Wholesale rates for broadband Internet services are set to change. This month wholesale broadband providers will file new tariff applications in response to a recent CRTC decision announcing changes to the rate-setting process. On March 31, 2016, the CRTC announced changes to how it sets rates for wholesale access to broadband Internet services. In Telecom Decision CRTC 2016-117 (the “Decision”) the CRTC made three key changes:

  • It modified how it sets rates for wholesale broadband Internet services. Going forward, wholesale rates will be the same for all Internet speeds within a given range.
  • It adopted new cost assumptions. The CRTC found that annual traffic growth was 32% annually, and that equipment costs decreased 26.4% annually.
  • It changed the length of the study period for cost studies. New studies will now take a ten-year window into account.

In light of these changes, the CRTC decided that current wholesale rates for broadband services were no longer just and reasonable, and made all currently-approved rates interim until new cost studies are submitted. The CRTC gave wholesale Internet access providers 45 days to submit new tariff applications reflecting the new changes.

Background: How rate-setting works

The CRTC has a mandate to create competition among telecommunications providers. This mandate extends to regulating wholesale prices for Internet access: the CRTC requires that large cable and telephone companies (the “wholesale providers”) who provide broadband Internet services also offer those services at wholesale rates to smaller competitors (the “competitors”), who can then re-sell the Internet services to the public.

In the rate-setting process, among other things, the CRTC decides what “wholesale” actually means. To make sure that the competitors can purchase bandwidth at competitive rates, the CRTC regulates which services the wholesale providers must offer competitors, how much the providers can charge competitors, and how competitors are billed.

  • Which services? Under the “speed-matching requirement”, when wholesale providers introduce new Internet service speeds to their customers, they also have to offer the same speeds to competitors, so that the competitors can offer those rates to their own customers.
  • How much to charge? For each new speed offering, wholesale providers must file a tariff application and a supporting cost study with the CRTC, explaining what it cost them to implement the new offering. The application and study allow the CRTC to determine a fair and equitable wholesale rate that wholesale providers can charge competitors. The CRTC regulates what inputs the wholesale providers are allowed to consider in calculating the cost of implementing a new service, and builds in certain assumptions about how Internet traffic will increase and telecommunications equipment costs will decrease over time. At the time of the Decision, the CRTC assumed that Internet traffic would increase by 20% annually, and that equipment costs would decrease by 10% annually. The CRTC required that cost studies reflect trends over a 10-year period.
  • How to bill? The CRTC also regulates how wholesale providers charge competitors. Since 2011, the CRTC has approved of two billing models: (1) a flat-rate model, where providers charge competitors a single monthly rate per end-user for each speed tier; and (2) a capacity-based model, where providers charge competitors for a set amount of bandwidth each month, plus a monthly “network-access rate” for each speed tier.

Were current rates still accurate?

In the Decision, the CRTC noted concerns from both wholesale providers and competitors about possible flaws in the CRTC’s valuation process. Competitors alleged that the wholesale providers’ actual costs were lower than what the CRTC was allowing them to charge their competitors. The competitors were concerned that the cost parameters and Internet traffic growth assumptions that the CRTC had established in 2011 were no longer appropriate.

Wholesale providers alleged that the requirement to submit a new cost study with each new speed offering created a regulatory burden, since wholesale providers now offer new speed tiers more frequently. Moreover, under the CRTC’s rules a new speed could not be offered to a competitor without a cost study. Since not offering a matching speed to a competitor undermined the CRTC’s mandate to create competition, the CRTC created interim rates for new speed tiers based on the next lowest approved tier. As a result, it was possible that the wholesale rates for new speed tiers were undervalued.

Issues addressed in the Decision

The CRTC addressed the following issues in its decision:

  • Should the cost and rate structure of wholesale broadband Internet service be simplified?
  • Should the CRTC’s cost assumptions about Internet traffic growth and the cost of equipment be modified to reflect current trends?
  • Should the study period be changed from the current ten years to a shorter period?
  • How should wholesale providers price certain types of telecommunications equipment whose value depends on how much traffic flows through them?
  • How should the CRTC determine final rates for services that it had not yet certified?
  • If the CRTC changes its rate-setting process, what should it do about wholesale providers’ current rates?

Simplifying the rate structure

Prior to the Decision, the CRTC used a cost study to determine the appropriate wholesale rate for each new speed offering from a provider. In the Decision, the CRTC considered two new approaches: fixed access and speed-banding:

  • In a fixed access approach, prices would not be based on speed tiers. Instead, one rate would cover all speeds by averaging the overall cost of accessing the entire wholesale service.
  • A speed-banding approach, by contrast, would continue to set access prices based on speed tiers. This approach would have two components: a base “access rate” identical to the fixed access method, and a “speed rate” that would apply to all services speeds within a given range.

The CRTC decided that the status quo approach (i.e. where the rate of each service is based on an associated cost study) was too burdensome to implement and created too much uncertainty, since it required that rates remain interim for extended periods of time. The CRTC also rejected the fixed access approach because it would conflict with the existing flat-rate billing model.

In contrast, the CRTC found that the speed-banding approach could be adopted for both the flat-rate and capacity-based billing models and, as a result, adopted it. Going forward, cost studies will only by required when a wholesale provider introduces a new service speed outside the approved speed-bands or when costs have materially changed. Introducing a new speed within an approved speed-band now requires only a simplified tariff notice application without a supporting cost study.

Cost assumptions, part I: traffic growth

At the time of the Decision, the CRTC set rates based on an assumption that Internet traffic would increase by 20% annually. Several parties argued that annual Internet traffic growth per end-user had actually increased significantly beyond 20%, and as a result a key assumption supporting the wholesale rate cost studies was no longer accurate.

The CRTC agreed. Relying on industry white papers, the CRTC modified the growth rate assumption, finding that it would be reasonable to set the annual busy-hour Internet traffic growth rate for Canada at 32% annually for the purposes of cost studies in support of new service speeds. There was an introductory period of two years in which service providers were to include annual growth rates consistent with historical levels, followed by a 32% per annum growth rate for each of the remaining years of the study period.

Cost assumptions, part II: capital costs

At the time of the Decision, the CRTC also set rates based on an assumption that telecom equipment costs would decrease by 10% annually. The CRTC determined that the price of telecom equipment is decreasing faster in 2016 than it did in when the rates were set in 2011, and accordingly revised its assumptions about rates of price decrease. Going forward, the new decrease rate for annual capital unit costs for traffic-driven equipment will be 26.4%.

Should the study period be changed from the current ten years to a shorter period?

At the time of the Decision, a cost study that a wholesale provider submitted to support a new speed offering was required to take into account a ten-year window. In 2011, the CRTC had decided that adopting a shorter study period would not allow the significant startup costs associated with introducing wholesale broadband Internet services to be spread over a long enough period. However, given that wholesale speed offerings change rapidly, and many service offerings do not have a lifespan of more than five years, the CRTC found that a ten-year study period was no longer appropriate. Rather, a five-year study period would reflect the rapid evolution of Internet technology, more accurately reflect cost and service demand forecasts, and make it possible to update actual costs and traffic usage in a more timely way. Accordingly, effective immediately, cost studies in support of new wholesale offerings must take into account a five-year window.

Pricing traffic-sensitive telecom equipment

The cost model for wholesale HSA services is composed of two broad categories of costs: access costs, which comprise all costs associated with end-users’ access to the network, and usage costs, which comprise the costs incurred in moving data through a wholesale provider’s network. The CRTC recognized that the amount of traffic over the network ultimately determines usage costs: the more traffic increases, the higher the cost. However, wholesale providers and competitors disagreed over whether Internet traffic affects access costs as well as usage costs. Some wholesale providers argued that the distinction between usage and access costs was artificial: their position was that all kinds of telecom equipment are sensitive to usage, whether or not the purpose of the equipment is to facilitate user access to the network or to move data through it.

In making its determination, the CRTC noted that the capacity-based billing model already factors in the effect of traffic on usage-sensitive equipment. As a result, the CRTC found that wholesale providers must still ensure that when calculating the access portion of their cost model, only non-usage sensitive equipment must be accounted for.

What to do about interim rates?

Prior to the Decision, when a wholesale provider offered a new speed tier without an associated cost study, the CRTC assigned interim rates to these offerings rather than prohibit competitors from using them until a cost study could be submitted. The interim rate was set at the price for the next-lowest speed available. Some parties submitted that these interim rates be formalized into final rates. The CRTC disagreed. Instead, the CRTC said that it will include the interim rates in its calculation of speed-band rates. Once the speed-bands are implemented, the same rate will apply to all speed offerings within a given band.

What to do about current wholesale rates?

With the rate-setting process now fundamentally altered, the CRTC announced that all currently-implemented wholesale rates were now no longer considered just and reasonable. As a result, the CRTC made all current wholesale rates interim until wholesale providers submit new tariff applications reflecting the new changes. The CRTC has given wholesale Internet access providers 45 days to submit new tariff applications for banded non-legacy wholesale HSA speeds. The CRTC also directed wholesale Internet access providers that use the capacity-based billing model to file the updated monthly capacity charge per Mbps within 45 days of the Decision.