in in­ creased profits. Similarly, price changes may actually result in lower profits. The permutations are many even in cases where all users are charged only a single price. In the case of a product or service like WATS with its "tapered" rate schedules (increasing use results in a lower price per hour of use at certain intervals) and its multiple ser­ vice areas, there is considerable potential for manipulation of the var­ ious prices to achieve given levels of return. 55. Even if the only way to achieve a 9.5% rate of return were by lowering WATS rates, the filing before us does not demonstrate that this rate reduction would have any detrimental effect on the Bell Sys­ tem's overall rate of return. See paras. 107-08 below. Since most facili­ ties used in the provision of MTS can be used to provide WATS as well, shifts of customers from MTS to WATS, assuming WATS earned at the rate of 9.5%, could have a neutral or positive effect on Bell's overall return. This would come about because of future additional allocations of costs to WATS (earning 9.5%) from MTS (earning 8.2% in 1976, according to AT&T's June 8 filing), pursuant to allocation requirements of FDC Method 7. We also note that no showing has been made as to what tariff changes would be required in MTS to bring it to a 9.5% return level. It is possible that MTS rate decreases could increase earnings, as a result of generation of new traffic or shifts from other services. Cross-elastic shifts to MTS from WATS could decrease the WATS rate of return without any independent WATS rate action. 56. Incremental Cost Justification. In our Decision in Docket No. 19989 we set forth specific guidelines to be followed by AT&T in filing WATS tariff changes. See 59 FCC 2d at 705-08. In these guidelines, among other things, we required that certain incremental costs and revenues be supplied along with the required fully distributed cost (FDC) studies. This information was to include at a minimum incre­ mental cost/revenue relationships by rate element, elasticities and cross-elasticities of demand, and elasticities and cross-elasticities of cost. Additionally, our WATS Decision, 59 FCC 2d at 711-14, Appendix A, raised certain questions associated with AT&T's use of its incre­ mental Network Cost (INC) Model, which was part of AT&T's long run incremental cost (LRIC) approach to ratemaking. The deficiencies in the INC Model presentation which we enumerated in our WATS Decision included: (1) the need for better documentation, 59 FCC 2d at 713; (2) support of inputs into INC, especially shift factors and WATS demand studies, 59 FCC 2d at 712; (3) justification of all assumptions employed within the model, 59 FCC 2d at 711; (4) performance of sensitivity analysis to test sensitivity of model to changes in inputs and assumptions, 59 FCC 2d at 708; (5) support for use of LDI demand model in supplying elasticity and cross-elasticity measures for MTS, 59 FCC 2d at 712, n. 4; (6) need to evaluate alternative cost mileage band schemes when setting rates, 59 FCC 2d at 713; (7) generation of peak- 66 F.C.C. 2d AT&T Company Long Lines Department 35 off-peak costs, 59 FCC 2d at 713; and (8) method for taking inflation into account in cost projections, 59 FCC 2d at 713. 57. Subsequent to our Decision in Docket No. 19989, we specifically rejected AT&T's LRIC approach in Docket No. 18128. See 61 FCC 2d at 624 and 632. We also noted infirmities in long run marginal cost pricing because of its hypothetical nature. See 61 FCC 2d at 626. However, we did acknowledge the potential use of short run marginal cost pricing in reference to peak-off-peak pricing in setting rates within a particular service category. See 61 FCC 2d at 626. 58. An important question before us in regard to the WATS filing is whether or not it has again employed the LRIC approach to ratemak­ ing which we specifically rejected in our Docket No. 18128 Decision. See 61 FCC 2d at 624 and 632. AT&T claims to employ a "Network Cost System" (NCS) in developing costs, upon which it alleges it has based the proposed WATS rates in the tapered rate structures. We find that the NCS model, which is in fact a version of the INC model used in AT&T's LRIC analysis, is indicative of AT&T's use of its LRIC approach to ratemaking.*1 While our WATS Decision called for certain incremental cost and revenue data, we made such findings contingent upon our findings in Docket No. 18128 which followed our WATS decision. See 59 FCC 2d at 689, fn. 27, and 710, Appendix A, fn. 1. Therefore, the WATS filing must be based upon the cost principles developed in Docket No. 18128. Accordingly, we find that the use of the LRIC approach in setting specific tariff rates for WATS services violates express Commission findings and policies set forth in our Docket No. 18128 Decision.35 59. We also find AT&T's NCS/INC model is in violation of our WATS Decision because this filing fails to resolve certain points about the NCS/INC model as required therein. In particular, the filing fails to (1) provide complete documentation of the NCS/INC model—the documentation is virtually identical to that provided in Docket No. 19989; (2) support adequately the inputs into NCS/INC, see paras. 65-82 below; (3) support adequately use of the LDI model in supplying elasticity measures for MTS, see para. 70 below; (4) evaluate and pro­ vide results of alternative cost mileage band schemes; (5) generate peak-off-peak costs, see paras. 87-94 below; and (6) account adequately for inflation in cost projections since nowhere in the WATS filing have we uncovered any discussion of this topic. 60. Embedded Cost Justification. In the tariff filing, the claim is made that a revised FDC-7 methodology has been used to the extent possible within the time frame specified by this Commission. It is also claimed that the revised FDC-7 studies filed comply with AT&T's FDC-7 Cost Allocation Manual. See, e.g., Volume 5 of Justification,

« In Docket No 19989, AT&T stated in its description of the INC system that "[t]he development of many LRIC unit costs involved in these studies followed essentially the same methodology as described in Bell Exhibits 3 and 4 in Docket Nos 18128 and 18684 " See Bell Ex 8, p 5 in Docket No 19989 Upon examination of the technical description of both AT&T's NCS and INC models, see WATS Justification, Volume 17 and Bell Ex 10 in Docket No 19989, we find that they are identical In particular, the documentation provided for the NCS model here is nearly verbatim that provided for the INC model in earlier filings inputs (i e, messages, message-minutes, and revenues) used are identical, and the processes employed in deriving identical outputs are similar Thus, we find that AT&T's NCS model is nothing more than the INC system without the word "incremental" in its title 36 This is not to say that the use of LRIC or NCS for illustrative purposes is improper if the rate determination is consistent with Docket No 18128 Here, however, AT&T's LRIC is being employed in the basic tariff rate determination 66 F C C 2d 36 Federal Communications Commission Reports Section 2-1. The filing contains four FDC-7 studies filed in purported compliance with Commission guidelines of Docket Nos. 18128 and 19989. These four FDC studies include: (1) a cost of service study for the 12 months ending September 30, 1976 in purported compliance with Section 61.38(a)(1) of our Rules, 47 CF.R. § 61.38(a)(1); (2) a cost of service study backcasted to reflect the effects of the rate change for WATS in February, 1976, as if it had been in effect for the entire 12- month period ending June 30, 1976; (3) a cost of service study back­ casted to reflect the effects of the proposed rate change as if it had been in effect the entire 12-month period ending September 30, 1976; and (4) a cost of service study repricing present market quantities using the proposed rates. We discuss the question of whether the revised FDC-7 methodology submitted by Bell complies with the Docket No. 18128 Decision at paras. 100-04 below. In this section, we focus primarily on whether Bell's FDC studies comply with the WATS Decision. 61. In Docket No. 19989, 59 FCC 2d at 710-11, we questioned Bell's use of "trended" or "extrapolated" FDC data from earlier studies, rather than data derived from analyses of current historical records. In particular, we stated, 59 FCC 2d at 711, that "we are concerned that trending and extrapolating data from earlier studies (some of which had also been trended) may not represent a reasonably current and accurate determination of embedded costs since the results of each study have been trended forward based on certain ratios, revenue trends and aggregated investment and expense experience to arrive at the data representing the current twelve-month period which ended June 30, 1973." We further pointed out in our Docket No. 18128 Deci­ sion, 61 FCC 2d at 664-65, that "it is contemplated that Bell will undertake a diligent and thorough historical analysis of its interstate plant with the objective of matching facility cost assignments as closely as possible to the users for which such facilities were placed." (emphasis added). We further concluded in reconsideration of Docket No. 18128, FCC 77-385 at para. 25, fn. 11, that "[s]uch data [supportive materials for tariff filings] must allocate the totality of Bell's plant and expenses among all services," and that "[p]lant and expense totals must be derived from data of a recent test year; it cannot be based on results of prior test years 'factored forward'." (emphasis added). 62. We have examined the WATS tariff filing against this back­ ground and find that the FDC cost study data provided is still insuf­ ficient. For example, in this WATS filing, Bell states that "[t]he his­ torical data used in the WATS allocation process consists of revenues and investment data trial balanced and updated to reflect the year ended September 30, 1976. These items were obtained from either the 9/75 FDC Study or accounting records." See Volume 32 of WATS Justification, p. 3-1. However, the 1975 FDC Study utilized in the WATS filing is for the most part an update of the 1973 and the 1974 FDC Studies. 'x See, e.g., Volume 16 of WATS Justification, January 1976 General Rate Increase, p. 003. Although in the WATS filing, certain format and method changes were made by Bell as directed by

36 Indeed, these FDC studies can probably be traced back to 1972 or earlier if one were to review all of Bell's tariff filings since 1970. 66 F.C.C. 2d AT&T Company Long Lines Department 37 Docket No. 18128, e.g., development of a "fixed datum" (1975 invest­ ment), "Facilities Available for Future Growth" and "Delta Invest­ ment" (change), it is apparent on the face of the filing that there is still significant "trending" or "extrapolating" of data in violation of hold­ ings in Commission Decisions. In particular, the 1975 investment (fixed datum) was developed by obtaining a tentative WATS investment by the ten mileage bands, by plant type. This was done by developing Total DDD-Interstate Interexchange Book Costs by plant category. This total cost was then allocated to WATS based on message-minute- miles (MMM's) as adjusted for Western Union MMM's for TWX. The 1975 study used to develop these Western Union MMM's, included band distributions for 1973 Bell TWX interstate. See Volume 46 of WATS Justification, p. 3-34. Nothing was included in the filing to justify that this data is (1) the most current data available and/or (2) is still the correct distribution. Further, it appears that exchange plant, switchboards, station equipment, station apparatus, station connections and local channel investment are also trended forward from prior stud­ ies. See WATS Justification, Volume 33, p. A-297, Volume 46, p. 3-37. The continued use of trended or extrapolated FDC data violates effec­ tive Commission Decisions in WATS and Docket No. 18128, among other decisions. 63. Still another point of concern to the Commission in past rate proceedings has been the lack of costs incurred over distance in justi­ fication of rates based wholly or partially on distance considerations. Our primary concern has been, and still is, that rate discriminations between and among customers based on distance factors must be jus­ tified under Section 202(a) of the Act. For example, in WATS, 58 FCC 2d at 680, we stated that "[n]o independent WATS costs and revenue data by length of haul was supplied by Bell for the record." Also, in Docket No. 19129, Phase 11, 64 FCC 2d 1, 99 (1977), we stated that "fw]e agree with the Trial Staff that AT&T's Justification for its tariff mileage band structure, as well as the rates with each band, is clearly inadequate. As we found in the WATS Decision, 59 FCC 2d 671 (1976), Bell's failure to report costs by mileage band makes us unable to determine the reasonableness of the rate structure." The current WATS filing purportedly contains FDC cost data to show the WATS costs incurred over distance by mileage band and rate step. The filing has used message-minute-miles, busy hour use and revenue growth to allocate costs between WATS and MTS services, between classes of WATS services, and to allocate costs by rate steps. In particular, it uses busy hour usage to allocate costs to rate steps. See Volume I of Justification, pp. 2-32 to 2-37 and 2-46. The major problem with the filing's approach in the FDC studies to show alleged distance costs is that the FDC results of its allocation process vary so substantially by rate step that either the cost allocation methodology itself is unreli­ able, or the rate steps have been priced erroneously. For example, for Total Outward WATS (present rates) the FDC results for adjacent rate steps 2 (15.9%) and 3 (18.2%) vary from each other by approxi­ mately 14%. The FDC results for adjacent rate steps 11 (19.9%) and 12 (14.3%) vary by approximately 39%. For Total Outward WATS (pre­ sent rates) the highest FDC result is 21.7% for rate step 16, and the lowest is 14.3% for rate step 12. Under the FDC backcast for the 66 F.C.C. 2d 38 Federal Communications Commission Reports proposed rates the FDC results for adjacent rate steps 1 (16.7%) and 2 (19.6%) vary by approximately 17%. The highest FDC result is 20.8% for rate step 8 and the lowest is 16.7% for rate step 1. Similar percent­ ages are reported and can be calculated for Inward WATS. None of the wide disparities in FDC results for adjacent and non-adjacent rate steps is explained in the filing. Under such circumstances, we are unable to determine the reasonableness of the rate discrimination over distance. Another problem we have with the FDC cost studies is the fact that there are 10 cost mileage bands but eight rate steps in the revised tariff filing (down from 18 rate steps in the prior tariff). This variation between the number of cost mileage bands and the number of rate steps makes it impossible, as stated by MCI, to . . . "compare average costs of calls of average lengths." See MCI Suspension Peti­ tion, p. 9. If there were common rate steps matching mileage bands, then more valid comparisons could be made. Thus, the filing's failure to justify WATS costs and rates by length of haul by the submission of valid cost data does not comply with our holding in the WATS Deci­ sion. We therefore expect Bell to consider different study methodolo­ gies for determining distance costs for any future WATS filing, or justify the accuracy and reliability of the method used in this filing. We instruct the staff to work with AT&T, as provided herein, to ex­ plore other methodologies for determining such costs. 64. Finally, in Docket No. 19989 we required the filing of FDC stud­ ies by subclass of service, e.g., MT and FBD services, so that we could determine whether and to what extent there may be unlawful internal cross-subsidization or discriminations within the WATS rate struc­ tures. See 59 FCC 2d at 687 (para. 30, fn. 25). This filing proposes to discontinue MT and FBD subclasses of service and relies instead upon a "tapered" rate structure with different charges applicable to differ­ ent levels of usage. The use of this tapered rate structure does not remove the obligation to justify rate discriminations between and among small, medium and large users of WATS services. We find that each tapered step of AT&T's rate structure (e.g., for Outward WATS 10, 40, 90, 140, 200, 200+ hours of usage) constitutes a "like" service to each other within the meaning of Section 202(a). The rates applicable to the service subclasses of the tapered rate structures have not been justified in this filing. Only LRIC costs have been provided to justify the tapered structure, see para. 58 above, rather than FDC costs as required by our WATS Decision, 59 FCC 2d at 687-689 and 705-07. Rates applicable to service subclasses in future WATS filings must be similarly justified. 65. Forecasting of Demand and Costs. In our WATS Decision we set forth certain guidelines that AT&T was to follow in its new tariff filing in forecasting demand and costs for WATS. These forecasting guide­ lines required, inter alia, that Bell develop three year forecasts of the revenue and cost effects of any proposed rate changes. See 59 FCC 2d at 706. We also required AT&T to derive and justify elasticities of demand, cross-elasticities of demand with other services, and growth factors, and relate these to other important factors such as changes in general economic conditions. See 59 FCC 2d at 707. Bell was also required to document all sophisticated analytical techniques used in meeting the above guidelines and in justifying its new WATS tariff. In Appendix A of our WATS Decision we also specified certain areas that 66 F.C.C. 2d AT&T Company Long Lines Department 39

should be addressed in a new WATS filing. These areas included: (1) justification of cross-elasticities between WATS and MTS derived from AT&T's LDI model and used as inputs to the INC (now termed NCS) model; " (2) justification of processes used to estimate growth in access lines; (3) explanation of why the growth rate for hours of use was assumed to be the same as the growth rate for access lines; (4) justification of cross-elastic shift factors and economic cross-over points. See 59 FCC 2d at 712, 714. 66. Our Docket No. 18128 Decision also addressed Bell forecasting techniques as they were used in AT&T's LRIC analysis. Therein, we found that AT&T's LRIC forecasting techniques were deficient and that AT&T in consultation with the Staff of the Common Carrier Bureau should develop appropriate forecasting techniques to be used in conjunction with a revised FDC-7 methodology. See 61 FCC 2d at 630-1, 632, 666-7. 67. In the present filing, AT&T forecasted revenues, messages, mes­ sage-minutes and access lines separately for Inward WATS Measured Time, Inward WATS Full Business Day, Outward WATS Measured Time, and Outward WATS Full Business Day as inputs into its NCS model. In forecasting these market quantities, Bell employed statistical techniques which use monthly data from a variety of sources. AT&T used actual operating results from the month of September 1976 to disaggregate these forecasts by rate step. The message forecasts were further disaggregated by time of day based on additional data for September 1976. AT&T employed two specific types of statistical mod­ els in its forecasting process. These were (1) "curvilinear models" and (2) "Box-Jenkins models."'*8 These forecasts, which assumed continu­ ation of the present WATS rates, were then adjusted through the use of "shift factors" to reflect the effects of the proposed rate changes on demand. See WATS Justification, Vols. 3 and 9. 68. Upon examination of this filing's support material for forecasts, we find that it has failed to provide adequate justification of the model selections, in violation of both our WATS Decision, 59 FCC 2d at 708 and Section 1.363 of our Rules, 47 CFR § 1.363. Specifically, while the filing does state gene*J reasons why it rejected alternative model formulations, it does not provide the necessary support, such as the results of alternative formulations, so that we may validate the reason­ ableness of such claims. Additionally, the filing fails to provide the basic information necessary to verify that the "Box-Jenkins models" selected were in fact the "best" models of those considered as alleged, or even adequate for the purposes selected.89 In particular, the filing should have provided "auto-correlation" functions before assuming any particular Box-Jenkins model. Hence, as was the case in the previous WATS filing, the filing fails to comply with Section 1.363 of our Rules which directs that the statistical procedures used in filings with the Commission, such as those utilized by AT&T in developing forecasts of WATS demand, must be accompanied by, inter alia, the particular alternative models and variables which AT&T has employed. See 59 FCC 2d at 708, 713.

" The Long Distance Interstate (LDI) MTS Demand Model is utilized by AT&T to make demand projections for MTS service See Docket No 19129, Phase II Decision, 64 FCC 2d 1, 99 (1977) w See Justification, Volume 3, Section 3 w See Justification, Volume 3, Section 3 66 F C C 2d 40 Federal Communications Commission Reports

69. The need for supplying results of alternative mode formulations is demonstrated by looking at AT&T's forecast of Inward WATS Mea­ sured Time access lines. In this particular case, the model used gener­ ates a forecast which is admitted to be too low, as AT&T apparently exercised managerial judgment and manually increased the forecast for 1977 by nearly 10 percent. See Justification, Vol. 8, Section 7, p. 18. Accordingly, we shall require AT&T in all future tariff filings to pro­ vide us with all relevant information necessary so that we may better reach the question of the reasonableness of the models provided and the judgmental adjustments, if any, made to those selected models. 70. With respect to the specific requirements in forecasting in our WATS Decision listed above, we find that this filing fails to derive and justify elasticities and cross-elasticities of demand for WATS. Nor has the filing related these elasticities and cross-elasticities to changes in general economic conditions such as specifying the outputs from a general economic model. AT&T has again used its LDI model to esti­ mate cross-elasticities between MTS and WATS. However, this filing again fails to provide documentation for the LDI model. In particular, the filing fails to justify the use of the LDI model in conjunction with WATS services as required in the WATS Decision. See 59 FCC 2d at 712, Appendix I, fn. 4. In using the statistical forecasting techniques (i.e., curvilinear and Box-Jenkins models), the filing fails to relate the resultant forecasts to changes in general economic conditions as re­ quired in our WATS Decision, 59 FCC 2d at 707 (para. 85(c)). 71. A basic concern in our WATS Decision, 59 FCC 2d at 712-715, was the unjustified use of "shift factors" to account for the market effects of proposed rate changes in WATS. In particular, we found that AT&T provided no support whatsoever for the various estimates of elasticities and cross-elasticities of demand for WATS and required AT&T to provide such support in any future tariff filings. See 59 FCC 2d at 705-7. AT&T claims that it has done so in the instant WATS filing. In particular, it contends that due to structural changes in the proposed rates, it lacks the data econometrically to assess the market effects of the proposed WATS rate changes. Instead, AT&T claims to have used a "Bayesian" approach in estimating these effects for Out­ ward WATS and what it characterizes as a "Customer-Oriented Price- Decision Analysis for Inward WATS."40 72. For its "Bayesian" Analysis of Outward WATS, AT&T selected a sample of "business customers."41 For each customer, it calculated the total monthly interstate telecommunications expenditures, equal to the sum of expenditures for WATS, Message Toll Service (MTS) and Private Line (PL). AT&T placed these customers in a matrix with the columns corresponding to "service mix" (i.e., whether the customer had MTS only, WATS and MTS only, MTS and PL only, or MTS, WATS and PL) and with the rows corresponding to level of interstate tele­ communications expenditures (with the breakpoints: $0-1000, $1000-3000, $3000-5000, $5000 + ). It recorded the customer's SIC code (indicating type of product or service) and the firm's annual sales volume.

40 Bayesian analysis is a probabilistic method of making decisions using prior information. AT&T's "Customer-Oriented Price-Decision Analysis" appears to be a judgmental market simulation model. See WATS Justification, Vol. 3, Sections 5 and 6. 41 A customer is defined by AT&T as a billing location. Hence, a particular company can appear as more than one customer if it has more than one billing location. 66 F.C.C. 2d AT&T Company Long Lines Department 41

73. It then assumed that each business faced with an overall in­ crease in WATS rates would take one of the actions listed below. The elasticities of demand (e), the cross-elasticity of demand for Outward WATS with respect to MTS (xeMTs), and the cross-elasticity of demand for Outward WATS with respect to PL (xePL) which would be as­ sumed, are shown with each action. Those actions are:

a. Do nothing and accept the rate increase (e = 0, xeMTS = 0, xePL=0) b. Decrease WATS usage so that total WATS expenditures re­ main constant (e = l, xeMTS=0, xePL = 0) c. Drop WATS, and increase MTS usage by the amount that was formerly spent on WATS (e=undefined, xeMTS=infinity, xePL=0) d. Drop WATS and increase PL usage "with a usage adjustment between MTS and Private Line" (e = undefined, xeMTS=unde­ terminable from explanation, xePL=infinity) e. Shift some WATS to PL (e = 0, xeMTS=0, xePL=undeterminable from explanation) AT&T made similar assumptions for a business faced with an overall decrease in Outward WATS rates. Then AT&T determined the prob­ able new service mix which an individual customer would select given the above possible decisions. An underlying assumption used was that the customer would be most likely to make the decision which would result in its moving to the service mix to which the greatest number of customers similar to himself had moved. Customers are defined as similar if they have the same SIC code and comparable levels of total sales. Where shifts to PL occur, AT&T assumes that a fraction of the shift will go to non-Bell carriers. In assessing shifts to non-Bell private line, it would appear that AT&T employed the same simulator model we found insufficiently defined in our DDS Decision, AT&T (DDS), 62 FCC 2d 774, 809-813 (1976), which is employed in AT&T's Multisched­ ule Private Line (MPL) filing. See Justification, Vol. 3, Section 5, p. 22. However, AT&T provides no references, documentation, or support for the "existing Private Line simulation studies" it claims it used to cal­ culate shifts from Bell to non-Bell private line. Accordingly, without further justification we cannot accept the filing's assertions as to the amount of shifts from WATS to non-Bell private line that may occur with the proposed rate change. 74. The guidelines set forth in our WATS Decision require that AT&T should properly take into account elasticities and cross-elastic­ ities of demand when estimating the market effects of the proposed rate change. The elasticities and cross-elasticities implied in the possi­ ble customer actions noted above are inappropriate. For example, in cases (c) and (d) above, cross-elasticities are assumed to be infinite, which would imply the same customer reaction regardless of the mag­ nitude of the rate change.42 The elasticities of demand are either 1, 0, or undefinable (where a cross-elasticity is infinite). It is highly improb­ able in any real world situation that firms have elasticities of either exactly 1 or exactly 0 and nowhere in between. Further, even assum-

42 This assumes that the services are perfect substitutes, which would imply that the customer would never be purchasing more than one of the services, unless the services were exactly equal in price. This assumption is patently unreasonable. 66 F.C.C. 2d 42 Federal C'ommunications Commission Reports ing arguendo that these elasticities and cross-elasticities are valid, they are misused. A customer is defined as a billing location, while SIC code and company sales refer to the overall firm. Thus the complaints department, sales department, and manufacturing facility of a single company might be considered to be "similar" customers, and assumed to have similar telecommunications needs when in fact this may not be the case. Also, the number of "similar" customers in each cell in the matrix should be determined only after those customers have reacted to the rate change. Other customers' decisions based on old rates are not relevant to a customer's decision on new rates. 75. In a related area, to be structurally consistent, usage by a cus­ tomer of non-Bell private line services should be treated in a fashion similar to treatment of Bell private lines. This was not done. Instead, usage of non-Bell PL was estimated from shifts to Bell PL and not directly, from WATS, as was the case for Bell PL. Additionally, the outputs of the process for an individual customer are dependent on the selection of arbitrary breakpoints in the categorizing of telecommuni­ cations expenditures. Moreover, if the system is first calculated using customers incurring a rate increase, and if all customers in the data matrix are moved to their new matrix cells, and then the system is rerun with the old rates, none of the customers are likely to shift back to their original cells, because, under the assumptions made, there are more "similar" customers in the cell in which they currently reside than in the cell from which they originated. This apparent major incon­ sistency in the results was not explained. 76. In sum, the filing selects customers, decides that they will over­ react or underreact to the rate change, aggregates the total market reaction, and assumes that appropriate elasticities and cross-elastic­ ities have been taken into account. This analysis does not comply with the WATS Decision for reasons stated above. 77. More importantly for our present purposes, the filing fails to develop probabilistic confidence levels as part of the analytical tech­ niques used to estimate the market effects on Outward WATS of the proposed rate changes. This violates our guidelines in our WATS De­ cision, 59 FCC 2d at 708, 713, and of Section 1.363 of our Rules. Also, the filing makes frequent references to undisclosed studies or analyses which were relied upon in developing the model, or verifying assump­ tions for Outward WATS. See e.g., Justification, Vol. 3, p. 5-22 and p. 5-58. This also violates the guidelines in our WATS Decision which explicitly require that such studies or analyses be included as part of any new WATS filing, 59 FCC 2d at 706. See also AT&T (Hi-Lo), 55 FCC 2d 224, 236-7 (1975). 78. As with Outward WATS, the filing evaluated two approaches to analyze Inward WATS demand. See Justification, Vol. 3, Section 6. It notes that econometric analysis was the generally accepted procedure for studying the market effects of price changes. The filing rejected this approach because of rapid growth in Inward WATS service, the lack of disaggregated data, and the changes in the structure of the rates.43 We further note that the filing attempts to statistically project

48 AT&T does not explain why disaggregated Inward WATS data is not available or what steps it is taking to obtain such data. In any future WATS filing, it must do so. 66 F.C.C. 2d AT&T Company Long Lines Department 43

demand despite these alleged problems. As noted above, AT&T used Bayesian analysis to develop estimates of the market effects of the Outward WATS tariff changes. AT&T did not use Bayesian analysis to study Inward WATS demand in the filing because it stated that it wanted to see how the Bayesian Outward WATS analysis would turn out. 79. Having rejected Bayesian analysis, AT&T turned to "Customer- Oriented Price-Decision Analysis" or "judgment" and arbitrarily chose the numbers it used as weights. See Justification, Vol. 3, p. 6-15. It appears that these "weights" are intended to correspond roughly to elasticities which are applied to particular segments of Inward WATS users (i.e., those getting either rate increases or decreases) to estimate shifts in demand due to the filed tariff.44 None of the particular "weights" chosen was substantiated. In this respect, AT&T claims that the Inward WATS market is "fairly well established" and concludes that more customers would leave the market, given a certain percent rate increase, than would enter the market given the same percent rate decrease. No justification is provided for this assumption. More­ over, it appears to contradict AT&T's earlier statement about the rapid growth in Inward WATS service. We note that this growth has occurred despite certain recent rate increases for Inward WATS ser­ vice since 1973. If the Inward WATS market were truly "established" we would not expect such substantial growth rates, particularly during a period of price increases. Further, since the weights are arbitrarily selected, they could, within reason, imply a substantial range of elastic­ ity of demand with resultant wide variation in projected market quan­ tities. 80. In this tariff filing no attempt was made to analyze cross-elastic­ ity of Inward WATS demand with MTS and private line. This filing claims that these effects were small and that WATS is relatively cross- inelastic.45 This statement is not supported in the filing. Inward WATS customers can switch to MTS operator-handled collect calling.46 Fur­ ther, if a business drops Inward WATS service, then its customers or employees could still utilize various MTS services to call in. Also, based upon our experience, we are sure that a relative change in price may cause some foreign exchange private line customers to switch to In­ ward WATS or vice versa. Indeed, according to AT&T, it has inten­ tionally delayed the effectiveness of certain rate increases for six months for large users, including users of Inward WATS, to permit them to rearrange their communications service mix where appropri­ ate. See supra, n. 2. Thus, AT&T as much as concedes cross-elastic effects in this action. 81. Because the Inward WATS demand data provided with AT&T's WATS filing appears to be essentially unsubstantiated speculation, it fails to meet the minimum requirements for justification as set forth in Docket No. 19989. In particular, reliance is placed on unexplained and

44 The actual weights chosen could imply a stepped demand curve This assumption was not justi fied 45 We note that a service such as Inward WATS could be made inelastic merely by pricing it at such a substantial discount vis a us alternative services that it falls in the inelastic range See our discussion above of Inward WATS as a "like service" to MTS 46 In the next WATS filing we expect a thorough explanation of AT&T's plans with respect to the further implementation of automatic collect calling technology into the public switched network If MTS users are to have this option then Inward WATS will be significantly cross elastic with MTS 66 F C C 2d 44 Federal Communications Commission Reports

unjustified assumptions, multipliers, etc., picked at random to estimate market effects of tariff changes for Inward WATS services in viola­ tion of our WATS Decision. See 59 FCC 2d at 713 (para. 9 of Appendix A in particular). 82. Because of our findings that in this and other previous tariff filings, disaggregated elasticities and cross-elasticities of demand used in setting proposed rates were not justified, we find that it has become necessary to institute some form of tracking process so that we may, at a minimum, compare estimated market effects with actual historical effects. Cf DDS, 62 FCC 2d 774, 779 (1977). We noted this particular deficiency in our WATS Decision, 59 FCC 2d at 713, and this filing fails to respond to this problem. These comparisons of estimated and actual results should prove helpful to both AT&T and the Commission in determining the reasonableness of future elasticities and cross-elastic­ ities of demand proffered in future filings. This tracking process, with the results reported to us periodically, will, at least, isolate the esti­ mated effects on future market quantities of rate changes as well as the total estimated effects of all relevant conditions, including general economic conditions and private line competition, on future market quantities. AT&T will also be directed to perform ex ante studies whereby the actual results of all other conditions are quantified.47 These ex ante results plus the estimated elastic and cross-elastic ef­ fects will then be compared to the actual total operating results. It is the result of this comparison which we shall use, in part, in judging the reasonableness of any elasticities or cross-elasticities offered by AT&T in the future.4* 83. Usage-Network Utilization. In our WATS Decison we spent a considerable amount of effort dealing with usage sensitive pricing is­ sues. See 59 FCC 2d at 694-98, 699-701, 705 and 706. The thrust of our discussion in this area was designed to encourage AT&T to seek a more usage-sensitive rate structure so as to "allow and encourage efficient use of the public switched network." See 59 FCC 2d at 694-98 and 701. Additionally, we required AT&T to supply relevant cost infor­ mation as to rate steps, including tariff usage steps. See 59 FCC 2d at 705-06. 84. In the instant filing AT&T has relied primarily on outputs from its NCS (INC) model to provide cost-by-usage information as well as to set allegedly cost-based rates. As discussed above, we have found AT&T's use of the NCS (INC) model for ratemaking improper because it has not been justified as required in our WATS Decision. Accord­ ingly, we can place little weight on the output from AT&T's NCS (INC) model in evaluating the reasonableness of AT&T's "tapered" rate schedule as it applies to hours of usage. Additionally, AT&T's FDC-7 cost by usage calculations merely reflect allocation to rate steps based upon relative usage (message-minute-miles). This filing also fails to demonstrate peak usage and peak costs as we have di­ rected in our WATS Decision. See our discussion at paras. 87-94 below of peak-off-peak pricing. As noted there, this tariff filing fails to ad­ dress adequately what we feel to be a critical issue for the WATS

47 These ex ante studies shall be done only to the extent AT&T directly took into account other conditions in its initial estimate of total market effects. 4H These results will also prove useful in evaluating the various models used by AT&T in arriving at its various elastic and cross-elastic measures. 66 F.C.C. 2d AT&T Company Long Lines Department 45 services in particular, and public switched services in general—i.e., rate structures designed to allow and encourage efficient use of the public switched network. 85. To encourage AT&T to explore this area in detail, we are setting forth the following avenues of exploration for its consideration These avenues may be considered in conjunction with the study we are order­ ing at paras. 87-94 below with respect to the effect of WATS services on peak hour usage of the switched network. First, in an attempt to develop relevant fully distributed costs for setting rates on the basis of usage, AT&T should consider allocations whereby facilities, invest­ ments, and expenses are isolated into those which are (1) designed to meet and are sensitive to peak demand and, hence, should be allocated on the basis of peak usage, (2) those which are not related only to peak demand but are traffic-sensitive and can be allocated on the basis of total usage, and (3) those which are "fixed" and are unrelated to amount of usage (such as terminal equipment). Additionally, to the extent possible, direct attribution should form the initial basis of allo­ cation among and between the above three categories. Second, econo­ metric estimation of peak and off-peak cost functions may also prove helpful. Third, use of short run marginal costing techniques to isolate peak-off-peak costs may also be useful. Finally, experimental rate structures prepared on a selective basis which are designed to measure empirically changes in demand and facilities required in response to these experimental rate structures, particularly which measure and bill peak and off-peak usage separately, may prove helpful in assessing the effects of the introduction of specific overall usage-sensitive pricing structures for the WATS services. 86. We feel one additional point, raised by several petitioners, needs to be addressed at this point. This concerns the lawfulness of AT&T's proposed tariff provision, Section 3.4.1(B)(3), which requires billing of a WATS group (number of billed access lines) on the basis of the average usage of all lines in the group instead of billing on the basis of the actual usage of each line in the group. See also supra, ns. 3 and 16. The filing claims that billing on the basis of average usage of a group, which in most cases results in higher charges than line-by-line billing, encourages efficient use of WATS access lines. While this may be true under certain circumstances,49 the filing does not address the more fundamental question—that of justification of discriminate treatment of users based upon the number of access lines used in possible viola­ tion of Section 202(a) of the Act, 47 USC 202(a).m The filing fails to demonstrate that this per se discrimination is just and reasonable and does not constitute an unreasonable preference in favor of customers with approximately equal per-line usage. 87. In our Decision in Docket No. 19989, we noted our expectation that Bell would "undertake studies so that the impact of Inward and Outward WATS services and their respective subclasses of services on peak hour usage may be separately evaluated." See 59 FCC 2d at 701, fn. 36. Furthermore, we stated that a "sound regulatory policy should

44 Numerous petitions allege that the effect of the WATS filings, including the averaging of usage across access lines for billing purposes, will be a cutback by customers of the number of access lines they employ, particularly for Inward WATS, with resultant increased busy time and network costs 50 Thus, two customers with identical hours of use on a given line would pay different rates for that line if their average usage of all access lines differs 66 F C C 2d 46 Federal Communications Commission Reports encourage the development of rate structures which, in addition to being compensatory, tend to promote efficiency in the use of the public switched network by allowing and encouraging subscribers to shift usage out of peak periods." See 59 FCC 2d at 701. We further expected Bell to design a rate structure which would aid in reaching this goal. As set forth below we find Bell has not been adequately responsive to these requirements in our WATS Decision. 88. We have had reservations about the peak effects of Outward WATS as long ago as 1961. These were expressed in our earlier 1964 WATS Decision, Docket No. 13914, supra, 37 FCC at 697. Before ad­ dressing the specific content of the peak period cost studies which we expected to be undertaken pursuant to our WATS Decision, and which we are again requiring AT&T to undertake herein, we believe it would be useful to state our major concerns in this area.51 We seek to deter­ mine the manner in which WATS usage affects the costs of the public switched network as a whole. In terms of network utilization two concerns are paramount, the short run objective of efficient utilization of existing network facilities (including both switching and transmis­ sion facilities) and the long run objective of assuring that facility in­ vestment and other costs are no greater than necessary. In terms of cost, the objective of efficient short-run network utilization appears to imply a short-run costing approach. Conversely, efficient investment in additional facilities appears to imply a long-run costing approach. Cer­ tain assumptions must be made, of necessity. Short-run analysis im­ plies invariate capacity. Long-run analysis implies that additional in­ vestment would be necessary. A useful long-run study assumption must be that all existing capacity52 is utilized and only new facilities are used to meet additional demand. We expect Bell to proceed on this assumption but it may offer also other analysis in its study plan. En­ gineering objectives, such as blocking probability, may be taken as constant. 89. In this regard, we must know whether, and if so, to what extent users of the discount WATS service cause additional investment in facilities, i.e., what portion of WATS costs are peak related? It is possible, for example, that WATS usage increases the need for addi­ tional total network capacity which would not be required in the ab­ sence of WATS. Conversely, does the existence of WATS spread out peak usage so as to avoid the need for additional capacity? We must determine if the costs associated with the creation of any required additional capacity are reflected in the proposed WATS rate structure, and if not, how such costs should be reflected. From the supporting data presented in the instant filing, it is impossible to resolve these important questions. See AT&T Opposition, p. 17. For example, we note that AT&T claims its "tapered" rate schedule encourages off-peak usage. This may be true to some extent. However, it is important, among other things, that the initial period charges cover capacity costs

5l Nothing in this discussion should be construed as approval or disapproval of the existing MTS rate structure See Phase II, Docket No 19129, supia 64 FCC 2d at 98 wherein we encouraged AT&T to conduct experiments with various forms of intra business day MTS off peak pricing We expect Bell to consider MTS peak off peak pricing in conjunction with the studies ordered herein The results of these studies should be incorporated into future MTS and WATS tariff filings •^ For the purpose of these studies, we expect that AT&T will define its concept of "capacity" and "fill," as well as other terms of art in unambiguous terms 66 FCC 2d AT&T Company Long Lines Department 47 if the initial usage is expected to occur at the peak. We must have demonstrated to us what costs are incurred by any additional peak demand offered to the network as a result of WATS use at the peak, e.g., what is the total cost of carrying an additional WATS call of typical characteristics during the peak period? There is no evidence offered in this filing on this point. 90. Moreover, the existence of WATS may create still another ef­ fect. If Outward WATS stimulates use of both WATS and MTS ser­ vices, as Bell claims, we must determine the nature and timing of this stimulation, i.e., does it stimulate WATS users to place additional MTS calls at the peak? If this is the case, it would put MTS in the situation of a peak-period back-up to WATS service (i.e., if the WATS lines are occupied, a non-deferrable call is placed via MTS). Thus, under this scenario, a user who is getting a per-minute of use price discount on Outward WATS would still be using MTS at the peak while paying less for his total communications bill than if he subscribed to MTS alone, causing the need for additional investment for MTS—investment which would be allocated to MTS in a cost of service study.M 91. Further, it is clear that both MTS and WATS may contribute to some unknown extent to the total network peak. Although AT&T al­ leges that a queuing effect exists (a WATS user will defer certain calls until the WATS line is vacant), as noted already herein this effect is not isolated and quantified in the filing. It is also unclear, considering the WATS discounts and "stimulation" effects alleged by AT&T, how many of the completed calls are actually deferred calls, and how many consist of usage which would not have occurred in the absence of a WATS service. Finally, AT&T in its development of its usage-related "tapered" rate structure has used average WATS calling characteris­ tics to set rates for certain levels of use. This appears to be an attempt to incorporate expected levels of use into the rate structure. However, this approach begs the question of WATS usage (demand and costs) at the peak. This question must be considered separately from usage during off-peak periods and must be confronted directly in the design of rates. 92. These further views and guidelines are to be considered by Bell in undertaking the required studies of peak demand and costs, with particular application to the WATS services. In terms of network us­ age patterns, a profile of traffic on the public switched network must be provided. In this regard, plots of MTS and WATS usage by time of day should be the starting point. These may be presented individually and aggregated for network clusters (final group and high usage groups overflowing into the final group) and the network as a whole. We recognize that the large number of network clusters may create some difficulty in conducting the analysis and make our evaluation difficult. Therefore, the use of reasonably derived intermediate geo­ graphic groupings or representative samples may be of analytical value and are therefore encouraged as long as all original data relied upon is presented as well. If a sample is undertaken, it must meet the requirements of Section 1.376 of our Rules, 47 CFR § 1.376, as well as

58 Even though the allocation method may be mechanically appropriate, the result could be an unfair burden on MTS service. This effect may be somewhat limited when one considers the economic cross-over point between the price of a number of MTS calls and the lease of an additional WATS line. 66 F.C.C. 2d 48 Federal Communications Commission Reports present relevant statistical measures to ensure that the results are statistically significant. Although one would expect that all Bell ser­ vices contribute to peaks, AT&T should analyze whether and why the MTS and WATS services have coincidental peaks. For the studied peak, we must know what portions are accounted for by WATS and MTS individually. In particular, for the WATS services, an analysis of customer usage by time of day is critical. Generally, we want to deter­ mine if WATS tariff changes can create changes in usage patterns over the day. This means we must know how WATS customers use the public switched network, e.g., is their usage spread evenly throughout the business day or aggregated at peak periods? Further, we need to determine how accentuated the peak is relative to average use and the extent to which institutional factors are related to WATS usage pat­ terns.54 For example, if customers use a WATS line for ten hours, is this use concentrated at the hours when the network traffic is heavi­ est? M More importantly, we must know how sensitive users will be to price changes, particularly those designed to encourage usage away from the network's busiest times. 93. Finally, the usage and cost analyses must be merged. The critical question will be the relationship between demand and investment and the sensitivity of users to price changes. Certain assumptions concern­ ing rates may have to be made. In studying the WATS rate structure in the short-run case, for example, the MTS rate structure could be taken as given. This assumption need not apply in the long-run case. At least in the short run, we should be presented a view of how various WATS rate structures may spread WATS demands on the public switched network. 94. Accordingly, AT&T is ordered to undertake studies of WATS usage and costs at the peak. Our discussion above has focused primar­ ily on Outward WATS. Although we recognize there may be some difficulties encountered in developing study plans and methodologies for Inward WATS, we must, because of the admitted network conges­ tion problem, also require similar studies for Inward WATS service. See WATS, 59 FCC 2d at 701. A schedule and methodology for making such studies must be filed within 30 days of the staff conference to be convened pursuant to this Order (see para. 125). It is conceivable that peak-off-peak rates may eventually be called for, but we reserve judg­ ment on this issue until we have an opportunity to analyze the studies. We reaffirm our policy that WATS rate structures must be consistent with efficient network utilization in both the short- and long-run. This will be a major area of consideration in our evaluation of any existing or future WATS rate structures. 95. Basic Service Philosophy. We shall now consider the WATS fil­ ing in light of our Docket No. 18128 Decision. We find that Bell's ratemaking theory is essentially the same "basic service philosophy" which we have already rejected in Docket No. 18128. We held in Docket No. 18128 that a carrier should not be free to choose any class of service it desires as either the "non-marginal" offering (i.e., basic or residual service which would automatically bear all costs not allocated

54 See Volume 51 of WATS Justification, which is an AT&T customer survey. While this survey does not focus on the matters discussed herein this survey indicates that AT&T has begun steps to gather information on WATS subscribers. 55 An example may be customers using a number of WATS lines in rotary, where one or more are used primarily in high volume periods. 66 F.C.C. 2d AT&T Company Long Lines Department 49

to other services) or "marginal" offering (i.e., service bearing only directly-allocable costs); that we could not approve the resultant arbi­ trary and unlawful loading of residual and other costs on basic service users; and that we could not accept an overall ratemaking philosophy which incorporates such freedom. See 61 FCC 2d at 618, 626-27. Thus, we rejected Bell's particular ratemaking approach which treated the "monopoly" MTS and WATS services as basic services, treated private line services as marginal services, and unreasonably placed residual and otherwise unallocable costs on the basic services. We will discuss Bell's continued use of the "basic service philosophy" in some detail hereinafter because our rejection of such ratemaking philosophy lies at the heart of our Docket No. 18128 Decision. 96. Whereas in Docket No. 18128 Bell treated the interstate public switched network services (MTS and WATS) as the basic or residual services vis-a-vis the interstate "marginal" private line services in the totality of the "interstate enterprise," 61 FCC 2d at 617, as we shall show below in this WATS tariff filing it considers in part MTS as the basic or residual service vis-a-vis the "marginal" WATS services in the totality of the public switched network. Thus, Bell's basic service philosophy appears at two levels, namely, at the level of the interstate enterprise as a whole (MTS and WATS are "basic" services) and at the level of the interstate public switched network (MTS is the "basic" service, WATS the "marginal" service).57 More particularly, Bell in general treats MTS and WATS as residual or basic services of the "interstate enterprise" because interstate costs are initially allocated on an embedded unit cost basis to interstate services other than MTS and WATS, while AT&T assumes the difference, or residual, between these alleged costs and the total costs of the "interstate enterprise" to be the relevant costs for the "public switched network," i.e., MTS and WATS. AT&T then proceeds to allocate certain of the residual costs which are assigned to the "public switched network" to WATS with the remainder being assigned to MTS. Seldom does Bell develop the direct unit costs (actual) of these services independently of the "basic service" concept, as required by our Docket No. 18128 Decision. See, e.g., Vol. 16, Sec. 1, pp. 27, 28, 30, 31 and 32 of Justification, January 1976 General Rate Increase. 97. This residual or basic service approach can be demonstrated by examining how AT&T in its FDC-7 Cost Allocation Manual58 which it has used in part for the WATS filing, proposes to allocate interstate

** Although Bell refers to WATS as "optional" services it is clear that this filing treats WATS services as "marginal" services As discussed at paras 58 59 above, the specific WATS charges in the tapered WATS rate structures are purportedly justified on the basis of the LRIC methodology used to set rates for "marginal" private line services and found unlawful in Docket No 18128 See 61 FCC 2d at 627 33 Further, Bell assumed therein that MTS and WATS were responsible for all interstate costs absent "contributions" by the "marginal" private line services This is akin to the position in this tariff filing that MTS is responsible for all common public switched network or interstate enterprise costs absent "contributions" by the WATS services 57 We note Bell often confuses the two levels in its WATS tariff justification and responsive pleading In its justification, it usually refers to MTS being responsible for "common costs" of the "interstate enterprise" absent "contributions" from "optional" WATS services In its responsive pleading it sometimes states that MTS is responsible for the "common costs" of the interstate "public switched network" absent "contributions" from "optional" WATS services The two terms, "inter state enterprise" and "public switched network," cannot be used interchangeably This confusion only highlights the fact that Bell continues to use the basic service philosophy, which we have found to be improper for ratemaking, on two levels ^ See Manual, pp VI B 5, 6 These examples also apply to the level of the interstate enterprise This Manual has not been "accepted" by the Commission and remains subject to our full scrutiny See Docket No 18128 on reconsideration, FCC 77-385 at para 36 66 FCC 2d 50 Federal Communications Commission Reports

exchange circuit plant, telephone apparatus, telephone connections and large PBXs. For interstate exchange outside plant (OSP) and central office equipment (COE) investments, AT&T directly determines the total interstate private line service dollar amounts using embedded unit costs and subtracts those amounts from total interstate exchange OSP and COE to produce a combined dollar amount, i.e., residual costs of the interstate enterprise, for MTS and WATS. AT&T then deter­ mines the tentative cost54 of Inward and Outward WATS access lines, with the remainder assigned between WATS and MTS based on usage. This approach is likely to result in an improper assignment of part of the direct actual costs of Inward and Outward WATS access lines to MTS service. Telephone apparatus, telephone connections and large PBXs are determined on the same basis as described for exchange circuit plant. Nowhere in the above process has AT&T attempted to determine the direct actual costs associated with MTS as it has appar­ ently done totally for private line services and partially for WATS services. The likely result of such disparate treatment of MTS and WATS is that both services, in particular MTS, are likely to be as­ signed more than their fair share of the total directly attributable to common costs of the interstate enterprise.60 This is contrary to our fundamental holdings in Docket No. 18128. See 61 FCC 2d at 618, 626-27 and 662. 98. Regulation of MTS and WATS on a Combined Basis. To the extent that Bell seeks to have the return levels for the WATS services and MTS service regulated on a combined basis, see paras. 5-9 above, it appears that such request may constitute much more than merely a waiver request within the meaning of Docket No. 18128. We discuss the content of Docket No. 18128 waivers at paras. 105-108 below. This aspect of the ratemaking approach in the WATS filing violates certain basic policies, findings, principles, and guidelines adopted in various Decisions, e.g., Docket Nos. 18128, supra; Hi-Lo, 55 FCC 2d 224 (1975), 58 FCC 2d 368 (1976); DDS, 62 FCC 2d 774 (1977); FCC 77-392, re­ leased June 20, 1977; and WATS, Docket No. 19989, supra. These de­ cisions require carrier accountability for rates for all services, both individually and collectively, and hold in essence that disparate and incongruous ratemaking concepts are unlawful. See Docket No. 18128, 61 FCC 2d at 662. The ratemaking proposal for WATS is contrary to these fundamental holdings because under the theory of ratemaking for WATS and MTS employed, we are asked to treat WATS and MTS in a substantially different manner than other Bell services. In particu­ lar, WATS services are viewed not as individual and separate services, but as mere "optional" services on the public switched network which Bell claims should be regulated on a combined basis with MTS. This approach is inconsistent with our Decision in Docket Nos. 18128 and

6<>See, eg, WATS justification, Vol 32, pp 3-6, for the process of determining a tentative cost Ml The AT&T argument that MTS is not treated as a residual service of the interstate enterprise m response to SPCC's claim, para 39 above, is misleading because the examples Bell cites relate solely to the allocation of certain public snitched neluoik costs between MTS and WATS The examples do not deal with allocation of interstate enterprise costs among Bell services, including WATS and MTS We have shown, at the level of the interstate enterprise, MTS and WATS together are treated as residuals The examples cited m our discussion also demonstrate in other cases (not cited by Bell) that MTS is treated as the residual or basic service of the public switched network Furthermore, we can find no case where WATS is treated as the residual service of the public switched network 66 FCC. 2d AT&T Company Long Lines Department 51

19989. Neither Decision gives the carrier the freedom arbitrarily to aggregate discrete MTS and WATS services into one class of service, i.e., "monopoly service," as is done here. We have already discussed this in connection with Docket No. 19989 at para. 50 above. 99. With respect to Docket No. 18128, Bell asserts that the scope of Docket No. 18128 was limited primarily to private line services and the possibility of cross-subsidization of private line services by monopoly services. See para. 32 above. Thus, it implies that basic Docket No. 18128 findings, principles and guidelines are of limited applicability to MTS and WATS services, if they apply at all. That this view is erro­ neous can be seen by a reading of our Decision. Our Decision made clear that revised FDC Method 7 was to be the standard of ratemak­ ing for all Bell services and that questions of cross-subsidization were to be considered in the context of each Bell service taken individually. See, e.g., 61 FCC 2d at 260 (para. 110), 637-38 (para. 148), 641-42 (para. 159), 651 (para. 187), 661-63 (paras. 219-224 generally), 664-65 (paras. 226-27, 229), 652 (para. 191), 667 (para. 235), and 668 (para. 240). The cited paragraphs speak in terms of allocating the relevant FDC costs to "all" Bell services, considering "overall" impact of tariff filings and cost allocations, or they address the subject of cross-subsidization in the broad context of "all" Bell services. For example, in para. 222, 61 FCC 2d at 662, we stated: In the interest of providing a perspective for the specific guidelines discussed be­ low, we have determined certain appropriate attributes of an overall ratemaking methodology. Heretofore, we have discussed the need for each service to cover its full recorded costs. Additionally, we discussed the attractiveness of determining these costs on historical causation basis (properly updated) in regard to the avoid­ ance of cross-subsidization . . . Inextricably interwoven with the cross-subsidization cost allocation, and ratemaking issues ... is the substantial magnitude of Bell's facilities and facility related costs .... [0]ur first guideline provides for the assign­ ment of all existing facilities to Bell's various services . . . (emphasis added). See also our order on reconsideration in Docket No. 18128, FCC 77-385, released June 13, 1977, at para. 24, where we "emphasize(d) the general applicability of our findings," by stating that "our underlying philosophy extends equally to other extant possibilities of cross-subsi­ dization and to those which would be made possible by further devel­ opment of the industry, restructure of service offerings by regulated carriers, technology changes, or other events. Id. at 638." Thus, our Docket No. 18128 findings, requirements, principles and guidelines are equally applicable to all Bell services. This is also shown in our discus­ sion of the "basic service philosophy" at paras. 85-97 above. Accord­ ingly, the combined treatment of MTS and WATS for costing and ratemaking purposes is not permitted by our WATS and Docket No. 18128 Decisions.61 100. Revised FDC-7 Methodology. As noted previously, our Decision in Docket No. 18128 held that revised FDC-7 was the basic cost stan­ dard to be used in justification of future return levels and rates for each respective Bell service category. We also issued specific guide­ lines for modifying FDC-7 to bring it more in line with our statutory obligations. See 61 FCC 2d at 661-67. Additionally, we specified that

61 Whether, and if so, to what extent these holdings may be subject to waiver can only be decided as a policy matter upon a proper showing as set forth herein of the actual rates and return levels and impact of a WATS tariff designed to earn 9 5 percent See paras 105-108 below and infia, n 68 66 F.C.C 2d 52 Federal Communications Commission Reports

FDC-1, relative use, would be employed as a check on the facilities datum assignment proffered under FDC-7 historical cost causation principles. See 61 FCC 2d at 665. 101. In a Commission letter to AT&T dated November 30, 1976, 62 FCC 2d 771, 772, we specified that FDC-7 should be used in place of FDC-1 as originally specified in our WATS Decision.62 This was done so as to bring the requirements in the WATS Decision in compliance with our Decision in Docket No. 18128 which followed the WATS De­ cision. We also extended the time for filing a lawful WATS Tariff from November 8, 1976 to on or before April 30, 1977, to afford AT&T time to comply with the use of a revised FDC-7 methodology. See 62 FCC 2d at 772. 102. Upon review of the above-mentioned FDC cost of service stud­ ies, we find that, in particular, in the cost of service study for the 12 months ending September 30, 1976, AT&T has for investments merely updated its September 1975 study, which did not employ a revised FDC-7 methodology. For expenses, it has employed a hybrid of old FD7-7 and revised FDC-7 methodologies. As noted herein, the filing acknowledges that in general the September 1976 FDC data was de­ rived from updating its September 1975 study. See Justification, Vol­ ume 32, p. 3-1, Volume 37, p. 3-1, Volume 42, p. 3-1 and Volume 44, p. 3-1. However, the September 1975 FDC study referred to was filed with the Commission prior to our Decision in Docket No. 18128. Thus, because it predates our Decision therein, it is not based upon a revised FDC-7 methodology that was adopted as the standard in our Docket No. 18128 Decision. The filing also admits that certain investment cate­ gories (e.g., directly attributable interexchange plant, exchange and station investment and Plant Under Construction and Plant Held for Future Use) have been allocated on the basis of old FDC-7. See Vol­ ume 32 of Justification, pp. 4-7 and 4-9. While the expense categories used in the present filing appear to follow those specified in the FDC-7 Cost Allocation Manual,63 it is not at all clear that the factors derived to allocate these expense categories follow cost causational principles laid down by this Commission in our Docket No. 18128 De­ cision.64 See Justification, Volume 32, Sections 5 and 6. Specifically, Bell uses for certain expense items, such as Long Lines Operator Wages-Facilities Administration (Acct. 624-22), factors based on allo­ cated investment shares to allocate associated expenses to WATS. As we have found above, AT&T's investment allocations have not fol­ lowed a revised FDC-7 methodology, hence we are unsure how the related expense categories could follow revised FDC-7 allocation pro­ cedures.

62 Therefore, the allegations of Western Union and others that Bell acted improperly by not filing FDC-1 cost studies are without merit MInfia, n 66 M Our concern with AT&T's derivation of various expense factors is motivated by the fact that certain of these factors appear to be dependent upon still other factors For example, general traffic supervision, service observing, as well as various other traffic expenses are allocated to service categories based on the apportionment of operator wages Thus, the effects of an improper allocation on one expense category may be felt m a number of other expense allocations, thereby magnifying the error produced from the original misallocation Hence, we shall expect AT&T to pay particularly close attention to the derivation and justification of the various expense factors employed m all future filings In particular, AT&T should provide the source of information on which relevant factors have been based, justify the use of such information, demonstrate that the information is current and that it is consistent with the expense costs it will allocate Also, AT&T should demon strate that the factors developed and the procedures used to derive such factors best reflect the historical cost causational principles enunciated in our Docket No 18128 Decision 66 F C C 2d AT&T Company Long Lines Department 53

103. We have also found disparate return results for WATS services between cost data supplied in connection with our Docket No. 18128 Decision and the cost data supplied in the WATS filing, both of which are purported to have been developed using the same, revised FDC-7 methodology.ffi In particular, the rates of return for the WATS catego­ ries as indicated by the table show a greater variation between the two filings than can be explained by a mere three-month difference in study periods. Hence, both studies could not have used the same FDC-7 methodology. *

WATS Filing Docket No 18128 Filing 12 Months Ending 12 Months Ending Service Category September 30, 1976 December 30, 1976

IN WATS 112% 12 6% OUT WATS 19 3% 16 6% TOTAL WATS 16 9% 15 4%

Source Vol I, Section 4 of WATS Justification and Volume I, Section 2 of the June 8, 1977 Docket No 18128 filing

104. In conclusion, we find that the FDC studies submitted in pur­ ported compliance with our WATS and Docket No. 18128 Decisions are hybrids of old and new FDC-7 methodologies. What we have here is an inconsistent FDC methodology which is neither old nor revised FDC-7 and, as such, renders it impossible for us to analyze adequately. We find these cost studies not to be in compliance with either the WATS or Docket No. 18128 Decisions. The lack of FDC-7 results by class, subclass, and rate step consistent with our requirements in Docket Nos. 18128 and 19989 prevents us from adequately assessing the lawfulness of the filed WATS rates. 105. Docket No. 18128 Waiver. Although Bell's primary position is that no return level ceiling for WATS services was established in Docket No. 18128, which we consider at paras. 109-10 below, it alleges in the alternative that "to the extent a waiver is required for a rate level in excess of 9.5-10%, such a waiver is justified by the materials submitted in support of the filing . . ." As noted previously, Bell's basic position in support of a waiver is that "[i]f WATS rate levels were to be reduced to yield earnings ratios of 9.5%, there would be a net revenue loss from those services in the range of $350-400 million (on a repriced basis)," which "would have to made up largely by increases in the rates for MTS." AT&T further alleges that "[g]iven the pro­ nounced cross-elasticities between MTS and Outward WATS in par­ ticular, such an increase in MTS rates would cause more MTS traffic to be directed to Outward WATS and could cause another upward spiral in MTS rates." Accordingly, the WATS filing adopts a ratemaking approach wherein it claims we should regulate the return levels for WATS services on a "combined basis" with MTS such that the com-

^The Docket No 18128 filing we refer to was made on June 8, 1977 Pursuant to a staggered schedule, this is the first of several filings to be made pursuant to Docket No 18128 Supia, ns 15 and 32 w' Nothing in this discussion should be construed as acceptance by this Commission of either AT&T's FDC-7 Cost Allocation Manual or its purported Revised FDC-7 Cost of Service filing of June 8, 1977, for the 12 months ending December 1976 Nor are we addressing the question of compliance of the December 1976 studies, filed June 8, 1977, with our Decision in Docket No 18128 66 FCC 2d 54 Federal Communications Commission Reports bined earnings ratio falls within the 9.5-10% range prescribed for the overall interstate rate of return. The filing alleges this ratemaking approach serves the public interest by keeping MTS rates lower. 106. Our Decision in Docket No. 18128 does provide that under spe­ cial circumstances, waivers may be obtained such that particular ser­ vices may earn returns either below or above the overall authorized interstate rate of return. See, e.g., 61 FCC 2d at 663 (para. 223) and 666 (para. 232) and Docket No. 18128 on reconsideration, FCC 77-385 at paras. 25-27, fns. 11, 13 and 14. We find, however, that the filing fails to present grounds to justify the granting of a waiver. 107. Assuming arguendo that the policy underlying this ratemaking theory can be properly considered grounds for a waiver request within the meaning of Docket No. 18128, it contains no documentary material to justify such a request. The sole justification for the request for waiver is the allegation that MTS rates "would have to be" increased to cover a "$350-400 million" WATS revenue shortfall if WATS ser­ vices' rate levels were targeted to earn 9.5%. We have shown at paras. 52-55 above that Bell's assertion of the need for MTS rate increases, if WATS services are targeted to earn 9.5%, is misleading. We are not given the potential WATS rate structures and rate levels, and docu­ mentary support therefor, that would apply if Bell, in fact, targeted WATS services to earn 9.5%. Since Bell predicates WATS rates on non-cost factors, i.e., its combined MTS-WATS return approach, we cannot evaluate any departures from cost-based WATS rates unless we see the full cost-based rates and related data, such as cross-elastic­ ities, to begin with.67 More particularly, we are given no documentation regarding the overall impact, including proper estimates of cost func­ tion changes and cross-elasticity data if Bell, in fact, targeted WATS services to earn 9.5%. Further, we are given no data on the manner in which such WATS changes will affect the demand and return levels of MTS. Where there are several alternatives in pricing WATS in order to achieve a particular return result, as set forth below, they must be provided with sufficient documentation to permit meaningful compari­ sons of such alternatives. See Docket No. 18128, 61 FCC 2d at 661 et seq. and FCC 77-385, paras. 25-27, fns. 11, 13 and 14. 108. In addition to the general requirements already noted, if Bell refiles a WATS tariff based upon its combined MTS/WATS approach, along with a waiver request, it must show alternative schedules of rates and rate structures designed to yield 9.5% (for purposes of mean­ ingful comparison) and must make a complete snowing of the benefits to MTS and WATS users which would accrue from following its pro­ posed course of action, and a demonstration of detriments to MTS and WATS users if such course is not followed. It must not only show revenue effects, but also show changes in the shares of the datum for MTS and WATS services which would occur, if WATS rate structures or rates were designed to yield a 9.5% return. These datum effects

61 As noted at para 49 above, the filing's failure to provide this information violates the policy set forth in, among other decisions, WAT'S, 59 FCC 2d at 678, Docket No 18128, 61 FCC 2d at 612, American Television Relay, 63 FCC 2d 911, 925-26 and 929 (1977), and Docket No 19129, Phaw II, FCC 77-150 at paras 269 and 277, released March 1, 1977, wherein we held that actual costs are the benchmarks from which we measure departures from cost-based pricing ** Of course, a request for waiver is proper only after the deficiencies identified herein, which require rejection of this tariff filing, are corrected Supra, n 61 66 F.C.C. 2d AT&T Company Long Lines Department 55 should be for at least 3 future years, including AT&T's estimate of the experienced use adjusted datum after its next update. Furthermore, AT&T must present all test rate schedules, including all alternative rate structures and rates which it considered in arriving at the sched­ ule it files and its rationale for rejecting others. Price elasticities of demand and cross-elasticities with other services (including individ­ ually and collectively all Bell services and non-Bell private line ser­ vices) must be shown, quantified, and clearly designated as such. AT&T must also document its estimated shifts from MTS to WATS including how the alleged $350-400 million revenue shortfall figure or any other figure was derived. It must further show why adjustments over time (such as those which would be expected in the datum) would fail to ameliorate the alleged shift problem and the resultant differ­ ence between the shares of the costs of the public switched network which are recovered from WATS users and MTS users, respectively. 109. Outward and Inward WATS Return Levels. The most fre­ quently cited ground in the petitions for suspension and hearing, or for rejection, is that the return levels filed for the WATS services violate our Decision in Docket No. 18128. The filed WATS rates are purport­ edly designed to earn a 19% rate of return for Outward WATS service, 11.6% for Inward WATS and 16.9% for total WATS. As described above, the essence of the filing's ratemaking theory is that by setting rate levels of WATS services to yield in excess of the 9.5-10% overall authorized interstate rate of return, MTS users will benefit by having lower rates. In particular, the filing contends that we should regulate the "rate levels" for WATS services on a combined basis with "rate levels" for MTS. It is claimed this will result in greater "contributions" by WATS services "to cover the common costs of the interstate enter­ prise," thereby keeping MTS rates lower. See WATS Justification, Vol. I, pp. 1-3 to 1-7. 110. Assuming arguendo that the filing utilizes an appropriate cost methodology to determine the WATS and MTS return levels specified, the WATS return levels are "clearly excessive" and "indicate the pres­ ence of cross-subsidization" in violation of our specific finding in Docket No. 18128, 61 FCC 2d at 651-52. As set forth in paras. 5-9 above, this tariff filing retains the same WATS return levels which were found "unlawfully high" therein, 61 FCC 2d at 651. AT&T, how­ ever, argues that "the Commission expressly disclaimed requiring in Docket No. 18128 any action on limiting WATS return levels," citing our language, 61 FCC 2d at 651, as follows: Despite the foregoing, we do not require any specific actions be taken respecting WATS' return levels at this time, in view of our recent decision in Docket No. 19989, 59 FCC 2d 671 (1976). In the WATS proceeding we concluded, inter alia, that the existing WATS tariff was illegal insofar as Bell did not attempt to justify its rates on the basis of costs. Indeed, Bell did not provide any cost support for WATS rates. Instead, Bell attempted to show an "alignment" between WATS rates and those of MTS. As a result of the WATS decision, Bell is to file a new tariff together with rate support cost justification by November 8, 1976. Accordingly, it does not appear prudent, in the public interest, to require changes in WATS rate levels at this time. Para. 188, 61 FCC 2d at 651 (footnote omitted, emphasis added by Bell). Bell misinterprets our language and findings in Docket No. 18128. Although we did indicate that we were not taking any action in that Decision to require changes in WATS rate levels, this was only be­ cause we had already ordered AT&T in our Docket No. 19989 Decision 66 F.C.C. 2d 56 Federal Communications Commission Reports

to file "lawful" WATS tariffs with appropriate cost justification prior to the date required for other tariff filings in Docket No. 18128. See WATS, 59 FCC 2d at 708. Further, in a footnote omitted in the above quote, we reiterated our finding that past and present WATS return levels, which include the return levels before us in this tariff filing, were already excessive. We stated in footnote 99 to paragraph 188, 61 FCC 2d at 65, that "it is not clear whether WATS rates should be raised or lowered in order to achieve a proper level of return." (empha­ sis added). This is indicative of our conclusion that the return levels were improper and must be adjusted downward. Moreover, as we have already discussed at para. 99 above, the findings, principles and guide­ lines established in Docket No. 18128 with respect to permissible rates of return and unlawful cross-subsidization are of general applicability to all Bell services, including the WATS services. In any event, our reconsideration order in Docket No. 18128, FCC 77-385, para. 26, re­ quires the filing of rate levels for both WATS services which are targeted to yield an expected return level equal to AT&T's authorized overall return. Under these circumstances, it was incumbent on Bell not to file WATS tariffs which contained the same return levels al­ ready found "clearly excessive" and "unlawfully high" with resultant unlawful cross-subsidization in our Decision in Docket No. 18128. 111. Resale and Sharing of WATS Services and Competition. As set forth at paras. 23-26 above, MCI alleges that AT&T's WATS tariff filing and WATS services themselves are "predatory" and "anticom­ petitive." Basically, it seeks Commission action either ordering AT&T to cease providing WATS services, or action permitting MCI and other specialized carriers to provide WATS-like services. If it cannot provide WATS-like services, and AT&T continues to offer WATS services, MCI requests that resale and sharing of WATS services be permitted. Underlying MCI's position is its belief that because it and other spe­ cialized carriers are not permitted by the Commission's Execunet, SPLS, and SPRINT Decisions, supra, to use common terminating, switching, and distribution facilities of the public switched network in connection with their private- line services, neither should AT&T be permitted to do so in conjunction with its WATS services. 112. MCI's position is without merit. AT&T has sought and is autho­ rized to provide MTS and WATS services in addition to its private line services, but the Commission has held repeatedly that specialized com­ mon carriers, such as MCI, are authorized to provide only private line services. See Specialized Common Carrier, Execunet, SPLS, and SPRINT Decisions, supra. With respect to MCI's request for resale and sharing of WATS services, in our Final Decision in the Resale and Shared Use Inquiry, supra, 60 FCC 2d at 290, we declined to order resale and sharing of WATS services. Although we may reconsider this determination at a later date in a separate proceeding, we are not prepared to do so in the context of this particular tariff filing which we are rejecting in any event. 113. Finally, with respect to MCI's allegations that the WATS tariff filing is "predatory" and "anticompetitive" we agree with AT&T that MCI's allegations in this regard are conclusionary and lack specificity. Thus, we see no need to address MCI's allegations and all of its sug­ gested hearing issues set forth at para. 24 herein. However, we recog­ nize that WATS services, as business services, may be cross-elastic 66 F.C.C. 2d AT&T Company Long Lines Department 57

with both Bell and specialized common carrier private line services. Since cross-elasticities between and among services are generally di­ rectly related to both the rate structure and rate levels chosen, and may therefore be subject to some degree of manipulation, the level of any cross-elastic effect is an indicator in some instances of competitive impact, which, depending on the extent and nature thereof, may justify remedial Commission action.M Our statutory responsibilities require us to consider as part of the public interest standard the antitrust laws and to ensure just, reasonable, and otherwise lawful rates under Sec­ tions 201(b) and 202(a) of the Act. Thus, we are prepared to, and indeed must, consider the competitive and other public interest impli­ cations arising from WATS tariff changes. We wish to stress that our prior references to WATS services as "monopoly" services mean that AT&T and the independent telephone companies are the only carriers presently authorized to offer such interstate services. We do not mean to imply that WATS services and rates therefor are in some manner "protected" from Sections 201(b) and 202(a) of the Act and all that is encompassed in the public interest standard. When Bell refiles WATS tariff revisions in compliance with this Decision we shall examine them consistent with the views stated herein. 114. Rate and Service Integration. As noted previously, WATS ser­ vices in the past have been limited to the contiguous 48 states. In our Memorandum Opinion, Order and Authorization, (Order and Authori­ zation), 61 FCC 2d 380 (1976), affd in part on reconsideration, FCC 77-364, released June 6, 1977, we authorized the institution of telecom­ munications service utilizing the AT&T/GTE Satellite Corporation (GSAT) domestic satellite system, subject to the provision of Outward and Inward WATS services between the U.S. Mainland, on the one hand, and Alaska, Hawaii, Puerto Rico and the U.S. Virgin Islands, on the other hand.70 Our Order and Authorization, 61 FCC 2d at 392, provided that when AT&T filed WATS revisions in compliance with the WATS Decision in Docket No. 19989, it was to also include service to Alaska, Hawaii, Puerto Rico, and the U.S. Virgin Islands in such replacement tariffs. The AT&T tariff revisions, which were filed pur­ suant to waivers granted of Sections 61.38 and 61.58 of our Rules, would permit residents in the contiguous 48 states to make Outward WATS calls to, and receive Inward WATS calls from, residents in the States of Alaska and Hawaii. AT&T's tariff revisions list Hawaiian Telephone Company (HTC) and RCA Alaska Communications, Inc. (RCA. Alascom) as other participating carriers in its tariff. HTC has taken appropriate steps in its Tariff FCC No. 13 to acknowledge its participating role in AT&T's tariff. HTC has also filed tariffs which permit Hawaiian residents to make Outward WATS calls to, and re­ ceive Inward WATS calls from, the other 49 states. See HTC Tariff FCC No. 13, filed April 29, 1977, to be effective on August 1, 1977, Transmittal No. 441. Unlike AT&T's WATS rate structure, which var­ ies WATS rates according to distance (mileage bands and service areas), the rate structure utilized by HTC results in the same averaged

«"•See, eg, DDS, 62 FCC 2d at 809-13, Appendix I 70 See also Rate Integration, 62 FCC 2d 693 (1976), wherein we held that our rate and service integration requirement applies betneen and among Puerto Rico, the U S Virgin Islands, Alaska, Hawaii and the U S Mainland 66 F.C.C. 2d 58 Federal Communications Commission Reports rate for WATS to all U.S. Mainland states and Alaska. RCA Alascom has taken appropriate steps in its Tariff FCC No. 1 to become a par­ ticipating carrier in AT&T's and HTC's tariffs which would permit WATS subscribers in the other 49 states to make Outward WATS calls to, and receive Inward WATS calls from, Alaska residents. See RCA Alascom Tariff FCC No. 1, Transmittal No. 109, filed June 27, 1977, to be effective August 1, 1977. However, RCA Alascom has filed no tar­ iffs which would permit Alaska residents to make Outward WATS calls to, or receive Inward WATS calls from, the other 49 states. RCA Alascom's actions in this latter respect are not in compliance with our orders and the commitments of the various carriers on rate integra­ tion. Therefore, by separate order we shall take appropriate action to ensure RCA Alascom's compliance. 115. In its April 29, 1977 letter, AT&T states that it is not possible to initiate WATS services to and from Puerto Rico and the U.S. Virgin Islands at this time due primarily to the lack of agreement on revenue settlements between AT&T and their correspondent carriers. It also states that certain technical problems remain, although they may be resolved by using temporary arrangements. Thus, AT&T has filed only illustrative tariffs for Outward WATS service to, and Inward WATS service from, Puerto Rico and the U.S. Virgin Islands. The MTS settle­ ment question has now been resolved but, according to AT&T, requires changes to the illustrative tariff. See our Order, FCC 77-367, released June 3, 1977, wherein we accepted the Step I MTS revenue settlement between AT&T and its correspondents. We expect that Bell and all other carriers involved (including HTC, RCA Alascom, All American Cable and Radio, Inc., ITT Communications, Inc.—Virgin Islands, Puerto Rico Telephone Company and Virgin Islands Telephone Corpo­ ration) will file within 30 days of the staff conference convened pursu­ ant to this order their specific plans for implementing WATS services between and among Puerto Rico, the U.S. Virgin Islands, Hawaii, Alaska and the U.S. Mainland. These reports should detail progress already made and the steps to be taken in the future to implement WATS. 116. The State of Hawaii has filed a petition for investigation of HTC's WATS rate structure, and a reply to oppositions to its position, contending primarily that HTC's rate structure should be similar to the kind utilized by AT&T, i.e., a distance sensitive rate structure rather than one averaged rate to reach all points in the other 49 states.71 It also petitions for investigation of AT&T's WATS rate structure because under that structure Hawaii is classified as a sepa­ rate service area (Service Area 4), rather than being classified as a "rate state" and inserted into the appropriate service areas. The effect,

71 The State of Hawaii has also filed a "limited" opposition to the various suspension petitions filed herein, stating that it is in the public interest to allow the Mainland/Hawaii provisions of AT&T and HTC's tariffs, respectively, to go into effect pending determination of the various petitions, including the State of Hawaii's petition for investigation AT&T has filed a motion to strike this pleading alleging that it is an untimely and unauthorized pleading violating Section 1 773 of our Rules, 47 CFR § 1 773 AT&T states that only the carrier, in this case, AT&T may reply to petitions to suspend its tariff AT&T requests an opportunity to comment on the merits of the State of Hawaii pleading if it is allowed AT&T also states that it is considering possible ways and methods to provide WATS services to and from Hawaii if the WATS tariff does not become effective August 1, 1977 We hereby deny AT&T's motion to strike and its request to respond and shall consider herein the merits of the State of Hawaii's pleading 66 FCC 2d AT&T Company Long Lines Department 59 the State of Hawaii claims, is that WATS service to or from Hawaii is always the most expensive and geographically inclusive, regardless of which mainland point from which service in initiated. The State of Hawaii also challenges statements of AT&T and HTC to the effect that "WATS service initiation" is dependent on AT&T and HTC reach­ ing revenue-settlement agreements on Step II of MTS rate integra­ tion.72 The State of Hawaii therefore contends that AT&T and HTC have not complied with the Commission's Policies and Orders pertain­ ing to rate integration and requests investigation of their respective WATS filings in this respect. 117. Both AT&T and HTC have responded to the State of Hawaii's pleading. AT&T argues that its rate structure is appropriate. When complete rate integration of network service is accomplished, AT&T claims Hawaii will be fully incorporated into the service areas designed to cover the contiguous 48 states. It also stresses its view that integra­ tion of WATS services to offshore points must be considered in con­ junction with MTS rate integration. HTC argues that its WATS rate structure is based on relationships with MTS rates, calling character­ istics and patterns, market considerations, available central office equipment, and appropriately reflects rate averaging. HTC further requests separate consideration of its tariff filing from AT&T's, argu­ ing that action in respect to the AT&T offering might affect only rates, while similar action (suspension or rejection) with respect to HTC's filing would effectively deny WATS service to the people of Hawaii. 118. Above, we have detailed the reasons why we believe rejection of AT&T's WATS tariff filing is appropriate. The question remains, however, whether the public interest requires that we exercise our statutory authority to reject only a portion of the tariff such that AT&T's WATS services to and from Alaska and Hawaii may be initi­ ated. We have previously held that such services are in the public interest and must be initiated, Order and Authorization, 61 FCC 2d at 392. The State of Hawaii and HTC both urge that we exercise our authority to insure that such services may be initiated. No technical or other impediment has been shown which would prevent AT&T's offer­ ing of WATS services to and from Alaska and Hawaii and AT&T and its correspondent carriers have previously made commitments to pro­ vide such services. Accordingly, we will reject AT&T's tariff filing except to the extent it initiates for the first time WATS services to and from Alaska and Hawaii.73 AT&T may make further tariff filings to clarify its offering of such WATS services or adjust rates as may be appropriate. We will consider appropriate waivers of the applicable Commission Rules in this respect to permit such filing on short notice. These tariffs applicable to service to and from Alaska and Hawaii would be effective pending AT&T's refiling of WATS tariffs in accord­ ance with this Order or until such time as Bell files a lawful WATS

72 See our Order and Authorization, supra, tor a discussion of the phased implementation of MTS rate integration Step II of MTS rate integration for Alaska and Hawaii was filed on June 15, 1977, AT&T Transmittal No 12769, and became effective on July 1, 1977 Step I for Puerto Rico and the US Virgin Islands also was included in this filing In light of these revenue-settlement agreements and filings, the State of Hawaii's argument is mooted Ti In particular, we shall not reject 21st revised page 4, original page 24 1 and original page 27 1 of the above-captioned Transmittal 66 FCC 2d 60 Federal Communications Commission Reports tariff. In light of our rejection action herein, we need not address the merits of the State of Hawaii's objections to AT&T's rate structure. The paramount concern is that WATS services be initiated to and from Alaska and Hawaii and other off-shore points at the earliest possible date. We expect that AT&T will consider the State of Hawaii's views when it prepares its revised WATS tariff for filing herein. Moreover, the views stated below with respect to HTC's rate structure are also pertinent. 119. In regard to the State of Hawaii's petition to investigate HTC's proposed WATS rate structure for compliance with our rate and ser­ vice integration policy and orders we shall not initiate an investigation at this time. Rate integation of both MTS and WATS services is pro­ ceeding on a phased basis. We think it is in the public interest to complete the phase-in process for MTS and WATS rates before launching an investigation into HTC's WATS rate structure which may only become moot in light of subsequent developments, or may even delay rate integration itself. At such time as Step III of MTS rate integration is completed, and appropriate WATS rate and structure revisions for Alaska and Hawaii are filed in light of Step III (Step II in the case of Puerto Rico and the U.S. Virgin Islands), or, in any event, within 18 months of the release date of this order, the question of overall compliance of MTS and WATS rate structures and rates with our policy and orders can be considered. We stress that WATS services to be offered by either HTC or AT&T must be initiated forth­ with irrespective of the outcome of any pending or future MTS rev­ enue settlement discussions or possible hearings. We also stress again our intention to initiate appropriate procedures to bring RCA Alascom into compliance with our rate integration policy and orders which re­ quire that it initiate WATS services for Alaskan residents. Finally, we are requiring herein the filing of progress reports and plans by all involved carriers for implementation of WATS services between and among all the off-shore points and the U.S. Mainland. Summary and Ordering Clauses 120. We have identified above many independent grounds for rejec­ tion of Bell's WATS tariff filing.74 As noted in the body of our discus­ sion, AT&T's WATS tariff filing violates express findings and tariff filing requirements set forth in our WATS Decision in Docket No. 19989, 59 FCC 2d 671 (1976), in several respects. Particularly, the tariff filing must be rejected on the self-sufficient, independent grounds dis­ cussed in detail above, that: (1) It failed to justify WATS services and rates either separately or as bulk rate MTS offerings as required by the Docket No. 19989 Decision, see para. 50 above; (2) It utilized essentially the same "alignment" approach to justi­ fy WATS services and rates which was rejected by the Com­ mission in Docket No. 19989, see para. 50 above;

74 See RCA American Communications, Inc., 63 FCC 2d 728, 730 (1977) for a summary of case precedent and the grounds under which tariff filings are subject to rejection. In particular, see Municipal light Board v. FPC, 450 F.2d 1341, 1346 (D.C. Cir. 1971) wherein the Court stated that rejection is appropriate where there is a clear demonstration that "the filing is so patently a nullity as a matter of substantive law, that administrative efficiency and justice are furthered by obviating any docket at the threshold . . . ." (emphasis added). 66 F.C.C. 2d AT&T Company Long Lines Department 61 (3) The documentation for the LRIC studies submitted fails to comply with requirements of the Docket No. 19989 Decision, see paras. 56-59 above; (4) The FDC cost data is either out of date or "trended" forward without required new cost studies in contravention of filing requirements in the Docket No. 19989 Decision, see paras. 61-62 above; (5) It fails to justify WATS cost figures and rates by length of haul as required by the Docket No. 19989 Decision, see para. 62 above; (6) The forecasting methodologies, and justification therefor, supplied in the filing to show market effects of the WATS tariff changes do not comply with the Docket No. 19989 De­ cision, see paras. 65-82 above; (7) It includes no justification for the admitted cross-subsidiza­ tion between Outward and Inward WATS services except by a "value of service" argument which on its face does not comply with the Docket No. 19989 Decision, see para. 51 above; (8) It fails to include cost studies of the effects of WATS ser­ vices on peak hour usage of the public switched network and does not show that WATS rate structures encourage efficient use of the network in violation of our Docket No. 19989 De­ cision, see paras. 87-94 above; (9) It includes no FDC cost studies by service subclasses under the proposed tapered WATS rate structures as required in the Docket No. 19989 Decision, see para. 64 above; and (10) To the extent the filing departs from cost-based pricing, it does not provide the Commission a benchmark to measure the departure herein from cost-based pricing. This violates the Docket No. 19989 Decision, see para. 51 above. 121. Rejection of the WATS tariff filing is also required for viola­ tions of specific findings, tariff filing guidelines, and ratemaking prin­ ciples set forth in our Docket No. 18128 Decision. Particularly, the WATS tariff filing must be rejected on the self-sufficient, independent grounds discussed in detail above that: (1) The ratemaking approach used in the filing is the same "basic service philosophy" rejected by the Commission in Docket No. 18128, see paras. 95-97 above; (2) The FDC cost data supplied is either cost of date or "trended" forward without required new cost studies in vio­ lation of filing requirements in the Docket No. 18128 Deci­ sion, see paras. 61-62 above; (3) To the extent that the filing arbitrarily aggregates MTS and WATS services into one class of service and asks us to regu­ late such services as one monopoly service, it violates Docket No. 18128 which requires consistent treatment of all Bell services with respect to cost allocation, permissible returns, and the determination and proscription of cross-subsidization, see paras. 98-99 above; 66 F.C.C. 2d 62 Federal Communications Commission Reports

(4) The FDC cost studies provided herein are deficient and vio­ late our Decision in Docket No. 18128 because no single meth­ odology is used consistently, see paras. 100-104 above; (5) The new WATS rates and rate structure are based on the same LRIC cost methodology rejected in Docket No. 18128, see paras. 56-59 above; (6) The filing violates the basic policies, findings, principles and guidelines adopted in the Docket No. 18128 Decision which holds that disparate and incongruous ratemaking concepts are unlawful, see para. 98 above; (7) There is in the filing no justification for the admitted cross- subsidization between Outward and Inward WATS services except by a "value of service" argument which on its face does not comply with the Decision in Docket No. 18128, see para. 51 above; (8) The filing fails to meet the explicit requirements of the Docket No. 18128 Decision pertaining to the filing of docu­ mentation for waiver requests, see paras. 105-08 above; and (9) The proposed WATS tariffs are based upon the same return levels already found "clearly excessive" in Docket No. 18128, see paras. 109-110 above. 122. Suspension and hearing is clearly not indicated here. We are rejecting the WATS tariff filing on numerous independent grounds which have already been the subject of prior Commission hearings and decisions, as cited in the above discussion. Relitigation of these matters in the context of this tariff filing, particularly when the material filed perpetuates deficiencies in ratemaking documentation and methodolo­ gies already specifically determined in prior decisions after hearings, would be a waste of the resources of both this Commission and other parties. We note, however, that those portions of the WATS filing which initiate WATS services to and from Alaska and Hawaii for the first time are not hereby rejected. 123. To cure the defects cited, Bell is directed to file lawful WATS tariffs in accordance with this Order. In particular, it shall be required to comply with the ordering clauses below. Although the filing includes 52 volumes containing some 16,000 pages of purported justification, we note that there is therein considerable extraneous and redundant ma­ terial. Indeed, much of the purported justification, e.g., the LRIC ma­ terial, which constitutes 22 complete volumes and parts of others, had already been rejected by the Commission in prior Decisions. In our opinion, adequate justification can be provided in much less volume of material. In light of our rejection action, we are unable to make any determinations regarding the handling of pending WATS accounting orders, 59 FCC 2d at 709, and whether refunds are in order. These accounting orders shall remain effective pending further Commission action. 124. Accordingly, IT IS ORDERED, That, for the reasons given herein, AT&T's WATS tariff filing, Transmittal No. 12745, IS RE­ JECTED, except to the extent WATS services are to be initiated to and from points outside the 48 contiguous states:

66 F.C.C. 2d AT&T Company Long Lines Department 63

125. IT IS FURTHER ORDERED, That, within 30 days of the release date of this Order, AT&T shall confer with the Chief, Common Carrier Bureau, to discuss the development of a new WATS filing;75 126. IT IS FURTHER ORDERED, That, within 30 days of the staff conference to be held pursuant to para. 125, AT&T shall submit a proposed schedule for filing a fully-justified and lawful WATS tariff, meeting the requirements specified herein and in prior Commission Orders specified herein; 127. IT IS FURTHER ORDERED, That, Bell shall submit within 30 days of the staff conference to be held pursuant to para. 125, a schedule and methodology for studies of peak hour usage by WATS services in accordance with paras. 87-94 herein; 128. IT IS FURTHER ORDERED, That, within 30 days of the release date of this order, AT&T, HTC, RCA Alascom, All American Cable and Radio, Inc., ITT Communications, Inc.-Virgin Islands, Puerto Rico Telephone Company and Virgin Islands Telephone Corpo­ ration, shall file their specific plans for implementing WATS services between and among the 48 contiguous states, Alaska, Hawaii, Puerto Rico and the U.S. Virgin Islands as required at para. 115 herein;76 129. IT IS FURTHER ORDERED, That, within 90 days of the staff conference to be held pursuant to para. 125, AT&T shall file a proposal for the preparation and filing of the elasticity and cross- elasticities tracking studies discussed in para. 82 herein; 130. IT IS FURTHER ORDERED, That, the various requests filed herein for suspension and investigation, or rejection, of AT&T's WATS tariff filing ARE GRANTED to the extent indicated and otherwise DENIED; 131. IT IS FURTHER ORDERED, That the State of Hawaii's pe­ tition for investigation of the HTC WATS tariff filing IS DENIED, without prejudice to refiling, for reasons given in para. 119 herein; 132. IT IS FURTHER ORDERED, That the effective date of para­ graph 90 of our Decision in Docket No. 19989, 59 FCC 2d 671, 709-10 (1976), which declared the present WATS tariff null and void, IS DE­ FERRED, pending further Commission Order. FEDERAL COMMUNICATIONS COMMISSION,

VINCENT J. MULLINS, Secretary.

SEPARATE STATEMENT OF COMMISSIONER JOSEPH R. FOGARTY In Re: AT&T, Revisions to Wide Area Telecommunications Service (WATS) While I join in the Commission's Decision to reject AT&T's WATS tariff filing for its failure to comply with the previous applicable or­ ders, I am compelled, in candor, to observe that this process of tariff review is grossly inadequate. The staff of this Commission, AT&T, and

75 We instruct the staff of the Common Carrier Bureau to meet with AT&T to provide guidance in developing a new WATS filing 7,1 As noted at para 119 above, at such time as Step III of MTS rate integration for Alaska and Hawaii is completed and appropriate MTS and WATS rates and rate structures are filed in light of Step III (Step II in the case of Puerto Rico and the U S Virgin Islands), or in any event, within 18 months of the release date of this Order, the question of overall compliance of MTS and WATS rates structures and rates with our rate integration policies and orders can be considered

66 F C C 2d 64 Federal Communications Commission Reports the other parties before us have expended substantial time and finan­ cial resources in this proceeding. Yet, the results are frustrating and inconclusive. In fact, our rejection of this tariff is based on 19 separate, independent grounds and leaves us little closer now to a determination as to the lawfulness of WATS service and rates than we were when we initiated this investigation. It is difficult for me to see how the public interest is served by this seemingly endless regulatory meandering. I therefore endorse wholeheartedly the instructions to the staff of the Common Carrier Bureau to meet with AT&T to provide guidance in developing a new WATS filing. I think it essential, however, that the Commission itself exercise more active oversight in these tariff proceedings. I would, in fact, strongly urge that a supervisory Commis­ sioner or committee of Commissioners be designated to oversee these consultations between the Bureau staff and AT&T to ensure the expe­ ditious filing of new WATS tariff schedules in full compliance with the specific requirements of this Order.

66 F.C.C. 2d