GTE NORTHWEST INCORPORATED REBUTTAL TESTIMONY OF ALLEN E. SOVEREIGN WUTC UT-961623 INTRODUCTION Ex. (AES-R) Q. PLEASE STATE YOUR NAME, ADDRESS AND PRESENT POSITION. A. My name is Allen E. Sovereign. My business address is 700 Hidden Ridge, Irving, Texas 75038. I am employed by GTE Telephone Operations as Manager - Capital Recovery. Q. HAVE YOU PREVIOUSLY PROVIDED TESTIMONY IN THIS DOCKET? A. Yes, I provided direct testimony in this docket. Q. WHAT IS THE PURPOSE OF THIS TESTIMONY? GTE REBUTTAL - A. E. SOVEREIGN 1 A. The purpose of this testimony is to comment on the parties’ basic agreement as to the use of "economic lives" and to rebut the comments of Public Counsel’s and TRACER’s witness Charles W. King and the Washington Utilities and Transportation Commission Staff witnesses Thomas L. Spinks and Michael A. Crew in their review of GTE Northwest Incorporated’s (GTE) specific economic depreciation lives recommendation. I will show that the FCC prescribed lives proposed by Mr. King and Mr. Spinks are not forward looking economic lives and that they are unreasonable in today’s telecommunications environment. Specifically, this testimony will address the following points: (1) Reliance on the lives prescribed by the FCC as forward looking is not proper, (2) the lives used for financial reporting are relevant to this proceeding and are consistent with the lives used for regulatory proceedings in other states, (3) it is incorrect to assert that the introduction of competition will not have any impact on the revenue producing lives of GTE’s Washington assets, (4) GTE’s analysis gives proper consideration to the impact of technological change and emerging technologies, and (5) mortality analysis and retirements are irrelevant to the proper determination of forward looking economic depreciation lives and rates for GTE. Q. ARE YOU FAMILIAR WITH MR. KING’S AND DR. CREW’S POSITIONS ON DEPRECIATION? A. Yes. I have encountered virtually the same testimony in other jurisdictions. Mr. King’s firm is representing AT&T in numerous states against Regional Bell Operating Companies (RBOCs) and GTE companies, and Dr. Crew also lists AT&T among his clients. The positions advocated here on behalf of Public Counsel and TRACER are the same positions being advocated on behalf of AT&T elsewhere. Additionally, the over forty (40) data requests made of GTE by Mr. King in this case are identical to data requests made by Mr. King’s firm as AT&T’s representative in proceedings in other states. Q. PLEASE DESCRIBE THE PARTIES’ AGREEMENT ON THE USE OF ECONOMIC DEPRECIATION LIVES. A. Staff’s witness Dr. Crew "wholeheartedly" supports "the use of forward-looking lives" -- i.e., "economic lives" -- for depreciation purposes, and GTE generally agrees with his theoretical description of such lives. See pages 6 and 2 to 4 of Dr. Crew’s prefiled direct testimony. Mr. Spinks’ testimony also recognizes the need to look to the future when setting depreciation lives. Frankly, from Mr. King’s testimony I am not certain whether he also subscribes to the forward looking economic lives approach, but he does from time to time address various possible impacts on the future utilization of the assets in the plant categories at issue in this docket. The parties disagree, however, on the method to be used to estimate forward looking economic lives. Q. WHAT IS THE BASIC DISAGREEMENT? A. In view of the dramatic regulatory and technological changes which are converging in the telecommunications industry at this point in time, GTE has chosen to use a systematic, forward looking tool that it can add to its own judgments about economic lives, and GTE has paid close attention to the depreciation lives being used by its competitors, i.e., the other companies that will be driving the equipment and technology replacements in the new telecommunications marketplace. Mr. King, Dr. Crew and Mr. Spinks, on the other hand, are still essentially relying on historical retirement patterns, which are not predictive of forward looking economic lives in today’s environment. They appear to want to see current massive technology replacements before they are willing to credit predictions of such developments. But, as Dr. Vanston and I explain in our testimonies, if GTE is forced to wait for such activity to occur before it can adjust its depreciation lives, it will be too late. Technology replacements start slowly and eventually pick up speed rapidly, ending with an "avalanche" of retirements. The depreciation reserves need to be built up methodically before that avalanche arrives. Today we are in the early stages of several technology replacements. Now is the time to act on a forward looking, anticipatory basis, as are GTE’s unregulated competitors and other technology dependant firms. Now is not the time to rely on backward looking, outdated approaches to setting depreciation lives. (1) Reliance of the lives prescribed by the FCC as forward looking is not proper. Q. WHAT IS THE DIFFERENCE BETWEEN THE LIVES PRESCRIBED BY THE FCC AND THE LIVES RECOMMENDED BY GTE? A. The FCC lives give little weight to the FCC Staff’s view of the future but instead still gives excessive weight to the analysis of historical experience. The FCC lives are out of step with the lives selected by GTE, AT&T, MCI, the RBOC’s and many others in the industry who give decisive weight to future events such as competition and technological change. A forward looking determination of rates is critical in the rapidly changing telecommunications industry. It is the outdated FCC ranges of lives to which Dr. Crew looks for guidance. Q. WHAT ARE THE "FCC RANGES" AND HOW WERE THEY DERIVED? A. The FCC ranges, developed nearly five years ago, were based on parameters prescribed by the FCC during 1990 - 1992. Reliance on parameters resulting from analysis of historical retirements performed earlier in this decade is hardly forward looking in 1997. The FCC ranges were an attempt to simplify a complicated depreciation review process. These non-state specific ranges were established prior to the passage of the Telecommunications Act and competitive entry into the local exchange market. The FCC has recognized that these past practices are inadequate in today’s environment and is expected to issue a Notice of Proposed Rule Making (NPRM) to revise the process. Q. WHY HAS GTE NOT SUBMITTED A TRIENNIAL STUDY FOR FCC REVIEW, AS NOTED BY MR. SPINKS? A. The FCC has recommended that the 1997 triennial review of all interstate depreciation studies be suspended pending the outcome of the NPRM. (2) The lives used for financial reporting are relevant to this proceeding and are consistent with the lives used for regulatory proceedings in other states. Q. IS MR. KING CORRECT WHEN HE ASSERTS THAT THE REASONABLENESS OF GTE’S PROPOSED LIVES SHOULD BE UNRELATED TO RATES AND LIVES USED BY NON REGULATED TELECOMMUNICATIONS PROVIDERS? A. No. Mr. King claims that these comparisons are not relevant because the comparisons are to non-dominant carriers that are not subject to FCC rule, and because the financial reporting lives according to generally approved accounting principles ("GAAP") are conservative. First, in a market and economic sense, it is difficult to understand how AT&T can be considered a non-dominate carrier in view of its commanding market presence. Of course, if AT&T were to merge with SBC/PacBell, characterizing AT&T as "non-dominant" would be even more questionable. More to the point, GTE’s unregulated competitors use the depreciation lives that they do in financial reports because such lives correspond to the companies’ views of the forward looking economic lives of their assets. Other regulators have recognized, therefore, the propriety of regulated companies such as GTE using like lives. The California Public Utilities Commission (CPUC) endorsed the use of economic lives in a recent decision, California Public Utilities Commission case R.93-04-003/I.93-04-002, Decision No. D.96-08-021, August 2, 1996. and the Michigan Public Service Commission also recommended that GTE’s economic lives be used. The CPUC concluded that the economic lives used by GTE California and Pacific Bell for external financial reporting were the appropriate forward looking lives for cost studies. The CPUC and the MPSC Staff rejected the suggestion by AT&T and others that FCC prescribed lives are forward looking. Thus, GTE reiterates that comparing the lives it is proposing to the lives used by AT&T illustrates the reasonableness of GTE's proposed depreciation lives. This information was taken from publicly available documentation filed by AT&T in relation to FCC proceeding 95-32. AT&T's Economic GTE's Proposed Life Economic Life Digital Switching 9.7 10.0 Digital Circuit Equipment 7.2 8.0 Copper Cable 3.4-15.0 15.0 Fiber Cable 20.0 20.0 Q. WHAT SPECIFICALLY DID THE CPUC SAY ON THIS ISSUE IN THAT RULEMAKING? A. In its order the CPUC commented: We agree with Pacific that the schedules formally adopted in the represcription proceeding reflect the previous paradigm of the regulated monopoly environment, and so are difficult to justify in a cost study that looks forward to an environment in which there is local exchange competition. We also see little merit in the Coalition’s original suggestion that we use FCC schedules. These schedules also reflect “the previous paradigm”; moreover, they are based on different assumptions and applied in different ways than our own. Decision No. D.90-08-021, supra, page 52. The "Coalition" mentioned in this passage includes AT&T, MCI, California Cable Television Association, California Association of Long Distance Carriers, and others. It also seems to be the case, however, that Pacific is now using these schedules in financial reports it is required to file, and thus for purposes of these cost studies, the schedules also appear consistent with generally accepted accounting principles. The schedules also appear realistic for a firm having to operate in a competitive environment, as Pacific will soon have to do. Accordingly, we will approve their use in this proceeding. Ibid., page 52. GTE California is also using economic lives for financial and regulatory reporting. Q. WHAT DID THE MPSC STAFF SAY ON THIS ISSUE IN THEIR PROCEEDING? A. The Michigan Commission staff does not believe that the current lives prescribed by the FCC are forward looking, and said the following: In the Matter , on the Commissions’s Own Motion, to Consider the Total Service Long Run Incremental Costs and to Determine the Prices of Unbundled Network Elements, Interconnection Services, and Basic Local Exchange Services for GTE North, Inc., Case No. U-11281, MPSC Staff’s comments in response to the parties’ March 31, 1997 comments. In reviewing the recommendations on these issues of both AT&T and GTE, Staff believes the depreciation lives proposed by GTE more closely match the forward looking costs Staff has suggested earlier and are reasonable. Q. MR. KING STATES THAT THE SERVICE LIVES OF GTE’S PLANT SHOULD BE COMPARED TO THE ELECTRIC UTILITIES’ OVERHEAD CONDUCTORS, UNDERGROUND CONDUCTORS, AND SERVICE DROPS. IS THIS A VALID COMPARISON? A. No. The comparison is not valid because of the considerably greater complexity of a telecommunications network, the prevalence of competition in the telecommunications network, and the present and prospective lack of alternatives to the utilities’ electrical distribution network. The greater complexity in the network has resulted in technology sensitive solutions to all telecommunications problems (i.e. noise, signal loss, crosstalk, bandwidth, switching, etc.), which means that the network is quite sensitive to new technological developments. Since the electrical distribution network is not so technologically sensitive, technology advances cannot be expected to present the same pressure for shorter economic depreciation lives as is being experienced in the telecommunications industry. Also, there is no alternative to the present utilities’ plant for the delivery of electrical service to customers, while there are existing alternatives to the delivery of telecommunications to the home. As Mr. King knows from his close association with AT&T, AT&T plans to compete with GTE and other incumbant local exchange carriers ("ILECS") using wireless local loops. Also, the cable television providers have a technological alternative to the local loop with their coaxial cable. (3) It is incorrect to assert that the introduction of competition will not have any impact on the revenue producing lives of GTE’s Washington assets. Q. MR. KING AND DR. CREW POSIT THAT THE ECONOMIC VALUE OF GTE’S PLANT SHOULD BE INCREASING, NOT DECREASING, DUE TO COMPETITION. IS THIS AN ACCURATE ASSESSMENT? A. No. According to Mr. King and Dr. Crew, this proceeding is about competitors using GTE facilities. They appear to be entirely discounting facilities-based competition. MCI, ELI, and TCG all have at least one digital switch in the Seattle area and are currently serving local customers. In addition, ELI, TCG, MFS, and Starcom all have fiber routes that offer competitive services to customers in GTE’s serving areas. In addition, as I noted above, AT&T has announced plans to commence facilities based competition using wireless loops, and cable television companies are actively pursuing use of their networks to compete with ILEC offerings. Again, in an effort to justify rates based on history, Messrs. King, Spinks, and Crew seem to be down playing the significant changes in the law, regulation and