E-rate Reform Order: The Study Guide

Almost two weeks after the FCC adopted new E-rate rules, the order became available to the public. As we wrote earlier, the E-rate rules allocate a significant amount of new funding for wireless connections and further focus the program on improving broadband services in schools and libraries across the country. With the Order out, we finally have some of the details that will affect applicant requests and service provider business models. There is a lot of information packed into the 141 pages of text and rules, so here is a quick study guide, if you will: Funding. First, as reported, the big news is that the FCC will devote an additional $2 billion toward Wi-Fi (and other internal connections), over the next two funding years. The FCC does not – yet, at least – raise the annual E-rate funding cap, which is over $2.4 billion. Instead, the Commission authorized the expenditure of unspent surplus funds from prior years in the amount of $1 billion per year over and above the $2.4 billion cap, for a period of two years. This short-term boost will be targeted to “internal connections,” notably Wi-Fi, but also wired internal connections. The Order does not contain a funding plan for this boost beyond FY15 and FY16, however. In addition, bowing to last minute concern over squeezing funding for broadband services that reach the schools, the $1 billion per year boost of money will be used first toward funding Priority 1 services (since renamed), if needed. If not needed, the full $1 billion will be available for internal connections.

Eligible Services. The Order makes big changes to the services that may be funded. High-capacity broadband – which has always been fundable – will be the focus of the new rules. To free up funding for such broadband services, effective in funding year 2015, the FCC will phase-out or eliminate support for “legacy” and “non-broadband” services, including:

  • telephone service (wired, wireless and VoIP),
  • paging,
  • text messaging,
  • directory assistance,
  • custom calling features, 900/976 blocking,
  • inside wire maintenance,
  • e-mail,
  • voicemail and
  • web-hosting.
Except for voice services, these services are eliminated effective with FY15. Voice services will be phased-out over five years, by reducing the school’s applicable discount rate 20% each year. The increase in ineligible services means that applicants and service providers will be required to conduct cost-allocations on a much more frequent basis. For example, for the time period while wireless services are still supported, service providers will not only have to provide a cost allocation for handsets (thanks to this FCC ruling) but also for text messaging included in the wireless plans.

Finally, wireless data plans and air cards, while not eliminated entirely, are subject to additional scrutiny: A school or library must demonstrate that these services are the most cost effective alternative, taking into account available broadband pricing and other factors. From the Order’s description, it appears that only mobile uses such as library bookmobiles will be considered the most cost effective alternative.

Even with these eliminations, the Order estimates the savings from eliminating services to be only $350 million in the first year. That’s not enough to offset the $1 billion in new money for Wi-Fi. In other words, something else needs to be done to make this a sustainable effort beyond the first two years. Note: The Order essentially maintains the priority funding structure, but renames the groups of services “Category 1” and “Category 2” (instead of Priority 1 and Priority 2).

Discount Rates. For Category 1 services, the existing discount structure is maintained. The Commission will simplify the discount rate, by using a district-wide discount rate and modernizes its definition of “rural” and “urban” areas as used in determining the rates. The Commission also modified its eligibility calculations based on the United States Department of Agriculture’s (USDA) National School Lunch Program (NSLP) to mirror changes in the NSLP program eligibility standards. On balance, we don’t expect these changes to have a significant effect on an individual school or library’s Category 1 discount.

For Category 2 services, the new rules lower the maximum discount rate by five percent, meaning that schools and libraries will be eligible for a maximum discount of 85% rather than the previous 90%.

Competitive Bidding. The Order maintains competitive bidding as the central method for ordering E-rate services, but it makes several important changes to the process. First, starting with FY15 bids, USAC will make available information on the winning prices achieved in the competitive bidding process. (This price information will follow the categories and level of detail currently provided by the Item 21 attachments.)

Second, the Wireline Competition Bureau will be granted authority to designate “preferred master contracts” for Category 2 services. Schools and libraries will be permitted to select a service provider from the preferred master contract without engaging in competitive bidding. Moreover, where competitive bidding is conducted, schools and libraries will be required to consider the preferred master contract rate as if it were one of the bidders in response to the Form 470.

Finally, business class Internet services costing less than $300 per month ($3,600 per year) may be selected without competitive bidding. To qualify, the Internet access service must be commercially available and must meet FCC-prescribed minimum download and upload speeds.

Enforcement Issues. For service providers, one thing to watch will be the FCC’s enforcement of the “lowest corresponding price” (“LCP”) rule. The LCP rule prohibits an E-rate provider from charging an E-rate applicant more than the lowest price that the provider charges a non-residential customer that is similarly situated to the individual school or library that is buying the service. Under the rules, service providers cannot submit bids at prices above their “lowest corresponding price” and they cannot charge applicants a fee above their “lowest corresponding price.” This rule has been in place since the inception of the E-rate program, but enforcement of the rule has been lax. That will change with this order, which clearly signaled the Enforcement Bureau to investigate – and bring enforcement actions – where it learns of a violation of the “LCP” rule. We expect greater attention to LCP issues in audits and independent investigations as a result. (Perhaps the new USF "strike force" will target LCP issues.)

Other Recordkeeping Issues. In a move that (like the LCP issue above) will increase, not decrease, burdens on participants, the FCC increased the record retention period to 10 years from the end of the funding year or the service delivery deadline. This doubles the record retention period, and requires both applicants and service providers to keep many more records than they previously were required to keep. In addition, the Commission mandated that applicants and service providers permit on-premises access to auditors and investigators, upon request.

Finally, the Commission mandates that appeals of initial decisions (which typically are issued by the Schools and Libraries Division) be filed with the USAC Board of Directors first. Only after the USAC Board addresses the appeal may the applicant (or service provider) file an appeal with the FCC. While this provision is sure to delay appeals to the FCC, it is not clear that it will lead to fewer appeals overall.

E-rate 2.1? The Order contains a Further Notice of Proposed Rulemaking (FNPRM) on three principal issues. First, and likely to receive the most attention, the FNPRM asks whether the cap on E-rate expenditures should be raised. No specific increase is proposed, but the concept of raising the cap has already generated strong opposition from the Republican commissioners.

Second, the FNPRM proposes to establish a maximum contract length of 5 years, except for certain infrastructure arrangements, for which a 20 year contract would be authorized.

Finally, the FNPRM proposes rule changes to encourage greater participation in consortia by schools and libraries. The Commission proposes several changes, such as shifting to weighted averages of the eligible discounts for consortia members in order not to penalize high-discount schools or districts that join a consortium. The Commission also proposes to extend an additional discount to a consortium as a means of promoting participation in group buying activities.

There will be much more to digest in the Order as we move forward. As we note additional interesting issues, we will post further in this space.