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Chairman William Kennard of the Federal Communications Commission recently said, “We [the FCC] are not regulating the Internet, and we will not do so as long as I am chairman.” When asked whether the FCC would ever regulate the Internet, Commissioner Susan Ness went so far as to say “The answer to that question is ‘No.’ The long answer is ‘Hell no.’ “ But, much like voters need to evaluate political candidates by their accomplishments, not their campaign promises, regulatory agencies are best judged by their actions, not their public pronouncements. Despite the FCC’s steadfast assertions of its hands-off approach to the Internet, the fact is that this federal agency does regulate Internet services in many ways. The FCC has issued decisions materially and adversely affecting the earnings of Internet service providers (ISPs); it has required merging entities to divest Internet-related holdings; and, the agency has warned computer-services companies that they too may someday be required to “contribute” millions of dollars to the federal Universal Service program. WHEN A LOCAL CALL ISN’T One of the most curious, and perhaps costly, examples of how the FCC has indirectly regulated the Internet was the commission’s determination that telephone calls to ISPs are not “local,” but are interstate, interexchange calls, or what most of us refer to as “long distance” calls. For anyone used to calling a local number to reach their favorite ISP, the FCC’s conclusion would seem to defy common sense. For competitive local exchange carriers (CLECs) and ISPs, however, the decision was far worse: it defied contractual arrangements that had been producing millions in revenues. The Telecommunications Act of 1996 requires incumbent local exchange carriers (ILECs), such as the Bell companies and GTE, to establish “reciprocal compensation” arrangements for the delivery and termination of local calls – the key word being local. When ILECs and CLECs collaborate to complete a call, the reciprocal compensation arrangements ensure compensation both for the originating carrier, which receives payment from the end user, and for the call recipient’s carrier, which also incurs costs related to completing that call. This arrangement presented a very lucrative business opportunity for CLECs, looking to establish themselves as a viable alternative to former monopoly local telephone companies. Many CLECs recruited local ISPs as customers, knowing that most calls placed to ISPs are essentially one-way, terminating at the ISP. The CLECs then signed standard reciprocal compensation agreements with established ILECs, whereby each carrier agreed to pay the other “x” pennies per minute for calls terminating at their networks. The catch was that almost no calls placed to an ISP ever return to an ILEC; and, as your average household with teen-agers can testify, calls placed to ISPs can be lengthy indeed. So, ILECs were contractually bound to pay millions of dollars in termination fees to the CLECs, with little likelihood of ever recovering a dime from them. This quickly became a huge revenue source for CLECs, and a major pain in the purse for ILECs. The ILECs, not surprisingly, complained to the FCC about these calling arrangements, essentially arguing that this was not what Congress intended when it said that only “reciprocal” traffic should be compensated. The FCC might have sided with the ILECs by concluding that calls placed to ISPs are not reciprocal, in that they don’t usually return to the originating party. Instead, the FCC determined that even though callers may dial up ISPs with local phone numbers, those calls are “interstate” because of their potential to be terminated at Web sites located out of state or across the globe. Not surprisingly, many CLECs and their trade associations appealed the FCC’s decision to the U.S. Court of Appeals for the D.C. Circuit. They complained that the FCC’s decision undermined binding contracts, violated federal law, and defied common sense. On March 24, the D.C. Circuit ruled that the agency did not provide a satisfactory explanation as to why local exchange carriers that terminate calls to ISPs are not terminating local telecommunications traffic, and remanded the matter to the commission for further consideration. For its part, the FCC has stated that it believes it can “clarify” its previous decision to the court’s satisfaction, and that it is unlikely to change its mind: Local calls to ISPs will be treated as nonlocal under the Telecom Act. MAKING CARRIERS SPINELESS Another area where the FCC’s very active regulatory policies have had a profound and lasting impact on the Internet has been the commission’s review of telecommunications mergers. Here, the FCC has indirectly dictated who will own the very “backbones” that constitute the Internet. Often in open defiance of many in Congress, the commission in recent years has taken an active role in scrutinizing the mergers of “mega” telecom carriers. Opponents of the FCC’s merger review complain that it’s duplicative, given that the Department of Justice and the Federal Trade Commission have express statutory authority to review such consolidations under federal fair competition and anti-monopolization statutes. Hence, an argument can be made that any FCC involvement in the mergers of Southwestern Bell and Ameritech, BellAtlantic and BellSouth, and MCI WorldCom and Sprint, to name a few examples, is at best superfluous. Notwithstanding its critics, the FCC has routinely played a major role in the approval of mergers, pursuant to sec. 214(a) and sec. 310(d) of the Communications Act. And until Congress tries to reign in the FCC’s statutory authority, that law surely does give the agency jurisdiction to determine whether “the public interest would be served” by the consolidation of numerous telephone lines used in interstate or foreign communications. In the FCC’s estimation of its statutory obligations, it “must weigh the potential public interest harms of the proposed transaction against the potential public interest benefits to ensure that the [carriers] have shown that, on balance, the merger serves the public interest, convenience and necessity.” That the FCC’s authority to review transfers of common carrier facilities has had a profound impact on the Internet is best illustrated by the agency’s handling of the MCI/WorldCom merger. In that case, the FCC expressed concern about the potential for monopolization of Internet backbone facilities by a handful of carriers. In particular, the commission determined that the merger of MCI and WorldCom, which are two of the nation’s largest providers of Internet backbone services, would reduce competition for backbone services. The FCC consequently conditioned its approval of the merger on MCI’s divestiture of certain Internet assets to Cable & Wireless. The FCC’s final order in that matter reflects its somewhat schizophrenic approach to the Internet. Despite having conditioned an approximate $27 billion merger on the divestiture of valuable Internet assets, the commission nevertheless said, “[w]e seek not to regulate the Internet, but rather to ensure that Internet services, which rely on telecommunications transmission capacity, remain competitive, accessible, and devoid of entry barriers.” This purported hands-off regulatory approach to the Internet was presumably of cold comfort to MCI, whose Internet backbone business was essentially eviscerated by regulatory edict. CARRIERS BY ANY OTHER NAME? By now, most people are at least vaguely aware that every time they receive their cellular or long distance telephone bills, they are making involuntary donations to something called the Universal Service fund. In the lengthy and contentious rule-making proceeding to implement the Universal Service provisions of the Telecom Act, the FCC had to determine which telecommunications companies would be required to pay into this fund and which companies were eligible to receive funds. The federal Universal Service program supports a wide array of initiatives, including wiring schools and libraries for Internet access, and subsidizing basic telephone service for low-income people and rural dwellers. ISPs, and even computer hardware and software manufacturers, were interested in the Universal Service proceedings not merely because of the money the program would generate to purchase their products and services. The FCC seriously considered whether ISPs are “telecommunications carriers” and thus subject to mandatory contributions, as a percentage of annual revenues. But the ISPs dodged the proverbial regulatory bullet, as the FCC determined that they should be treated as “information service providers” rather than telecommunications carriers, thereby sparing them Universal Service obligations. As Internet-based telephony increasingly becomes comparable to traditional telephone services, it remains to be seen how long the FCC can avoid treating ISPs just like any old telecommunications carrier. During the Universal Service proceedings, Commissioner Harold Furchtgott-Roth pointedly informed the computer services industry that, as beneficiaries of Universal Service subsidies, they were on a “slippery slope,” noting that “it is unfair to allow an industry to take from a public fund without having the corresponding obligation to contribute to it.” And perhaps hinting at a future regulatory regime, Chairman Kennard likened the relationship between Universal Service and the Internet to “a couple at the beginning of a long-lasting marriage – inevitably there will be occasional signs of tension, but in the end they will always need each other.” WHAT ABOUT CABLE? Another way in which the FCC effectively regulates the Internet is when it elects to do nothing at all. Recent disputes at the local level over ISP access to high-speed, broadband cable networks are a prime example of this. Despite a recent flurry of ordinances by various local governments (e.g., Broward County, Fla., and Portland, Ore.) requiring open access to cable lines, the FCC has chosen not to get involved in this issue for now. While the agency has open access rules that apply to common carriers, it has thus far declined to expand those requirements beyond traditional common carrier functions. The commission has cited “the distinctions Congress drew between cable and common carrier regulation” as its rationale for this hands-off policy, noting that “[u]nder present law, neither cable operators nor common carriers providing cable service, other than on a common carrier basis, are subject to common carrier regulations under Title II of the Communications Act.” For now, although many ISPs would hotly dispute this, the FCC’s position is at least historically defensible. Cable networks are not public monopolies; they are privately owned, video distribution networks. Although they are heavily regulated at the local level, we have not traditionally considered access to ESPN to be on a par with the ability to place a telephone call from one’s home or office. As cable technology rapidly evolves, however, that too may change. Indeed, ISPs have successfully argued at the local level that cable systems are actually better than the local telephone network at delivering Internet service, and that access to speedy cable lines has become as important to everyone as access to the local telephone network. Time will tell – and probably only a short time – whether the FCC must revisit this issue and reach a similar conclusion. WHO RULES THE NET? At least one FCC commissioner, Michael Powell, has acknowledged that his agency is already, at least indirectly, regulating the Internet: “[The Internet] rides on a very sophisticated communications infrastructure, the vast majority of which is squarely within the realm of regulation. And if you don’t believe that regulatory choices . . . have a direct and indirect effect on the development of the Internet, you’re really missing something.” It seems inevitable that the laws of physics will eventually resolve this issue: nature abhors a vacuum. The FCC is the likeliest candidate to fill that void and comprehensively regulate the Internet. Frederick M. Joyce is a partner in the D.C. office of Alston & Bird LLP, whose practice includes telecommunications law and technology transactions. Marianne Roach Casserly is an incoming associate with the firm. The opinions expressed herein are those of the authors.

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