Solve the Digital Divide by Halting Billions in Cross-Subsidies: Verizon NY 2019 Annual Report

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Excerpt of the Verizon New York 2019 Annual Report

We estimate that Verizon NY Local Service was overcharged an estimated $1.1-$1.6 billion, in just 2019, for just three expense items; Construction & Maintenance, Corporate Operations expenses and Marketing. (This is the low number.) Nationwide, this equates to Local Service being overcharged in America an estimated $16-$23 billion in just 2019.

This is PART 1:

READ THE FULL REPORT

Want to know why there is a Digital Divide or how to fund a fiber optic-to the-home future, even in rural areas, without government subsidies and handouts?

The above is an excerpt from the Verizon NY 2019 Annual Report which was published on June 8th, 2020.

Verizon NY is NY State’s (which includes NY City) primary public telecommunications utility, just like other state-based utilities, such as water, gas or electric. We will be referencing the excerpt above, taken directly from the Verizon supplied report, page 25. (It has been simplified for this discussion, but nothing was changed.)

We will go through our calculations based on this Verizon NY 2019 Annual Report and the previous 5 years, as well as using this as a model for the rest of America.

Follow the Money: The Basics in the Era of the Pandemic

First, virtually no one knows that there are still state telecommunications utilities in every state and virtually no one has actually examined the financial books — the revenues and expenses. Yet, it is now more critical and relevant than ever because the pandemic has exposed that there are massive holes in broadband deployment, mostly impacting low income urban areas as well as rural areas.

Moreover, these networks are not just the legacy copper wires, but also include almost all of Verizon’s fiber optic wires, such as the Fiber to the Premises, FTTP, wires used for FiOS, as well as the fiber going to the cell sites or to the ATM machines.

But, also unknown is the fact that over the last decade, these public telecom utilities have been and are continuing to be dismantled — and it has been done through the manipulation of the FCC’s cost accounting rules. These federal accounting formulas have been applied to the state utility financials and were supposed to divide up the costs to the different lines of business fairly to protect the utility phone customers. Instead, they now make the entire wired infrastructure of America appear unprofitable by diverting the majority of expenses into one category — basic wired local service.

More surprising, New York appears to be the only state that still requires and makes public the state-based incumbent telecommunications utility financials. The last available data from the FCC for America was for the year 2007.

Putting this Report and Next Steps in Context

Unfortunately, Verizon has been slowly removing (“redacting”) information from these financial reports. The IRREGULATORS and New Networks Institute filed to block this removal of basic information and we are now calling for investigations.

  • On March 13th, 2020, IRREGULATORS v FCC, was a win for the American public. The IRREGULATORS had filed since 2015 to have the FCC fix their accounting or acknowledge, in writing, that they do not apply — or that there were no other ‘strings attached’. The DC Court of Appeals made it clear that the states are now independent to devise a new set of accounting requirements and not use the FCC’s formulas.
  • On June 8th, 2020, Verizon also filed a Motion with the NY Public Service Commission to hide, (they call it ‘redact’), basic financial and business data.
  • On June 30th, 2020, the IRREGULATORS filed comments to block Verizon NY’s Motion and are now calling for investigations.

We summarized our filing and detailed what was redacted and why it matters:

The 5G Wireless & WiFi Knee-Jerk Reaction: The immediacy of solving the newly-exposed Digital Divide — and the uncertain future of families being stuck at home — has now generated knee-jerk reactions to roll out wireless and WiFi even though these statements never mention or examine that wireless requires fiber optic wires and it is not profitable once the costs of the fiber optic wires required for these services are incorporated; it is like giving a heart attack patient some aspirin and a band-aid, vs fixing the underlying problems. But the subplot has been that Verizon et al. have been force-feeding wireless because it makes them more money, not because it is better for the communities they serve.

1) Summary: The State Telecommunications Utility Financial Reports

Using the opening chart, (based on Page 25 in the PDF reader), let us go through it by the numbers. (We removed some columns and line items for simplicity.)

The Line Items are Numbered:

1) Verizon NY and the state telecommunications utilities have traditionally used 3 primary lines of business, which were established as part of the FCC’s “USOA”, “Uniform System of Accounts”. Going back to the opening chart:

  • “Local Service”: (“NY State”, Column F) are the “intrastate” revenues. These are mainly the copper-based basic residential and business local phone service.
  • “Backhaul”: (“Other”, Column G) are also called “Special Access” and “Business Data Services”. These can be the wires to the bank ATM machines and data services or they can be the fiber optic wires to the cell sites and 5G.
  • “Nonregulated” services (“Column C”) is a catchall for VoIP or FiOS video, and other services that were never regulated.

Highlights of the Findings: (rounded)

2) Total Operating Revenues: Verizon NY had $4.1 billion in revenues, (2B) with Backhaul having the majority at $1.9 billion, (2G) followed by Nonregulated with $1.2 billion (2C) and Local Service at $864 million (2F).

§ NOTE: Local Service is 21% revenues; Backhaul 48%; Nonregulated is 31%.

3) Construction & Maintenance (known as “Plant” and “Plant Non-Specific”) shows that Local Service was charged $1.2 billion, (3F) while Backhaul only paid $606 million (3G).

§ (Expenses to maintain the existing wired network or to upgrade them to fiber.)

4) Marketing: Local Service paid 54% of this expense, $205 million (4F); Verizon stopped selling Local Service in many parts of the country. Nonregulated paid less than 15%, (4C) but that is FiOS video and VoIP.

§ (Expenses incurred with the selling of products and services.)

5) Corporate Operations Expense: (Sometimes called “General and Administrative”) Local Service is paying $507 million (5F) in Corporate Operations expenses, 61% of the total, while Backhaul paid only $243 million (5G), 29%; Nonregulated is only paying 10% (5C).

§ (Everything from executive pay, lawyers, lobbyists, or the corporate jets.)

6) Net Operating Revenues: Backhaul has $528 million in profits (6G) while Local Service shows a loss of $1.9 billion (6F).

§ (These are the “profits” after most of the expenses have been paid.)

This, of course, makes no sense. Local Service, with $864 million in revenues, ended up paying $1.2 billion in Construction and Maintenance, over $507 million in Corporate Operations expense and over $205 million in Marketing — over $1.9 billion in expenses, which is more than double the revenues, (126%) and almost none of these expenses are related to offering local service.

7) Profit Margin: Backhaul’s “EBITDA”, “Earnings Before Taxes, Depreciation and Amortization” is 55% — (Calculated from ‘Column G’, “Subtotal” divided by “Revenues”.)

Local Service Pays the Majority of All Expenses.

This is the percentage of revenues, expenses and profits for the three lines of business, and it should stand out like a sore thumb that Local Service pays the majority of all of the expenses, making it show a net revenue loss of 141%. Conversely, how can “Backhaul” have the majority of the revenues but pay about ½ of Local Service for these expenses, like Corporate Operations expense?

Important: Additional Revenues: Verizon, in New York, has an additional estimated $7-$10 billion in revenues which do not appear in these financial reports. However, the expenses for much of this revenue from Verizon Wireless, Verizon Online or Verizon Business appear to be contained within these expenses.

5-Year Analysis of Verizon New York Revenues and Expenses

We have decided to show that this pattern of cross-subsidies did not start in 2019, but has been a constant theme with identical deformed financial FCC formulas being applied. In fact, this pattern started in 2001, so the issues extend back for 2 decades.

2) Corporate Operations Expense — and Seeing the Pattern of Harms

Local Service in 2019 paid 61% of the Corporate Operations expense because it has been doing that since 2001. This is the percentage of expenses allocated for Corporate Operations expense for the last 5 years. Even when the total amount varies by a billion dollars, the percentage is set to reflect the year 2000. See a pattern?

Corporate Operations expenses are a garbage pail which can include public relations and corporate advertising.

Over the last 5 years, Local Service paid a whopping $5 billion, over $1 billion annually, in Corporate Operations Expenses, regardless of what the revenues were.

As we uncovered, for whatever the reasons, (which are never mentioned), the Corporate Operations per year can change dramatically. While Local Service always paid the same percentage, 61%, even though the total varied by $1.2 billion.

3) Construction & Maintenance

Local Service also paid $1.2 billion in construction in 2019, which is the majority of this expense. This has been going on for decades, but it is all based on the “75%-25% rule that is in place that put the majority of all construction into this one category. This rule has 75% of the network components being put into the ‘intrastate’ wire utility local service financial bucket, while only 25% of these expenses are put into the ‘interstate’ side.

4) Secrets of “Backhaul” (Also Called “Special Access”, or “Business Data Services”)

In the opening chart, Backhaul, had over $1.9 billion dollars, more than double the revenues of Local Service, and it shows a 55% profit margin, (while ironically, Local Service lost the same amount, $1.9 billion).

This is a very important point because all of America’s communications prices have been jacked up by this profit of the critical infrastructure, the guts of the networks.

The price of America’s wireless and broadband services are now 3–14 times more expensive than other countries worldwide. The Digital Divide, at its core, is created because low income families can’t afford broadband and wireless services, even if it is available.

Historically, this service should have had profit margins of 11.25%, but this profit margin kept going up continually. Now, in 2019, we see that Verizon NY backhaul has a profit margin, EBITDA, of 55%, for a service that is using the existing utility networks

The Art of Miss-Classifying

One must realize that this has all been a shell game. What is also unknown to most is that besides the FCC’s accounting formulas that are manipulating the books, there has been an additional shell game of ‘classification’, where one wire that was for phone service and classified as ‘intrastate’ is suddenly reclassified as an ‘information service’ or ‘interstate’ service, and different regulations are applied, but also different accounting formulas.

Making an ‘interstate’ service be highly profitable, while ‘intra-state’ Local Service has been artificially made highly unprofitable, has been underway for the last decade and this has helped to inflate the price of ALL telecommunications services in America.

At the core — the price of backhaul to all wireless and broadband companies who rent these wires has been inflated, which means that the bottom-line profitability is set based on this inflated price; thus all services that relies on these wires, which includes wireless, have an inflated base controlled by just 3 companies — AT&T, Verizon and CenturyLink.

Add to this the twist that Backhaul is subsidized by low-income families and rural customers via excess rate increases, this creates a circle, a wheel of harms, of which each of the spokes has their own digs.

PART II: Overcharged America: Solve the Digital Divide by Halting Billions in Cross-Subsidies

Written by

New Networks Institute,Executive Director, & Founding Member, IRREGULATORS; Telecom analyst for 38 years, and I have been playing the piano for 63 years.

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