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IN THE UNITED STATES COURT OF APPEALS
FOR THE FIFTH CIRCUIT
_______________
m 98-60213
_______________
ALENCO COMMUNICATIONS, INC.;
AMANA SOCIETY SERVICE COMPANY;
ARROWHEAD COMMUNICATIONS CORPORATION;
AYERSVILLE TELEPHONE COMPANY;
BARAGA TELEPHONE COMPANY;
BARRY COUNTY TELEPHONE COMPANY;
BAY SPRINGS TELEPHONE COMPANY, INC.;
BENTLEYVILLE TELEPHONE COMPANY;
BENTON RIDGE TELEPHONE COMPANY;
BLOOMINGDALE HOME TELEPHONE COMPANY;
BLUE EARTH VALLEY TELEPHONE COMPANY;
BRUCE TELEPHONE COMPANY;
CASEY MUTUAL TELEPHONE COMPANY; CFW COMMUNICATIONS
COMPANY; CITIZENS TELEPHONE COMPANY OF KECKSBURG;
CITIZENS TELEPHONE COMPANY OF HAMMOND;
CITIZENS TELEPHONE CORPORATION;
CLEMENTS TELEPHONE COMPANY; CLIMAX TELEPHONE COMPANY;
COMMUNITY SERVICE TELEPHONE COMPANY;
CRAIGVILLE TELEPHONE COMPANY, INC.;
CROCKETT TELEPHONE COMPANY; DIXVILLE TELEPHONE COMPANY;
DOYLESTOWN TELEPHONE COMPANY;
DUNBARTON TELEPHONE COMPANY, INC.;
DUNKERTON TELEPHONE COOPERATIVE;
EAGLE VALLEY TELEPHONE COMPANY;
EASTON TELEPHONE COMPANY; ECKLES TELEPHONE COMPANY;
ELKHART TELEPHONE COMPANY;
EUSTIS TELEPHONE EXCHANGE;
FARMERS COOP TELEPHONE COMPANY;
FARMERS MUTUAL TELEPHONE COMPANY-OHIO;

FARMERS MUTUAL TELEPHONE COMPANY-MINNESOTA;
FLAT ROCK MUTUAL TELEPHONE COMPANY;
FORT JENNINGS TELEPHONE COMPANY;
FRONTIER COMMUNICATIONS OF DEPUE;
GEETINGSVILLE TELEPHONE COMPANY, INC.;
GERVAIS TELEPHONE COMPANY;
GRACEBA TOTAL COMMUNICATIONS, INC.;
GRANADA TELEPHONE COMPANY;
GRANBY TELEPHONE & TELEGRAPH COMPANY-MASSACHUSETTS;
GULF TELEPHONE COMPANY; HARTINGTON TELEPHONE COMPANY;
HICKORY TELEPHONE COMPANY;
HINTON TELEPHONE COMPANY OF HINTON, OKLAHOMA, INC.; HOLLIS
TELEPHONE COMPANY;
HOME TELEPHONE COMPANY-NEBRASKA;
HOME TELEPHONE COMPANY-MINNESOTA;
HOT SPRINGS TELEPHONE COMPANY;
HUXLEY COOPERATIVE TELEPHONE COMPANY;
INDIANHEAD TELEPHONE COMPANY;
IRONTON TELEPHONE COMPANY;
JEFFERSON TELEPHONE COMPANY, INC.;
KADOKA TELEPHONE COMPANY; KALEVA TELEPHONE COMPANY;
KALIDA TELEPHONE COMPANY, INC.;
LAUREL HIGHLAND TELEPHONE COMPANY;
LIGONIER TELEPHONE COMPANY;
MANKATO CITIZENS TELEPHONE COMPANY;
MANTI TELEPHONE COMPANY;
MARIANNA & SCENERY HILL TELEPHONE COMPANY;
MARSEILLES TELEPHONE COMPANY;
MCCLURE TELEPHONE COMPANY;
MCDONOUGH TELEPHONE COOP, INC.; MEBTEL COMMUNICATIONS;
MERCHANTS & FARMERS TELEPHONE COMPANY;
METAMORA TELEPHONE COMPANY;
MID CENTURY TELEPHONE COOP, INC.;
MID COMMUNICATIONS TELEPHONE COMPANY;
MID-IOWA TELEPHONE COOP ASSOCIATION;
MIDDLE POINT HOME TELEPHONE COMPANY;
MIDSTATE TELEPHONE COMPANY-NORTH DAKOTA;
2

MIDWEST TELEPHONE COMPANY;
MILES COOPERATIVE TELEPHONE ASSOCIATION;
MILLRY TELEPHONE COMPANY, INC.;
MINFORD TELEPHONE COMPANY, INC.;
MINNESOTA LAKE TELEPHONE COMPANY;
MT. ANGEL TELEPHONE COMPANY;
NATIONAL TELEPHONE OF ALABAMA, INC.;
NEW LISBON TELEPHONE COMPANY;
NORTH-EASTERN PENNSYLVANIA TELEPHONE COMPANY;
NORTH ENGLISH COOP TELEPHONE COMPANY;
NORTHWESTERN INDIANA TELEPHONE COMPANY, INC.;
NOVA TELEPHONE COMPANY; ODIN TELEPHONE EXCHANGE, INC.;
ORWELL TELEPHONE COMPANY; OSAKIS TELEPHONE COMPANY;
PALMERTON TELEPHONE COMPANY;
PANHANDLE TELEPHONE COOP, INC.;
PANORA COOPERATIVE TELEPHONE ASSOCIATION;
PATTERSONVILLE TELEPHONE COMPANY;
PENNSYLVANIA TELEPHONE COMPANY;
PEOPLES MUTUAL TELEPHONE COMPANY;
PEOPLES TELEPHONE COMPANY, INC.;
PIERCE TELEPHONE COMPANY, INC.;
PINE ISLAND TELEPHONE COMPANY; PINNACLE COMMUNICATIONS;
PRAIRIE GROVE TELEPHONE COMPANY;
PYMATUNING INDEPENDENT TELEPHONE COMPANY;
REDWOOD COUNTY TELEPHONE COMPANY;
ROANOKE TELEPHONE COMPANY, INC.;
ROBERTS COUNTY TELEPHONE COOP ASSOCIATION;
RONAN TELEPHONE COMPANY; SCHALLER TELEPHONE COMPANY;
SEARSBORO TELEPHONE COMPANY;
SHELL ROCK TELEPHONE COMPANY;
SOUTH CANAAN TELEPHONE COMPANY;
SOUTHERN MONTANA TELEPHONE COMPANY;
STATE LONG DISTANCE TELEPHONE COMPANY;
STATE TELEPHONE COMPANY;
STAYTON COOPERATIVE TELEPHONE COMPANY;
STOCKHOLM-STRANDBURG TELEPHONE COMPANY;
SUMMIT TELEPHONE COMPANY; SWAYZEE TELEPHONE COMPANY;
3

SYCAMORE TELEPHONE COMPANY;
TRI COUNTY TELEPHONE COMPANY, INDIANA;
TRI-COUNTY TELEPHONE MEMBERSHIP CORPORATION;
VALLEY TELEPHONE COOPERATIVE, INC.;
VAN HORNE COOPERATIVE TELEPHONE COMPANY;
VENUS TELEPHONE CORPORATION;
VOLCANO TELEPHONE COMPANY;
WEST IOWA TELEPHONE COMPANY;
WEST LIBERTY TELEPHONE COMPANY;
WEST SIDE TELEPHONE COMPANY;
WEST SIDE TELEPHONE COMPANY-PENNSYLVANIA;
WEST TENNESSEE TELEPHONE COMPANY, INC.;
WESTERN TELEPHONE COMPANY-SOUTH DAKOTA;
WIKSTROM TELEPHONE COMPANY, INC.;
WILTON TELEPHONE COMPANY-NEW HAMPSHIRE;
YADKIN VALLEY TELEPHONE MEMBERSHIP CORPORATION;
YUKON-WALTZ TELEPHONE COMPANY;
and
UNITED STATES TELEPHONE ASSOCIATION,
Petitioners,
VERSUS
FEDERAL COMMUNICATIONS COMMISSION
and
UNITED STATES OF AMERICA,
Respondents.
_________________________
Petitions for Review of Orders
of the Federal Communications Commission
_________________________
January 25, 2000
4

Before SMITH, WIENER, and
goal of federal telecommunications regulation
EMILIO M. GARZA, Circuit Judges.
since the passage of the Communications Act
of 1934. Indeed, the FCC's very purpose is
JERRY E. SMITH, Circuit Judge:
"to make available, so far as possible, to all the
people of the United States . . . a rapid,
This is a consolidated challenge to two or-
efficient, Nation-wide, and world-wide wire
ders of the Federal Communications Commis-
and communication service with adequate
sion (the "FCC," the "Commission," or the
facilities at reasonable charges." 47 U.S.C. �
"agency")1 promulgated to satisfy the twin
151 (as amended). See also Texas Office of
Congressional mandates articulated in the Tel-
Pub. Util. Counsel v. FCC, 183 F.3d 393,
ecommunications Act of 1996 (the "Act")2 of
405-06 & n.2 (5th Cir. 1999) ("TOPUC"),
providing universal telecommunications ser-
petition for cert. filed (Dec. 23, 1999) (No.
vice in the United States and injecting
99-1072).
competition into the market for local telephone
service. PetitionersSSlocal telephone service
Specifically, the Act requires that universal
providers who serve predominantly small
service support be "explicit and sufficient,"
towns and rural areasSSchallenge the orders as
47 U.S.C. � 254(e), and it articulates several
inconsistent with the statutory requirements of
guiding principles to govern universal
the Act; arbitrary and capricious in violation of
serviceSSincluding, for example, that "access
the Administrative Procedure Act, 5 U.S.C.
. . . be provided in all regions of the Nation . .
� 706(2)(A); violative of the Takings Clause,
. including low-income consumers and those in
U.S. CONST. amend. V; and in noncompliance
rural, insular, and high cost areas," that
with the Regulatory Flexibility Act, 5 U.S.C.
services and rates be "reasonably comparable"
� 604. Having jurisdiction to review the or-
to those offered "in urban areas," that "[a]ll
ders pursuant to 28 U.S.C. � 2342(1) and
providers of telecommunications services . . .
47 U.S.C. � 402(a), we deny the petitions for
make an equitable and nondiscriminatory con-
review.
tribution to the preservation and advancement
of universal service," and that universal service
I. THE STATUTORY MANDATES.
support be "specific" and "predictable," id.
Universal service has been a fundamental
� 254(b)(2)-(5); Order � 21. While the FCC is
required to obey statutory commands, the
guiding principles reflect congressional intent
1 In re: Federal-State Joint Board on Universal
to delegate difficult policy choices to the
Serv.; Report and Order in CC Docket No. 96-45,
Commission's discretion. See TOPUC, 183
12 FCC Rcd. 8776 (1997) ("Order"); Fourth
F.3d at 411-12.3
Order on Reconsideration in CC Docket
No. 96-45; Report and Order in CC Docket
Nos. 96-45, 96-262, 94-1, 91-213, 95-72, 13 FCC
Rcd. 5318 (1997); Errata, 13 FCC Rcd. 2372
3 The Act additionally states that "[i]t shall be
(1998) ("Fourth Reconsideration Order").
the policy of the United States to encourage the
provision of new technologies and services to the
2 Telecommunications Act of 1996, Pub. L.
public." 47 U.S.C. � 157(a). Cf. 47 U.S.C.
No. 104-104, 110 Stat. 56 (to be codified as
� 254(b)(2) (providing that universal service pro-
amended in scattered sections of title 47, United
grams be guided by principle of providing access to
States Code).
(continued...)
5

(...continued)
advanced telecommunications and information ser-
vices in all regions). Petitioners argue that the
orders violate � 157(a).
Unlike the express statutory requirement of suf-
ficient support of universal service support im-
posed by 47 U.S.C. � 254(e), � 157(a) is merely a
broad statement of policy conferring substantial
discretion on the Commission to determine how
best to provide for new technologies and services.
To our knowledge, � 157(a) has never been used to
invalidate an FCC action. We conclude, therefore,
that a universal service program that satisfies the
specific statutory requirements of � 254(e)
necessarily satisfies the broad policy statement of
� 157(a).
6

Alongside the universal service mandate is
has followed in making the transition from
the directive that local telephone markets be
monopolistic to competitive universal service.
opened to competition. See 47 U.S.C. �� 251-
First, rates must be based not on historical,
253; AT&T Corp. v. Iowa Utils. Bd., 525 U.S.
booked costs, but rather on forward-looking
366, 371; TOPUC, 183 F.3d at 406, 412. The
costs. After all, market prices respond to cur-
FCC must see to it that both universal service
rent costs; historical investments, by contrast,
and local competition are realized; one cannot
are sunk costs and thus ignored.
be sacrificed in favor of the other. The
Commission therefore is responsible for
[I]t is current and anticipated cost, rath-
making the changes necessary to its universal
er than historical cost[,] that is relevant
service program to ensure that it survives in
to business decisions to enter markets
the new world of competition.4 Because
and price products. The business
Congress has conferred broad discretion on
manager makes a decision to enter a
the agency to negotiate these dual mandates,
new market by comparing anticipated
courts ought not lightly interfere with its
additional revenues (at a particular
reasoned attempt to achieve both objectives.
price) with anticipated additional costs.
See Chevron U.S.A., Inc. v. Natural Resources
If the expected revenues cover all the
Defense Council, Inc., 467 U.S. 837, 842-44
costs caused by the new product, then a
(1984); 5 U.S.C. � 706(2)(A).
rational business manager has sound
business reasons to enter the new
market. The historical costs associated
II. THE UNIVERSAL SERVICE ORDERS.
with the plant already in place are
The orders under review make various
essentially irrelevant to this decision
changes to universal service deemed necessary
since those costs are `sunk' and
achieve universal service within a competitive
unavoidable and are unaffected by the
environment. We describe the general
new production decision. This factor
principles guiding the Commission's judgment,
may be particularly significant in in-
then detail the provisions specifically at issue
dustries such as telecommunications
in petitioners' various challenges.
which depend heavily on technological
innovation, and in which a firm's ac-
A. COMMISSION PRINCIPLES.
counting, or sunk, costs may have little
To analyze the purpose and effect of the
relation to current pricing decisions.
FCC's numerous regulatory changes to its uni-
versal service program, we find it useful first
MCI Communications Corp. v. American Tel.
to articulate three principles the Commission
& Tel. Corp., 708 F.2d 1081, 1116-17 (7th
Cir. 1983).5
4 See Order �� 1-4, 20 (stating that it "ensure[s]
that this system is sustainable in a competitive
5 See also TOPUC, 183 F.3d at 407 (stating
marketplace, thus ensuring that universal service is
that "the FCC decided to use the `forward-looking'
available at rates that are `just, unreasonable, and
costs to calculate the relevant costs of a carrier
affordable' for all Americans").
(continued...)
7

(...continued)
. . . . To encourage carriers to act efficiently, the
agency would base its calculation on the costs an
efficient carrier would incur (rather than the costs
the incumbent carriers historically have in-
curred)").
8

The FCC additionally defends the orders as
Second, the old regime of implicit
reasonable interim regulations. The shift from
subsidiesSSthat is, "the manipulation of rates
monopoly to competition is indeed dramatic.
for some customers to subsidize more
Congress thus expressly contemplated that the
affordable rates for others"SSmust be phased
Commission would adopt an incremental ap-
out and replaced with explicit universal service
proach to retooling universal service for a
subsidiesSSgovernment grants that cause no
world of competition.6 Because the
distortion to market pricesSSbecause a
provisions under review are
competitive market can bear only the latter.
merely transitional, our review
is especially deferential.7
TOPUC, 183 F.3d at 406.
For obvious reasons, this system of im-
plicit subsidies can work well only under
regulated conditions. In a competitive
environment, a carrier that tries to
subsidize below-cost rates to rural
customers with above-cost rates to
urban customers is vulnerable to a
competitor that offers at-cost rates to
6 It requires the Commission to adopt rules
urban customers. Because opening local
opening the local services market to competition
telephone markets to competition is a
"within 6 months." 47 U.S.C. � 251(d)(1). By
principal objective of the Act, Congress
contrast, the Commission need only adopt rules
establishing a "specific timetable for
recognized that the universal service
implementation" of universal service, and even
system of implicit subsidies would have
then, it has "15 months" to do so. 47 U.S.C. �
to be re-examined.
254(a)(2). See also TOPUC, 183 F.3d at 436
("By instructing the FCC to establish a `timetable
Id. Indeed, the Act requires that all universal
for implementation' by the statutory deadline,
service support be explicit. See 47 U.S.C.
Congress assumed the implementation process
� 254(e).
would occur over a transition period after the
fifteen-month deadline.").
Finally, the program must treat all market
participants equallySSfor example, subsidies
7 See TOPUC, 183 F.3d at 437 ("Where the
must be portableSSso that the market, and not
statutory language does not explicitly command
local or federal government regulators,
otherwise, we defer to the agency's reasonable
determines who shall compete for and deliver
judgment about what will constitute `sufficient'
support during the transition period from one uni-
services to customers. Again, this principle is
versal service system to another."); id. at 440 n.85
made necessary not only by the economic re-
(acknowledging that "we extend the FCC greater
alities of competitive markets but also by stat-
discretion in deciding what will be `sufficient'
ute. See 47 U.S.C. � 214(e)(1) (requiring that
during the transition period"); MCI Telecomm.
all "eligible telecommunications carrier[s] . . .
Corp. v. FCC, 750 F.2d 135, 140 (D.C. Cir. 1984)
shall be eligible to receive universal service
(noting that "substantial deference by courts is
support").
accorded to an agency when the issue concerns
interim relief").
9

B. PROVISIONS.
First, they oppose various
Telephone service is jointly
changes
to
the
universal
provided by two sets of
service support fund for high
carriers. Local exchange
cost loops. Second, before
carriers
("LEC's")
provide
issuing the Order, the FCC
local telephone service in a
allowed certain small,
given geographical calling area
generally rural LEC's to weight
through monopoly networks, or
specially the amount of time
"exchanges," each comprising a
spent
by
their
telephone
series of "local loops" al-
switching equipment on
lowing
for
interconnection
switching long distance calls,
within the exchange.8 Inter-
for purposes of calculating the
exchange carriers ("IXC's")
access charges those LEC's may
provide long distance service
collect from IXC's. The Order
by connecting callers served by
would eliminate this effective
different LEC's; such service
subsidy and replace it with a
is called "exchange access."9
new, explicit support fund.
Petitioners are LEC's serving
1. HIGH-COST LOOPS.
predominantly small towns and
Rural LEC's face special
rural areas.10 Intervenor Bell
obstacles. The cost of
Atlantic, supporting the FCC
providing telephone service
and opposing petitioners, is
varies with population density,
also an LEC. Intervenor MCI is
because dispersed populations
an IXC and also supports the
require longer wires and permit
FCC.
l e s s e r e c o n o m i e s i n
installation,
service,
and
The FCC has established a
maintenance. Also relevant are
number of universal service
geographic characteristics, for
programs involving LEC's and
climate and certain types of
IXC's. The Order implements a
terrain make service calls and
myriad of amendments to bring
repairs more costly. Rural
those programs into compliance
areas where telephone customers
with competition in the LEC
are dispersed and terrain is
market, but petitioners object
unaccommodating are therefore
to amendments to two of them.
the most expensive to serve.
To meet its historic mandate
of universal service, the FCC
8 See 47 U.S.C. � 153(26) (defining "local ex-
has established a universal
change carrier"); 47 U.S.C. � 153(47) (defining
service fund to subsidize high-
"telephone exchange service").
cost rural LEC's to reduce the
rates they must charge their
9 See 47 U.S.C. � 153(16) (defining "exchange
customers. An LEC is eligible
access"); 47 U.S.C. � 153(48) (defining "telephone
for a subsidy if its operating
toll service").
expensesSSits "loop costs"SSare
fifteen percent or more above
10 See 47 U.S.C. � 153(37) (defining "rural
the national average. Loop
telephone company").
10

costs include the costs of the
depreciated cable, wire, and
circuit equipment used to
provide local service, the
depreciation and maintenance
expenses associated with that
local plant, and the corporate
operations expenses related to
the provision of local service.
"Corporate operations ex-
that can be included in the
penses" include the costs
loop cost calculation. The
incurred in formulating
Order allows LEC's to report
corporate policy, providing
corporate operations expenses
overall administration and man-
only up to 115% of the industry
a g e m e n t , a n d h i r i n g
average for LEC's of like size.
accountants, consultants, and
See Order �� 283-285, 307.
lawyers to understand and
comply with FCC, state, and
Third, the Order makes the
local regulations. To de-
subsidy portable, following the
termine the amount of corporate
customer who switches service
operations expense that is
from one LEC to another.
properly chargeable to the pro-
Petitioners claim that
vision of local service (and
portability
violates
the
therefore included in total
principle
of
predictable
loop costs for purposes of
funding. See Order � 311.
determining eligibility for a
Fourth, beginning January 1,
subsidy), an LEC must reduce
2000, the Order imposes an
its total corporate operations
annual inflation index on the
expenses to correspond to the
loop cost eligibility
proportion of its entire plant
benchmarkSSthe minimum amount a
that is local exchange plant.
loop must cost to be awarded a
subsidySSreplacing the former
Petitioners object to a
approach of recalculating a
variety of changes the Order
fresh benchmark periodically,
effects to the administration
based on updated estimates of
of the fund. First, they
industry averages. See Order
oppose the continued imposition
��
300-301;
47 C.F.R. �
of a cap on growth in fund
36.622(d) (1997). Finally, the
expenditures, which cap limits
Order
disallows
additional
total available support to the
universal service support when
previous year's level, adjusted
a rural LEC acquires and
for growth in the number of
upgrades another exchange, see
working loops. See Order
Order � 308, despite
� 302. Second, they object to
petitioners' claim that such
a new cap on the amount of
mergers are efficient and
corporate operations expenses
should be encouraged.
11

The cumulative result of all
those used to switch intrastate
these changes, petitioners say,
calls.
is that the Commission has ren-
dered LEC's unable to earn a
Before the orders under
fair return and has discouraged
review, the FCC allowed certain
f u t u r e i n v e s t m e n t i n
small, generally rural LEC's to
telecommunications, and thereby
weight their DEM totals with a
has acted arbitrarily and
"toll
weighting
factor,"
capriciously and has violated
thereby providing LEC's with a
the Act's sufficient funding
higher cost basis on which
requirement and the Takings
their federal access charge
Clause.
would be based. Petitioners
maintain that the practice of
2. SWITCHING COSTS.
DEM weighting reflects the
IXC's pay "access charges" to
higher cost of switching a long
LEC's for the right to have
distance or "toll" call than
access to an LEC's local
that of switching a local call,
exchange to connect long-
because certain network
distance calls to and from that
functions required by inter-
exchange. Jurisdiction to
exchange
carriersSSsuch
as
regulate access charges is
equal access, intra-LATA toll
shared between federal and
dialing parity, toll screening,
state
governments. To
toll blocking, Signaling System
implement rate-of-return reg-
7 (SS7), expanded carrier
ulation, state and federal
identification codes, and 800
regulators must allocate the
number portabilitySSrequire
costs of operating an LEC
additional central processing
between
the
delivery
of
hardware and software.
intrastate, interexchange
telephone service (which is
The FCC has long held,
regulated by state entities)
however, that the disparity
and the provision of interstate
between intrastate and
service (which is subject to
interstate call switching is a
the FCC's jurisdiction). To
relic of old, electromechanical
determine how the allocations
technology and that modern
are to be made, the agency has
digital switching equipment
promulgated a number of cost
largely eliminates the cost
separation rules.
differential.11 Toll-weighting
The separation rules for
costs associated with
connecting callsSSa process
11 As the Commission stated in 1987,
known as "switching"SSare based
on "dial equipment minutes of
The Mountain States Telephone and
use" ("DEM's"). Under the
Telegraph Company, Northwestern Bell
rules, an LEC divides its total
Telephone Company, Pacific Northwest Bell
DEM's between those used to
Telephone Company (US West), which
switch interstate calls and
originally supported the use of weighted
(continued...)
12

continues today, not out of
First, they claim the Order
adherence to principles of cost
arbitrarily and capriciously
causationSSwhich provide that
a b a n d o n s c o s t - c a u s a t i o n
costs be charged to the source
principles. Second, because it
of the costSSbut rather to
would be financed by all
provide an implicit subsidy for
telecommunications
carriers,
rural LEC's.12
including small LEC's such as
petitioners, the new fund con-
The Order replaces toll-
stitutes an unlawful subsidy by
weighting with a new universal
small LEC's in favor of IXC's
service fund (separate from the
because it effectively saves
fund for high-cost loops). See
IXC's from having to pay for
Order �� 303-304. Petitioners
the more expensive cost of
object for three reasons.
switching their long-distance
calls. Finally, just as they
do with respect to the high-
cost loop fund, petitioners
object on the ground that
(...continued)
portability
violates
the
DEM in its comments, changed its position
principle of predictability and
to support measured DEM in reply
the
statutory
command
of
comments because it believes the ongoing
s u f f i c i e n t f u n d i n g .
process of replacing older technology with
Specifically, they claim that
digital switches will eliminate the need for
if just 25% of the revenue that
any toll weighting. We believe that modern
the FCC has made portable is
digital switching equipment has greatly re-
lost by a typical small LEC,
duced, if not eliminated, the additional cost
the annual rate of return for
of toll switching. . . . [W]e believe that the
interstate access service will,
in many cases, fall to minus
need for toll weighting will continue to di-
10.53%.
minish and will eventually be eliminated as
the exchange carriers continue to replace
III. COMMUNICATIONS ACT AND
older technology equipment with digital
ADMINISTRATIVE PROCEDURE ACT
switches.
CHALLENGES.
Petitioners' main challenge
In the Matter of Amendment of Part 67 of the
is
that
the
orders
are
Commission's Rules and Establishment of a Joint
inconsistent with the statutory
Board, Recommended Decision and Order in CC
mandates of the Act.
Docket No. 80-286, 2 FCC Rcd. 2551, � 49
Therefore, they claim, the
(1987). See also In the Matter of MTS and WATS
orders constitute arbitrary and
Market Structure, Amendments of Part 67 (New
capricious regulation.
Part 36) of the Commission's Rules and
Establishment of a Federal-State Joint Board,
A. STANDARD OF REVIEW.
Report and Order in CC Docket Nos. 78-72,
Courts review agency conduct
80-286, 86-297, 2 FCC Rcd. 2639, � 5 (1987).
in two ways. First, we review
agency interpretation of their
12 See TOPUC, 183 F.3d at 425 (noting "the
statutory authority under the
sorts of implicit subsidies currently used by the
familiar
Chevron
two-step
FCC in its [DEM] weighting program").
13

inquiry. See Chevron, 467 U.S.
step-two, APA arbitrary and
at 842-44.
capricious review is narrow and
deferential, requiring only
Under
step
one,
where
that the agency "articulate[] a
"Congress has directly spoken
rational relationship between
to the precise question at
the facts found and the choice
issue," we must "give effect to
made." Harris, 19 F.3d at 1096
the unambiguously expressed
(quoting Motor Vehicles Mfrs.
intent of Congress," reversing
Ass'n of the United States v.
an agency's interpretation that
State Farm Mut. Auto. Ins. Co.,
does
not
conform
to
the
463 U.S. 29, 43 (1983)).
statute's plain meaning. Id.
"[T]he agency's decision need
at 842-43. Under step two,
not be ideal." Id. Moreover,
which addresses situations in
our review here is especially
which the statute is either
deferential,
because
the
silent or ambiguous, "the
provisions under review are
question for the court is
merely transitional, as
whether the agency's answer is
expressly contemplated by the
based on a permissible con-
Act.13
struction of the statute." Id.
at 843. We reverse only if the
B. ANALYSIS.
agency's construction is "ar-
Petitioners
assert
two
bitrary, capricious or
general themes. First, the
manifestly contrary to the
challenges go directly to the
statute." Id. at 844. If, on
heart of FCC expertiseSSwhether
the other hand, the
the Commission has sufficiently
interpretation "is based on a
and
explicitly
supported
permissible construction of the
universal service in an open,
statute," we defer to the agen-
competitive marketSSand thus
cy's construction.
must
overcome
substantial
judicial deference. Examining
I n a d d i t i o n , t h e
the Act through the lens of
Administrative Procedure Act
Chevron, we note that Congress
("APA") empowers courts to
obviously intended to rely
reverse agency action that is
primarily on FCC discretion,
arbitrary and capricious. See
and not vigorous judicial
5 U.S.C. � 706(2)(A); Harris v.
review, to ensure satisfaction
United States, 19 F.3d 1090
of the Act's dual mandates. As
(5th Cir. 1994). Chevron step-
we noted in a prior challenge
two focuses on the agency's
to an FCC universal service
interpretation of its statutory
regulation,
power, while APA arbitrary-and-
capricious review focuses on
[t]o be sure, the FCC's
the reasonableness of the
reason for adopting this
agency's decision-making
methodology is not just to
process
pursuant
to
that
interpretation. See TOPUC, 183
F.3d at 410. Like Chevron
13 See note 7, supra.
14

preserve universal service.
ensure sufficient funding of
Rather, it is also trying
every local telephone provider
to encourage local
as well.
competition . . . . As
long as it can reasonably
Moreover, excessive funding
argue that the methodology
may
itself
violate
the
will provide sufficient
sufficiency requirements of the
support
for
universal
Act. Because universal service
service, however, it is
is funded by a general pool
free, under the deference
s u b s i d i z e d b y a l l
we afford it under Chevron
t e l e c o m m u n i c a t i o n s
step-two, to adopt a meth-
providersSSand thus indirectly
odology that serves its
by the customersSSexcess
other goal of encouraging
subsidization in some cases may
local competition.
detract from universal service
by causing rates unnecessarily
TOPUC,
183
F.3d
at 412.
to rise, thereby pricing some
Petitioners do not satisfy the
consumers out of the market.
high
evidentiary
standard
necessary to establish that the
1. HIGH-COST LOOPS.
Commission acted arbitrarily
Petitioners fail to show that
and
capriciously
when
it
the FCC's various changes to
produced its interim rules.
the universal service support
fund
for
high-cost
loops
S e c o n d , p e t i t i o n e r s '
unreasonably fails to provide
s u f f i c i e n c y c h a l l e n g e
sufficient funding for
fundamentally misses the goal
universal service or otherwise
of the Act. The Act does not
constitutes an arbitrary and
guarantee all local telephone
capricious regulation under the
service providers a sufficient
Act. First, they object to
return on investment; quite to
the agency's continuation of a
the contrary, it is intended to
cap on growth in the fund,
introduce competition into the
adjusted only for changes in
m a r k e t . C o m p e t i t i o n
the total number of working
necessarily brings the risk
loops. The cap's track record,
that some telephone service
however, reflects a reasonable
providers will be unable to
b a l a n c e b e t w e e n t h e
compete. The Act only promises
Commission's mandate to ensure
universal service, and that is
sufficient support for
a goal that requires sufficient
universal service and the need
funding of customers, not
to combat wasteful spending.
providers. So long as there is
The agency's broad discretion
sufficient and competitively-
to provide sufficient universal
neutral funding to enable all
service funding includes the
customers to receive basic
decision
to
impose
cost
telecommunications
services,
controls to avoid excessive
the FCC has satisfied the Act
expenditures that will detract
and is not further required to
from universal service.
15

Petitioners do not show how the
discretion to impose a cap
FCC has abused that discretion.
rather than to undertake the
more costly alternative of
Second, petitioners object to
intensive auditing.
the introduction of a cap on
the amount of corporate oper-
Petitioners
additionally
ations expenses that may be
claim that the cap on review is
reported to determine
excessively burdensome, driving
eligibility for high-cost loop
interstate rates of return to
support. The Order limits
2.81% for rural LEC's. Even
LEC's to 115% of the industry
assuming that this statistic
average for corporate
proves that customers have
operations expenses accrued by
failed to receive sufficient
carriers of like size. See
universe service support, this
Order �� 283-285, 307.
statistic is based on the
experience of only a single
Petitioners
claim
that
providerSSthe
Bay
Springs
corporate operations expenses
Telephone CompanySSand not a
are already capped and that
statistically valid sample.
there is no need for a second
Petitioners' evidence therefore
cap.14 It is true that, even
does not establish that the cap
before the Order, the amount of
unreasonably fails to provide
reportable corporate operations
sufficient service; at most it
expenses was determined by
presents an anomaly that can be
multiplying an LEC's total
addressed by a request for a
corporate operations expenses
waiver.15
by the percentage of its total
plant that is local exchange
Moreover,
the
statistic
plant. This is no cap,
i g n o r e s t h e F o u r t h
however,
but
rather
a
Reconsideration Order, in which
reasonable method of allocating
the FCC responded to
costs. The proposed 115% rule
petitioners' concerns by, inter
is thus a wholly reasonable
alia, establishing a minimum
exercise of the Commission's
cap of $300,000. See Fourth
legitimate power to combat
Reconsideration Order �� 85-
abusive spending; absent the
109. Petitioners present no
proposed rule, the regulations
evidence disputing the suf-
provide no incentive to keep
ficiency of the currently
costs down. Moreover, given
operative cap.
its legitimate cost concerns,
the agency was well within its
Third, the order provides
that the universal service
subsidy be portable so that it
moves with the customer,
14 See Alltel Corp. v. FCC, 838 F.2d 551, 561
(D.C. Cir. 1988) ("A regulation perfectly
reasonable and appropriate in the face of a given
problem may be highly capricious if that problem
15 See 47 C.F.R. � 1.3; Fourth Reconsideration
does not exist.").
Order �� 93, 102, 108.
16

rather than stay with the
The methodology governing subsidy
incumbent LEC, whenever a
disbursements is plainly stated and made
customer makes the decision to
available to LEC's. What petitioners seek is
switch local service providers.
not merely predictable funding mechanisms,
Petitioners claim that
portability
violates
the
but predictable market outcomes. Indeed,
statutory principle of
what they wish is protection from competition,
predictability, see 47 U.S.C. �
the very antithesis of the Act.
254(b)(5), and the statutory
command of sufficient funding.
To the extent petitioners argue that
Congress recognized the precarious
W e r e i t e r a t e t h a t
competitive positions of rural LEC's, their
predictability is only a prin-
concerns are addressed by 47 U.S.C. � 214(e),
ciple, not a statutory command.
which empowers state commissions to regulate
To satisfy a countervailing
statutory principle, therefore,
entry into rural markets.18 Furthermore,
the FCC may exercise reasoned
portability is not only consistent with
d i s c r e t i o n t o i g n o r e
predictability, but also is dictated by principles
predictability. See TOPUC, 183
of competitive neutrality and the statutory
F.3d at 411-12.
command that universal service support be
spent "only for the provision, maintenance,
Moreover, petitioners cannot
and upgrading of facilities and services for
even show that portability
which the [universal service] support is in-
violates sufficiency or
tended." 47 U.S.C. � 254(e).
predictability. The purpose of
universal service is to benefit
the
customer,
not
the
Fourth, rather than continue to determine
carrier.16 "Sufficient"
the eligibility threshold for high-cost loop sup-
funding of the customer's right
port by recalculating the national average loop
to adequate telephone service
cost, the FCC now simply will adjust the pre-
can be achieved regardless of
viously-calculated national average by an an-
which
carrier
ultimately
nual inflation index. Even assuming, as
receives the subsidy.17
petitioners contend, that inflation adjustments
to historical averages in fact would render
fewer LEC's eligible for universal service
subsidies than would be the case under the
16 See, e.g., 47 U.S.C. � 254(b)(3) (stating that
former approach, petitioners nevertheless fail
"Consumers in all regions of the Nation" shall
to show how this interim approach is
receive comparable telephone service).
unreasonable. Given the eventual transition
17 Petitioners estimate that the introduction of
competition will result in a loss of approximately
25% of the customer base. The FCC counters with
18 See 47 U.S.C. � 254(e)(2) ("Before
historical trends that would predict market share
d e s i g n a t i n g a n a d d i t i o n a l e l i g i b l e
losses of only 3%. Because we conclude that the
telecommunications carrier for an area served by a
sufficiency requirement is intended to benefit the
rural telephone company, the State commission
customer, not the provider, we need not resolve this
shall find that the designation is in the public
particular dispute.
interest.").
17

from historic cost to forward-looking cost, as
they are not an issue for judicial review. For
required by competition, the FCC reasonably
our purposes, a waiver provision is legitimate
concluded that the effort of collecting historic
if the underlying rule is rational, see National
cost data no longer was justified.
Rural Telecomm. Ass'n v. FCC, 988 F.2d 174,
181 (D.C. Cir. 1993), and cannot save a rule
Finally, petitioners claim that sales and
that on its own has no rational basis, see Alltel
transfers of exchanges by rural providers are
Corp, 838 F.2d at 561-62. We therefore can
efficient and ought to be encouraged and sub-
uphold these amendments relating to the high-
sidized. The Order, by contrast, denies
cost loop fund without addressing the wisdom
additional universal service support in cases in
of allowing waivers.
which a rural LEC purchases another
exchange.
2. SWITCHING COSTS.
Petitioners also fail to show that the FCC's
When the permanent rules for universal
various changes to the treatment of switching
access within the context of local competition
equipment costs unreasonably fail to provide
are in place, all exchanges will be governed by
sufficient and explicit funding for universal ser-
uniform rules with respect to universal service
vice or otherwise constitute an arbitrary and
support, without regard to the rural or non-
capricious exercise of agency powers under
rural status of the LEC. In the interim,
the Act. First, petitioners claim that the
however, the rules continue to treat rural and
changes arbitrarily and capriciously abandon
other LEC's differently, in recognition of the
cost-causation principles. They insist on re-
continued greater need of rural LEC's. The
taining special weighting on the assumption
opportunity thus exists for gaming the
that it is in fact more costly to switch long-
different universal service support regimes by
distance calls than local calls. Therefore, un-
transferring ownership to a rural LEC. The
der cost-causative principles, IXC's should
FCC acted within its discretion to combat such
pay higher access charges, because they are
gaming by keying regulatory treatment to an
responsible for a greater proportion of
exchange's original ownership status, without
switching costs.
regard to any subsequent transfer in
ownership.
As we have said, however, the Commission
has long abandoned this assumption. Instead,
The Commission argues that, as a last re-
special weighting has been allowed to continue
sort, the availability of waivers cures its orders
solely to provide an additional subsidy to rural
of any deficiency with respect to sufficiency
LEC's, an interest that would be equally
and predictability.19 Even if the waiver
served by the new universal service support
provisions were debatable as a policy matter,
fund. Indeed, the Order makes plain that the
new fund shall provide support "corresponding
in amount to that generated formerly by DEM
weighting." Order � 303. Moreover, by
19 See 47 C.F.R. � 1.3 (general waiver provision
mandating that all universal service support be
for all FCC regulations); Fourth Reconsideration
"explicit," 47 U.S.C. � 254(e) requires that
Order � 38 (providing for waiver of indexed cap on
growth in high cost loop fund); Id. at �� 93, 102,
this special weighting be eliminated.
108 (providing for waiver of cap on corporate
operations expenses).
18

Petitioners' second objection simply
misconstrues the requirement of "explicit"
funding. They argue that, because the new
fund would be financed by all
telecommunications carriers, including small
LEC's such as petitioners, the new fund
constitutes an unlawful subsidy in favor for
IXC's.
Again, petitioners rest their argument on
the same assumption deemed obsolete by the
FCCSSthat long-distance switching is more
costly than local switching. Even so, we made
clear in TOPUC that the implicit/explicit dis-
tinction turns on the difference between direct
subsidies from support funds and recovery
through access charges and rate structures.
"The statute provides little guidance on wheth-
er `explicit' means `explicit to the consumer'
. . . or `explicit to the carrier' . . . [but it] does
state, however, that all universal service
support should be `explicit.' . . . By forcing
GTE to recover its universal service
contributions from its access charges, the
FCC's interpretation maintains an implicit
subsidy for ILEC's such as GTE." 183 F.3d at
425.
(d). The Commission reasonably applied the
Petitioners thus misconstrue the meaning of
principle of equitable and nondiscriminatory
the explicit funding requirement. The fact that
contribution by requiring contributions from all
the fund is subsidized by contributions from all
telecommunications providers.
telecommunications providers, including
LEC's, does not make it an implicit subsidy
Finally, petitioners object on the ground
under � 254(e), even if it effectively
that portability violates the principle of
r e d i s t r i b u t e s r e s o u r c e s a m o n g
predictability and the statutory command of
telecommunications providers.
sufficient funding. Specifically, they claim
that, if just 25% of the revenue that the FCC
Moreover, � 254(b)(4) requires "[a]ll pro-
has made portable is lost by a typical small
viders of telecommunications services [to]
LEC, the annual rate of return for interstate
make an equitable and nondiscriminatory con-
access service will, in many cases, fall to minus
tribution to the preservation and advancement
10.53%.
of universal service." 47 U.S.C. � 254(b)(4)
(emphasis added); see also 47 U.S.C. � 254-
19

As we have said, the Commission
IV. TAKINGS CHALLENGE.
reasonably construed the predi ctability
Notwithstanding the above analysis,
principle to require only predictable rules that
petitioners request us to read the Act to avoid
govern distribution of the subsidies, and not to
a violation of the Takings Clause. See Edward
require predictable funding amounts. Indeed,
J. DeBartolo Corp. v. Florida Gulf Coast
to construe the predictability principle to
Building & Constr. Trades Council, 485 U.S.
require the latter would amount to protection
568, 575 (1988). We see no reason to invoke
from competition and thereby would run
the canon of avoidance, however, because we
contrary to one of the primary purposes of the
are simply not presented with a constitutional
Act.
violation.
Moreover, petitioners' approach to the pre-
The Fifth Amendment protects utilities
dictability principle would prohibit also the
from regulations that are "so unjust as to be
current subsidy effect of weighting switching
confiscatory." Duquesne Light Co. v. Bar-
costs. Under the current plan, LEC's receive
asch, 488 U.S. 299, 307 (1989). Petitioners
the subsidy implicitly through access
therefore must show that a regulation will
chargesSScosts that are realized only when
"jeopardize the financial integrity of the
customers make telephone calls. The old sys-
companies, either by leaving them insufficient
tem of implicit subsidies is no less portable
operating capital or by impeding their ability to
than is the explicit subsidies contemplated by
raise future capital," or they must demonstrate
the new fund, for an LEC cannot assess access
that the reduced subsidies "are inadequate to
charges against IXC's for the costs of a
compensate current equity holders for the risk
customer who has left that LEC for another
associated with their investments under a mod-
provider. We therefore uphold the Order over
ified prudent investment scheme." Duquesne,
petitioners' APA and Chevron challenges.
488 U.S. at 312.
It is not enough that a party merely
speculates that a government action will cause
it harm. Rather, a taking must "`necessarily'
result from the regulatory actions." TOPUC,
183 F.3d at 437 (citing United States v.
Riverside Bayview Homes, 474 U.S. 121, 128
n.5 (1985)). Such a showing cannot be made
here "until the administrative agency has
arrived at a final, definitive position regarding
how it will apply the regulations at issue to the
particular [property right] in question."
Williamson County Regional Planning
Comm'n v. Hamilton Bank, 473 U.S. 172, 191
(1985).
At the very least, therefore, petitioners
must wait to experience the actual
20

consequences of the Order before a court may
even begin to consider whether the FCC has
5 U.S.C. � 604(a)(5). In 1996, Congress
effected a constitutional taking. Until it is
provided for judicial review of agency
known what level of universal service funding
compliance with the RFA. See 5 U.S.C. �
each petitioner will receive under the Order,
611(a)(1). We review only to determine
and under what circumstances the Commission
whether an agency has made a "reasonable,
will grant a waiver, we cannot seriously
good-faith effort" to carry out the mandate of
entertain a Takings Clause challenge.
the RFA. Associated Fisheries, Inc. v. Daley,
127 F.3d 104, 114 (1st Cir. 1997).
Furthermore, petitioners do not present
credible evidence that the Order ever will
Petitioners' RFA argument amounts to little
cause the drastic consequences for rural LEC's
more than a redressing of its earlier Chevron
articulated in Duquesne. The mere fact that,
and APA claims. The RFA is a procedural
"[f]or many rural carriers, universal service
rather than substantive agency mandate, to be
support provides a large share of the carriers'
sure,20 but petitioners fail to articulate specific
revenues," Order � 294, is not enough to
procedural flaws in the FCC's promulgation of
establish that the orders constitute a taking.
the orders. In fact, both orders are
The Fifth Amendment protects against takings;
accompanied by substantial discussion and
it does not confer a constitutional right to gov-
deliberation, including consideration and
ernment-subsidized profits. The Takings
reasoned rejection of significant alternatives
Clause thus erects no barrier to our Chevron
which, in the Commission's judgment, would
and APA analysis.
not have achieved with equivalent success its
twin statutory mandates of universal service
V. REGULATORY FLEXIBILITY ACT
and local competition. The RFA requires no
CHALLENGE.
more.21
Under the Regulatory Flexibility Act
("RFA"), final agency rules must contain a
Petitioners come closest to stating a merito-
"final regulatory flexibility analysis" ("FRFA"),
rious procedural objection when they assert
5 U.S.C. � 604(a), which must include
that the FCC failed either to undertake or to
present economic analysis. Even assuming
a description of the steps the agency has
that that were so, the RFA plainly does not re-
taken to minimize the significant
quire economic analysis, but mandates only
economic impact on small entities
that the agency describe the steps it took "to
consistent with the stated objectives of
applicable statutes, including a statement
of the factual, policy, and legal reasons
20 See Associated Fisheries, 127 F.3d at 114
for selecting the alternative adopted in
(stating that "section 604 does not command an
the final rule and why each one of the
agency to take specific substantive measures, but,
rather, only to give explicit consideration to less
other significant alternatives to the rule
onerous options").
considered by the agency which affect
the impact on small entities was re-
21 See Associated Fisheries, 127 F.3d at 115
jected.
(noting that "section 604 does not require that an
FRFA address every alternative, but only that it
address significant ones.").
21

minimize the significant economic impact on
competition in local markets. They do not
small entities consistent with the stated
effect a cognizable, unconstitutional taking.
objectives of applicable statutes." 5 U.S.C. �
And they were promulgated in reasonable
604(a)(5).
compliance with the requirements of the RFA.
We therefore DENY the petitions for review.
The RFA specifically requires "a statement
of the factual, policy, and legal reasons for se-
Judge WIENER concurs in the judgment
lecting the alternative adopted in the final
only.
rule." Id. Nowhere does it require, however,
cost-benefit analysis or economic modeling.
Indeed, the RFA expressly states that, "[i]n
complying with [section 604], an agency may
provide either a quantifiable or numerical de-
scription of the effects of a proposed rule or
alternatives to the proposed rule, or more
general descriptive statements if quantification
is not practicable or reliable." 5 U.S.C.
� 607.22 We therefore conclude that the FCC
reasonably complied with the requirements of
the RFA.
CONCLUSION.
Petitioners' various challenges fail because
they fundamentally misunderstand a primary
purpose of the Communications ActSSto her-
ald and realize a new era of competition in the
market for local telephone service while
continuing to pursue the goal of universal
service. They therefore confuse the
requirement of sufficient support for universal
service within a market in which telephone
service providers compete for customers,
which federal law mandates, with a guarantee
of economic success for all providers, a
guarantee that conflicts with competition.
The FCC interim orders are reasonably tai-
lored to achieving universal service and
22 See also Associated Fisheries, 127 F.3d
at 115 ("Section 604 prescribes the content of an
FRFA, but it does not demand a particular mode of
presentation.").
22