    [Senate Hearing 111-496]
    [From the U.S. Government Publishing Office]

                                                            S. Hrg. 111-496

     CELL PHONE TEXT MESSAGING RATE INCREASES AND THE STATE OF COMPETITION
                             IN THE WIRELESS MARKET

    =======================================================================

                                    HEARING

                                   before the

                           SUBCOMMITTEE ON ANTITRUST,
                     COMPETITION POLICY AND CONSUMER RIGHTS

                                     of the

                           COMMITTEE ON THE JUDICIARY
                              UNITED STATES SENATE

                         ONE HUNDRED ELEVENTH CONGRESS

                                 FIRST SESSION

                                   __________

                                 JUNE 16, 2009

                                   __________

                              Serial No. J-111-32

                                   __________

             Printed for the use of the Committee on the Judiciary

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    20402-0001

                      PATRICK J. LEAHY, Vermont, Chairman
    HERB KOHL, Wisconsin                 JEFF SESSIONS, Alabama
    DIANNE FEINSTEIN, California         ORRIN G. HATCH, Utah
    RUSSELL D. FEINGOLD, Wisconsin       CHARLES E. GRASSLEY, Iowa
    CHARLES E. SCHUMER, New York         JON KYL, Arizona
    RICHARD J. DURBIN, Illinois          LINDSEY O. GRAHAM, South Carolina
    BENJAMIN L. CARDIN, Maryland         JOHN CORNYN, Texas
    SHELDON WHITEHOUSE, Rhode Island     TOM COBURN, Oklahoma
    RON WYDEN, Oregon
    AMY KLOBUCHAR, Minnesota
    EDWARD E. KAUFMAN, Delaware
    ARLEN SPECTER, Pennsylvania
                Bruce A. Cohen, Chief Counsel and Staff Director
                      Matt Miner, Republican Chief Counsel
                                     ------

       Subcommittee on Antitrust, Competition Policy and Consumer Rights

                         HERB KOHL, Wisconsin, Chairman
    CHARLES E. SCHUMER, New York         ORRIN G. HATCH, Utah
    SHELDON WHITEHOUSE, Rhode Island     CHARLES E. GRASSLEY, Iowa
    RON WYDEN, Oregon                    TOM COBURN, Oklahoma
    AMY KLOBUCHAR, Minnesota
    EDWARD E. KAUFMAN, Delaware
    ARLEN SPECTER, Pennsylvania
           Carolina Holland, Democratic Chief Counsel/Staff Director
                     Jace Johnson, Republican Chief Counsel

                                C O N T E N T S

                                  ----------

                        STATEMENTS OF COMMITTEE MEMBERS

                                                                       Page
    Feingold, Hon. Russell D., a U.S. Senator from the State of
      Wisconsin, prepared statement..................................    49
    Kohl, Hon. Herb, a U.S. Senator from the State of Wisconsin......     1
        prepared statement...........................................   121

                                   WITNESSES

    Itkin, Laurie, Director of Government Affairs, Cricket
      Communications, Inc., San Diego, California....................     8
    Kelsey, Joel, Policy Analyst, Consumers Union New York, New York.    10
    Keshav, Srinivasan, Professor and Canada Research Chair in
      Tetherless Computing, School of Computer Science, University of
      Waterloo, Waterloo, Ontario, Canada............................     7
    Milch, Randal S., Executive Vice President and General Counsel,
      Verizon Communications, Inc., New York, New York...............     5
    Watts, Wayne W., Sr., Executive Vice President, and General
      Counsel, AT&T Management Services, Inc., Dallas, Texas.........     3

                             QUESTIONS AND ANSWERS

    Responses of Laurie Itkin to questions submitted by Senator Kohl.    28
    Responses of Joel Kelsey to questions submitted by Senator Kohl..    31
    Responses of Randal S. Milch to questions submitted by Senator
      Kohl...........................................................    37
    Responses of Wayne W. Watts, Sr., to questions submitted by
      Senator Kohl...................................................    43

                           SUBMISSIONS FOR THE RECORD

    Itkin, Laurie, Director of Government Affairs, Cricket
      Communications, Inc., San Diego, California, statement.........    50
    Kelsey, Joel, Policy Analyst, Consumers Union New York, New York,
      statement and addendum.........................................    61
    Keshav, Srinivasan, Professor and Canada Research Chair in
      Tetherless Computing, School of Computer Science, University of
      Waterloo, Waterloo, Ontario, Canada, statement.................   111
    Milch, Randal S., Executive Vice President and General Counsel,
      Verizon Communications, Inc., New York, New York, statement....   123
    Watts, Wayne W., Sr., Executive Vice President, and General
      Counsel, AT&T Management Services, Inc., Dallas, Texas,
      statement......................................................   141

     CELL PHONE TEXT MESSAGING RATE INCREASES AND THE STATE OF COMPETITION
                             IN THE WIRELESS MARKET

                                  ----------

                             TUESDAY, JUNE 16, 2009

                                           U.S. Senate,
            Subcommittee on Antitrust, Competition Policy, and
                Consumer Rights,
                                    Committee on the Judiciary,
                                                       Washington, D.C.
        The Subcommittee met, pursuant to notice, at 2:34 p.m., in
    room SD-226, Dirksen Senate Office Building, Hon. Herb Kohl,
    Chairman of the Subcommittee, presiding.
        Present: Senators Kohl, Klobuchar, and Hatch.

     OPENING STATEMENT OF HON. HERB KOHL, A U.S. SENATOR FROM THE
                           STATE OF WISCONSIN

        Chairman Kohl. Good afternoon. This hearing will come to
    order.
        Today we will be examining the state of competition in the
    cell phone industry. The enormous growth in the use of cell
    phones means that maintaining competition in this industry is
    more important than ever. With more than 270 million
    subscribers, cell phones are a vital means of communication for
    the vast majority of Americans. Cell phones enable
    instantaneous communications for millions wherever they are
    located, whether at work, at home, away from home, in their
    car, or anywhere in between. Many Americans--over 20 percent
    now--have now discarded traditional land line phones and depend
    entirely on their cell phones. The ease, convenience, and
    universal nature of today's cell phone service would not have
    been imaginable just two decades ago.
        For many years as this industry developed, it was a
    competition success story--with many rivals and vigorous price
    competition. In recent years, however, the picture has changed.
    Consolidation has left this industry highly concentrated. Four
    national carriers now control over 90 percent of the cell phone
    market. Two of them--today's witnesses AT&T and Verizon--
    combine to have a market share of 60 percent. Consumers'
    choices have become quite limited, and price wars seem to be a
    thing of the past. American consumers pay more for wireless
    phone service than most other developed nations--an average of
    $506 per year in the year 2007.
        Nowhere is the changed market for cell phones more
    noticeable than in text message service. These short, instant
    messages delivered via cell phones have become enormously
    popular. In 2008, more than 1 trillion text messages were sent,
    more than triple the number of just 2 years ago.
        As their popularity has grown, so has the price charged on
    a per message basis. From 2006 to 2008, the price of sending
    and receiving a text message among the four largest cell phone
    carriers increased by 100 percent--from 10 to 20 cents a
    message. The four companies increased their text messaging
    prices in two steps--first from 10 to 15 cents, and then from
    15 to 20 cents--within weeks or months of each other. These
    lockstep price increases occurred despite the fact that the
    cost to the phone companies to carry text messages is minimal--
    estimated to be less than a penny per message--and has not
    increased.
        The phone companies defend these price increases by
    asserting that they have not been coordinated in any respect.
    They also point out that the majority of cell phone customers
    do not pay for text messages on a per message basis, but
    instead buy plans for ``buckets'' of text messages, typically
    starting at $5 for 200 messages. Nonetheless, these sharp price
    increases raise concerns.
        Are these price increases the result of a lack of
    competition in a highly concentrated market? Will consumers
    continue to see similar price increases for this and many other
    wireless services that they have become increasingly dependent
    upon, such as Internet connections and basic voice service? Do
    text message price increases represent a warning sign for the
    state of competition in the cell phone industry as a whole?
        The concentrated nature of today's cell phone market should
    make us wary of other challenges to competition in this
    industry. For example, smaller competitors raise serious
    questions about practices that prevent them from being able to
    fairly compete. These range from exclusive deals that deny
    competitors access to the most in-demand cell phones, to
    limitations on the ability of new competitors to roam on other
    providers' networks, to difficulties in obtaining needed
    spectrum. It is imperative that we work to remove undue
    barriers to competition to ensure consumers the best rates and
    services.
        We, therefore, urge the FCC to take all necessary action to
    remove each of these barriers to competition. Removing these
    barriers will ensure that the cell phone market is open to
    competition and prevent the large carriers from gaining a
    stranglehold on this market. We also urge the Justice
    Department to closely scrutinize future mergers and allegations
    of anticompetitive practices in this industry.
        Today's hearing thus comes at an important time for
    competition in the cell phone industry. We are looking forward
    to the testimony of our panel of witnesses on this important
    topic.
        Now, with respect to our panel, we will introduce our first
    witness, who will be Wayne Watts. Mr. Watts is Senior Executive
    Vice President and General Counsel of AT&T. Previously, Mr.
    Watts served as Vice President and Assistant Counsel for SBC
    Communications and worked as an attorney at Southwestern Bell
    Telephone Company.
        He will be followed by Randal Milch. Mr. Milch currently
    serves as Executive Vice President and General Counsel at
    Verizon Communications. He has been with Verizon since 2000,
    when he was appointed Senior Vice President and General Counsel
    of Verizon's domestic telecom business.
        Next, we will be hearing from Professor Keshav. Professor
    Keshav has been a professor at the School of Computer Science
    at the University of Waterloo since 2003. He has focused his
    research on tetherless computing, a broad research field that
    includes wireless networks and smart mobile devices, and he has
    received a number of awards for his research and his
    publications.
        And next we will hear from Laurie Itkin. Ms. Itkin has
    served as Director of Government Affairs for Cricket
    Communications for the last 9 years. Prior to joining Cricket,
    Ms. Itkin managed governmental relations for Sprint and served
    as telecommunications policy adviser to the Governor of Oregon.
        Finally, we will be hearing from Joel Kelsey. Mr. Kelsey is
    a Federal and international affairs policy analyst for
    Consumers Union. Before joining Consumers Union, he worked as
    the New York City Outreach Director for the New York Public
    Interest Research Group before joining Consumers Union.
        We thank you all for appearing at our Subcommittee's
    hearing. And after each of you give your testimony, we will
    proceed to ask questions.
        Would you now all rise and raise your right hand and repeat
    after me? Do you affirm that the testimony you are about to
    give will be the truth, the whole truth, and nothing but the
    truth, so help you God?
        Mr. Watts. I do.
        Mr. Milch. I do.
        Mr. Keshav. I do.
        Ms. Itkin. I do.
        Mr. Kelsey. I do.
        Chairman Kohl. Thank you. So we will start with you, Mr.
    Watts, and we hope you will hold your comments to 5 minutes.

    STATEMENT OF WAYNE W. WATTS, SR, EXECUTIVE VICE PRESIDENT, AND
     GENERAL COUNSEL, AT&T MANAGEMENT SERVICES, INC., DALLAS, TEXAS

        Mr. Watts. Well, good afternoon, Chairman Kohl, and thank
    you for the gracious introduction, and I appreciate very much
    your opening comments.
        The Subcommittee's apparent concern over prices for text
    messaging I believe is based on an overly narrow focus on the
    pricing trend of a single pricing option for text messaging
    services--the pay-per-use, or PPU, option. PPU refers to the
    charge for individual text messages that customers purchase on
    a single-message basis.
        AT&T's current price for PPU is 20 cents per text message.
    That rate did increase a little over a year ago, in March of
    2008, and prior to that, it was increased in January of 2007.
    So, it has been quite a while since those rates changed.
        However, the vast majority of AT&T's customers do not
    choose the PPU pricing option, and the PPU pricing option does
    not apply to the overwhelming majority of messages. In fact,
    less than 1 percent of AT&T's post-paid text messaging volume
    is handled on a PPU basis. Less than 1 percent of the messages
    that our customers send are paid for this way.
        Instead, the vast majority of our customers take advantage
    of AT&T's package pricing plans, including those that provide a
    package of messages for a flat monthly rate, and 99 percent of
    our messages are handled under these plans. These plans
    include: 200 messages per month for $5; 1,500 messages per
    month for $15, and unlimited messages for $20. Clearly, the
    price of messages under those plans are far below 20 cents per
    message. In fact, at AT&T, for $30 a month, a family of five
    can enjoy unlimited text messaging for the entire family.
    Clearly, very low rates per message.
        As a result of this customer interest in these lower-cost,
    higher-value package plans, in the last 2 years the price for
    text messages has fallen dramatically. Indeed, AT&T's average
    price for text messaging has dropped almost 70 percent in 2
    years. So that is 70 percent versus the suggestion that has
    been made that our prices per text message have gone up.
        At the same time, the volume of text messages handled by
    AT&T has grown exponentially. In January of 2007, AT&T
    processed 4.5 billion text messages for the month. In January
    of 2009, we processed a stunning 31.1 billion text messages.
    That is a nearly 600-percent increase in just 2 years in the
    volume of messages sent by our customers.
        Among the reasons for this dramatic increase in usage is
    the equally dramatic drop in prices paid by the overwhelming
    majority of our customers. Thus, the PPU price, which
    represents a minuscule portion of the total number of text
    messages has increased, albeit 15 months ago. But overall
    rates--the rates charged for 99 percent of our customers' text
    messages--have dropped dramatically.
        The background here is very instructive. In making these
    package plans the core of our text message pricing, we are
    delivering maximum choice and value to our customers. In our
    experience, the PPU pricing option often results in large and
    unpredictable swings in a customer's total bill, leading to
    significant customer dissatisfaction and complaints to our
    customer care line. Package plans, on the other hand, which I
    believe are increasing in importance to the customers as they
    find more and more the need to budget their expenses, ensure
    extremely low prices, choice--because we offer so many
    different plans--predictability, and easy-to-understand bills,
    and thereby greatly improve the overall customer experience.
    Our customers have voted with their pocketbooks as 99 percent
    of the text messages sent or received by AT&T customers are
    billed under one of our package plans.
        Of course, it should come as no surprise that the price of
    text messages has fallen off given the dynamic and competitive
    nature of today's wireless industry. More than 95 percent of
    the U.S. population lives in census blocs with at least three
    competing wireless carriers, and more than half the population
    lives in census blocks with at least five competing carriers.
    For these reasons, and many others, the FCC has confirmed time
    and again that the U.S. wireless marketplace is and will remain
    effectively competitive. Indeed, a recent Merrill Lynch report
    shows that the U.S. enjoys the least concentrated wireless
    industry of 26 major industrial countries based on its HHI
    index.
        Finally, against this backdrop, I have to pause to put to
    rest an underlying implication of the inquiry into this matter,
    and that is whether or not wireless providers have somehow
    conspired to fix prices for text messaging.
        As you know, a great deal of litigation has been filed as a
    result of these hearings and this particular issue, and I want
    to make it perfectly clear that AT&T sets the prices for all of
    its products on a unilateral basis, based on independent
    analysis. There is no evidence to support an accusation that
    anyone at AT&T engaged in any inappropriate, much less illegal,
    behavior as alleged in all these lawsuits that are pending
    today. There simply is none.
        I trust that this more complete picture puts to rest any
    concerns you may have about a single-pricing option, and I, as
    always, look forward to your questions, Mr. Chairman.
        Thank you.
        [The prepared statement of Mr. Watts appears as a
    submission for the record.]
        Chairman Kohl. Thank you, Mr. Watts.
        Mr. Milch?

      STATEMENT OF RANDAL S. MILCH, EXECUTIVE VICE PRESIDENT AND
     GENERAL COUNSEL, VERIZON COMMUNICATIONS, INC., NEW YORK, NEW
                                  YORK

        Mr. Milch. Good afternoon, Chairman Kohl. It is a pleasure
    for me to appear before you today on behalf of Verizon
    Wireless.
        We were brought here today to discuss industry pricing in a
    tiny segment of the burgeoning wireless texting, or SMS,
    market. Mr. Chairman, your letter of last year concerned
    pricing similarities in the so-called pay-as-you-go segment of
    the texting market, which involves only 1 percent of all the
    texts that Verizon Wireless customers send or receive. So let
    me respond directly to the underlying issue here.
        Verizon did not collude with its competitors on setting
    pay-as-you-go prices for text messages, and I believe all the
    evidence shows any suggestion like that to be baseless. Indeed,
    the evidence amply confirms that the U.S. wireless industry is
    robustly competitive in all of its aspects.
        Let me go through this with a little bit more detail.
        First, the tiny nature of this market makes any suggestions
    of collusion implausible. Only 1 percent of the customers' text
    messages are paid for on a pay-as-you-go basis, and Verizon
    customers in this category on average send or receive only 21
    texts per month. The other 99 percent of Verizon texts are
    covered by various bundles of services where the average price
    per text is less than a penny per text.
        In contrast to incidental texters in the pay-as-you-go
    category, text users in bundles average almost 1,000 texts a
    month. Because of this greatly increased usage, the overall
    price for text messaging has dropped precipitously. In December
    2006, the average price was about 3 cents per message. Since
    then, we have cut the average price by almost two-thirds, to
    about 1 cent per message.
        Second, I have provided some charts with my testimony that
    I have provided the Committee, and those charts show that there
    is a wide variation in the carriers' texting prices overall.
    Pay-as-you-go prices vary widely. Verizon prepaid customers are
    charged 1 cent or 5 cents or 10 cents or 20 cents per message,
    depending on the plan. AT&T's prepaid customers pay 20 cents a
    message. Sprint's prepaid customers pay 10 cents per message or
    have all text message included at no extra charge, depending on
    the plan. And T-Mobile's prepaid customers pay 5 cents on
    incoming messages and 10 cents on outgoing messages. And I
    noted from the LEAP testimony that they do not charge--they
    have yet different plans for their text messaging.
        There is no suspicious coincidence in the timing, Mr.
    Chairman, for these price changes. The different carriers
    changed their prices for this product for over a period of
    almost 2 years, and, indeed, in a competitive market, you would
    expect there to be some gearing up of competitive prices over
    time.
        The market evidence shows fierce competition across the
    wireless market. The FCC just this year reiterated that U.S.
    customers are seeing low prices, new technologies, improved
    service quality, and choice among providers from all the
    competition in the wireless marketplace. Using the most recent
    information available to it, the FCC found that the industry
    average revenue per minute fell from 47 cents in 1994 to 6
    cents in 2007, or a decline of 67 percent, while minutes of use
    have increased many-fold.
        American consumers fare far better than wireless customers
    across the globe. A recent study found that the average price
    per minute in the U.S. is lower than the 26 OECD countries,
    that U.S. customers have the highest minutes of use per month,
    and that the U.S. has the most competitive market in those 26
    countries.
        Mr. Chairman, I propose that Americans pay more for
    wireless usage only in the sense that they have more to buy.
        Finally, all this competition has been accompanied by
    increased customer satisfaction. Consumer Reports magazine for
    the past several years in a row has given Verizon the highest
    rating among all the wireless carriers for service quality.
    During each month in 2008, the rate for complaints from Verizon
    Wireless' customers has been about eight in every million
    customers, a rate of only 0.0008 percent.
        At the same time, the entire industry is doing better. Last
    month, the American Consumer Satisfaction Index issued a press
    release finding that, ``Customer satisfaction with wireless
    telephone service reached a new all-time high for the third
    consecutive year.'' Verizon Wireless and the whole industry
    continue to move in the right direction, Mr. Chairman.
        The American wireless industry, I suggest, Mr. Chairman, is
    and continues to be an American competitive success story. The
    wireless industry has been blessed by light-handed regulation,
    and I suggest, Mr. Chairman, that it is in the best interests
    of the American competitive telecom industry for it to stay
    that way.
        Thank you very much, Mr. Chairman. I look forward to your
    questions.
        [The prepared statement of Mr. Milch appears as a
    submission for the record.]
        Chairman Kohl. Thank you, Mr. Milch.
        Mr. Keshav?

     STATEMENT OF SRINIVASAN KESHAV, PROFESSOR AND CANADA RESEARCH
      CHAIR IN TETHERLESS COMPUTING, SCHOOL OF COMPUTER SCIENCE,
           UNIVERSITY OF WATERLOO, WATERLOO, ONTARIO, CANADA

        Mr. Keshav. Good afternoon, Chairman Kohl. My name is
    Srinivasan Keshav. I am a professor of computer science and a
    Canada Research Chair at the University of Waterloo in Ontario,
    Canada. My area of research is computer networking and, more
    specifically, mobile and wireless networks. I have been
    studying cellular phone technology for the last 5 years.
        I was asked by your office to give my opinion on two
    questions. First, what is the cost to a carrier to transmit a
    text message? Second, are the recent price increases for text
    messages sent by consumers who are not subscribed to a text
    messaging plan cost-justified?
        Based on an analysis that is detailed in the written
    testimony, my answers are as appears as a submission for the
    record.
        First, I believe that the cost to a carrier to transmit a
    text message is very unlikely to exceed 0.3 cents.
        Second, the price increase is not cost-justified.
        Let me justify my conclusions. I will first address the
    cost of a text message.
        To avoid making a loss, the average revenue a carrier makes
    on a text message must exceed its cost. In their written
    testimony, representatives from both AT&T and Verizon indicate
    that the average revenue from a text message is around 1 cent-
    1.04 cents for Verizon and 1.4 cents for AT&T. Thus, the
    maximum cost of a text message is around 1 cent. In my written
    testimony, I have come to the same conclusions using
    independent evidence.
        A second way to estimate the cost of a text message is to
    cost out each component of the underlying technology. To carry
    a text message requires many resources, such as the wireless
    channel, the wired network backbone, billing systems, storage
    systems, and special control messages. Each of these costs
    money. In my written testimony, I have estimated the cost of
    each component. My analysis indicates that the two dominant
    costs are those for the wireless path and the billing systems.
    Let me address each in turn.
        To estimate the cost of a wireless path, I established that
    in 1 minute a wireless path can equivalently carry either one
    voice call or about 80 text messages. The price of a voice call
    in the United States is about 7 cents a minute, on average.
    This means that the cost to the wireless for a text message
    should be 7 cents divided by 80, or about 0.1 cents, roughly-a
    tenth of a penny.
        Estimating the billing cost is difficult. A rule of thumb
    in the telecom industry is that billing costs for a voice call
    should be at most the same as the cost to carry the call
    itself. As a conservative estimate, I, therefore, assume that
    the cost of billing a text message is twice the cost of
    actually carrying it. That would make the cost of a text
    message 0.3 cents.
        I should point out that this portion of my analysis makes a
    strong assumption about billing costs. Nevertheless, I have
    tried to account for it by being conservative in my
    assumptions.
        To sum up, the cost of a text message is certainly smaller
    than 1 cent based on testimony from AT&T and Verizon that we
    just heard. In my opinion, it is likely to be smaller than 0.3
    cents based on my analysis of the underlying technology that
    you can find in the written testimony.
        I will now turn my attention to the second question. That
    is, are the recent price increases cost-justified? I believe
    that the only possible technical reason to raise the price per
    message would be if the amount of radio spectrum used by the
    text messaging traffic was so great as to cause network
    congestion. In this case, the price increases, also called
    ``congestion pricing''--would dampen demand and reduce load.
    However, the total worldwide traffic of 3.5 trillion text
    messages carried in 2008 account for the radio spectrum
    available to just a few hundred cell phone towers. In my
    written testimony, I had estimated 28. I was off by a factor of
    10. It is exactly 280. However, in 2008 alone, 300,000 such
    towers were sold. So it is very unlikely that text message
    traffic is congesting the network and the available spectrum.
    And, therefore, the price increases cannot be cost-justified.
        To sum up, I have tried to answer the questions posed to me
    to the best of my abilities. My analysis has made use of
    publicly available data as well as a few clearly stated and
    conservative assumptions. I would like to thank you for giving
    me a chance to present my conclusions. I also welcome input
    from technical experts that will help me refine my analysis and
    correct any mistakes.
        Thank you.
        [The prepared statement of Mr. Keshav appears as a
    submission for the record.]
        Senator Kohl. Thank you, Mr. Keshav.
        Ms. Itkin.

      STATEMENT OF LAURIE ITKIN, DIRECTOR OF GOVERNMENT AFFAIRS,
          CRICKET COMMUNICATIONS, INC., SAN DIEGO, CALIFORNIA

        Ms. Itkin. Thank you, Mr. Chairman, for the invitation to
    testify today. For the record, my name is Laurie Itkin, and I
    am with Cricket Communications. Cricket has been around for
    about 10 years, and we have grown to become the seventh largest
    facilities-based carrier in the United States, and what that
    means, facilities-based, is that we have invested billions of
    dollars in building out our own network. We current have over 4
    million subscribers in 32 States.
        Cricket serves consumers who have been left behind by the
    larger carriers. Our customers tend to be more ethnically
    diverse and lower-income than the larger carriers' consumer,
    and Cricket pioneered the unlimited, flat-rate, all-you-can-eat
    service with no long-term contract, no credit check, and really
    most importantly, no early termination fee. Our customers talk
    and text much more than the industry average, and I think that
    is what happened when you offer all-you-can-eat pricing.
        For an example, our $40 plan includes unlimited local and
    long-distance calling and unlimited incoming and outgoing text
    messages. And I also really want to state that I believe that
    Cricket puts pricing pressure on carriers in every market we
    enter. And I am pleased to announce that next week Cricket will
    be launching service in D.C. and Baltimore.
        The subject of this hearing is text messaging, and I think
    we can all relate to the story of hearing a parent's shock as
    she opens up her wireless phone bill to see a $600 charge when
    her adolescent child has discovered text messaging for the
    first time and goes into a frenzy.
        We also have heard of consumers that are concerned that
    they are receiving unsolicited text messages, which is called
    ``spam,'' and they are actually being forced to pay for an
    unsolicited text message that they did not want.
        These situations would never happen with Cricket. Since its
    inception, Cricket has never charged its consumers a penny to
    receive an incoming text messaging.
        Cricket believes the best regulator of prices is a
    competitive marketplace, but despite our rapid growth and, Mr.
    Chairman, as you stated in your opening comments, we are still
    a very small carrier in comparison to the four largest carriers
    who control 90 percent of the market.
        So the question is: How do we create a robust, competitive
    environment nationwide so all consumers can benefit from
    innovation of new entrants like Cricket? What is preventing
    that dynamic from occurring?
        Well, we think there are two policy issues that need to be
    addressed, and they are spectrum constraints and roaming
    policy.
        First of all, we need more spectrum. The wireless industry
    needs more spectrum, and I think every panelist here today will
    agree on that point. The problem is that the two carriers
    sitting to my right have won the lion's share of spectrum in
    FCC auctions over the last few years, and they have also
    gobbled up smaller competitors.
        Mr. Chairman, Cricket shares the concerns that you
    articulated in your September 2008 letter to the CEOs of the
    four largest carriers, and you stated that you were concerned
    regarding ``consolidation and increased market power by the
    major carriers.'' So Cricket's concern with market power is
    that it gives carriers the ability to engage in anticompetitive
    practices such as we are facing with roaming.
        No wireless carrier has ubiquitous coverage. We all have to
    use each other's networks to provide seamless coverage to
    consumers. Cricket's experience is that the rates that carriers
    charge for roaming minutes is directly correlated to their size
    and market power.
        One particularly anticompetitive practice that Cricket
    faces in many areas of the country is that one large carrier
    prohibits Cricket customers from roaming at all. With all the
    consolidation, such as Alltel being purchased by Verizon,
    Cricket has fewer and fewer roaming partners available. In many
    cases, our customers are stranded without service and cannot
    use their phone at all.
        Now, I ask you: How can that be allowed to happen when
    service is available?
        So I will close by saying that there are currently three
    proceedings roaming pending at the FCC, and I would be happy to
    go into more detail in the Q&A. Cricket believes spectrum and
    roaming policies are the foundations for national competition.
    All consumers, regardless of where they live, work, and travel,
    should have access to affordable and innovative options for
    service, such as the value-rich services that Cricket provides.
        Thank you, Mr. Chairman. I will be happy to answer
    questions later.
        [The prepared statement of Ms. Itkin appears as a
    submission for the record.]
        Chairman Kohl. Thank you very much, Ms. Itkin.
        Mr. Kelsey.

    STATEMENT OF JOEL KELSEY, POLICY ANALYST, CONSUMERS UNION, NEW
                             YORK, NEW YORK

        Mr. Kelsey. Chairman Kohl, thank you for the opportunity to
    testify before you on behalf of Consumers Union. In my
    testimony, I plan to cover four areas: First, I would like to
    give the consumer perspective on text messaging. I will then
    talk briefly about the consolidated market structure in which
    we see this behavior occurring. Third, I would like to cover
    briefly some other limitations that we see consumers face in
    this marketplace. And, last, I will offer a few solutions that
    we believe will help introduce more competition into the
    marketplace and ultimately lower consumer prices.
        Since 2005, every major carrier has at least doubled its
    price for text messaging from 10 cents to 20 cents per message.
    However, this is a head-scratcher to consumers because these
    rising costs are not at all related to the price incurred by
    the carrier.
        Text message files are very small, and the price of their
    transmission is negligible for the provider, as we have heard.
    To put this in perspective, consider that it would take 600
    text messages to equal 1 minute of voice. At 20 cents per text,
    that is the $120 data equivalent of a 1-minute phone call.
    Rather than a true reflection of the cost of service, we
    believe the purpose of high individual text messaging is to
    herd or price consumers into large monthly plans with more
    minutes or texts than a consumer will need or use. And if they
    go over that allotted number of texts, they are back to paying
    20 cents to send and receive. No matter what the cost, these
    monthly plans are protection money that consumers pay so they
    do not have to face sky-high text message rates.
        This is not the bellwether of a competitive market; rather,
    to us this represents parallel behavior among four national
    providers that seems to indicate inadequate competitive
    pressures in the wireless world.
        These price increases are occurring against the backdrop of
    a consolidating market structure. Collectively, as we have
    heard, the four national carriers represent just over 90
    percent of the subscriber based, and the two largest represent
    over 65 percent. Additionally, the two largest providers--AT&T
    and Verizon--have been able to capture much of the spectrum in
    this country, the air waves that make communications wirelessly
    possible. These spectrum holdings, combined with their
    ownership of the wire line infrastructure allow the two top
    providers to control the on ramps to the Internet. They use
    this control to set high barriers to entry and charge their
    competitors exorbitant special access fees in order to offer
    mobile Internet services. Consumers are paying the price.
        As we have heard, U.S. mobile phone subscribers pay more
    annually than customers overall and most other developed
    nations. The $506-a-year figure that you mentioned in your
    opening statement can be compared to the United Kingdom at $374
    or consumers in Spain at $293.
        Within this consolidated context, we continue to see
    questionable behavior that is locking consumers in and locking
    competitors out. Here are three examples.
        First, consumers face limited access to cell phones because
    carriers demand that cell phone makers sign exclusive
    contracts. This precludes them from offering their phone on any
    other network. This has the multiplied effect of not only
    limiting consumer choices, but it also raises a barrier to
    entry for smaller competitors that cannot get their hands on
    the kinds of phones that consumers demand.
        Yesterday, Senators Kerry, Wicker, Dorgan, and Klobuchar
    sent a letter to the FCC addressing this, and we commend them
    for doing so.
        Second, after signing lengthy contracts for bundled
    service, if a consumer is dissatisfied with their service, they
    cannot easily switch providers. They face high early
    termination fees that are punitive in nature, and if the phone
    they bought is locked to that particular carrier, when they
    switch they end up with an expensive brick in their hand rather
    than a cell phone.
        Third, customers face prices for their data plans that,
    just like text messaging, seem far removed from any possible
    cost, indicating a stark absence of provider rivalry over data
    pricing. I provided several examples in my written testimony of
    consumers that signed up for monthly service for their data
    plan and ended up with a bill that was several thousand dollars
    more than they expected. And even when they do pay for their
    data services, consumers are not getting the full experience of
    the Internet; rather, they are being served up the ``Internet
    Lite'' because wireless providers and cell phone makers are
    blocking popular software applications like Skype from being
    accessible to consumers.
        So what are the solutions? As more Americans are cutting
    the cord and switching from wired to wireless services, as you
    noted in your opening statement, increasing costs are reaching
    deeper and deeper into the pocketbook of Americans. More
    oversight is needed. This hearing, and many others like it, is
    an excellent start. However, formal inquiries and
    investigations have continued to determine whether Government
    intervention is necessary.
        For example, the GAO could look at the barriers consumers
    face when they want to switch service and what overall impact
    that has on the market force of consumer demand. And, last,
    regulators, like the FCC, should take up several different
    efforts, for example: one, opening a rulemaking on handset
    exclusivity; two, fixing the in-market exception for voice
    roaming that we heard Ms. Itkin speak of; and, last, begin a
    rulemaking on data roaming.
        Thank you. With that I will end, and I look forward to any
    questions you have.
        [The prepared statement of Mr. Kelsey appears as a
    submission for the record.]
        Chairman Kohl. Thank you very much, Mr. Kelsey.
        For both Mr. Milch and Mr. Watts, both Verizon and AT&T
    have defended their text messaging price increases on the
    grounds that both companies made independent decisions in
    response to market conditions. Yet neither of your companies
    has made any effort to undercut your competitors on price. A
    brief review of the history of these price increases makes this
    very clear.
        Why didn't either AT&T or Verizon resist these per message
    price increases or at least raise your price increase by less
    than the other one in order to undercut your competition, which
    is what we always do in a marketplace and try and gain market
    share? This is the way businesses normally compete,
    particularly when you offer fairly identical services. So why
    did you each go up by the same amount? Why didn't you go up
    less than your competitor and get some business by so doing?
    Mr. Watts?
        Mr. Watts. There are a number of factors to your question,
    but let me first point out that there was not a coincidence in
    time in the price changes, and while you constantly hear the
    suggestion that these occurred simultaneously, it simply is not
    the case.
        Most importantly, in looking at how the wireless world
    operates from the competitive standpoint, there are many, many
    places where each carrier hangs its hat to differentiate itself
    from its competitors. Ms. Itkin, for example, pointed out that
    her company has all-you-can-eat plans, and that is a perfectly
    fine plan for them. They have made a business decision with
    which they are comfortable to try and grow their business.
        We have looked at a variety of places where we have chosen
    to compete. We want to make sure a couple of things: One, there
    is not a plan out there where we do not have a competitive
    price. And on a pay-per-usage plan, where you are paying a
    price per message, we have a competitive price. It is a price
    that is not undercut by our competitor.
        We have focused our attention in many cases on places that
    really move the needle. As I said, less than 1 percent of the
    text messages are sent by customers on a per message pricing
    basis.
        We have focused on our attention on the other 99 percent
    where we have made enormous strides to lower the prices and
    compete very aggressively both on the voice side, the text
    side, the message side, the video side, the phone side. You go
    on and on and on. And that is where we have focused our efforts
    to differentiate ourselves in this particular wireless market.
        Chairman Kohl. Mr. Milch?
        Mr. Milch. Mr. Chairman, from our point of view, the
    decision that a customer makes to go with Verizon or AT&T or T-
    Mobile or LEAP is a complex one. It involves quite a few
    variables. It does not just involve the price for pay-as-you-go
    text service. So you are talking about issues that range from
    what kind of phone that you have, what are the various voice
    plans, what are the data plans, what kind of apps can you get
    on the phone.
        It seemed to us, Mr. Chairman, that the issue of whether we
    would be able to undercut AT&T or T-Mobile or Sprint or anyone
    else on the pay-per-text part of our service and thereby
    attract customers away from one of our competitors is very
    doubtful.
        So competing on a series of price issues and a series of
    differentiated service issues, phone issues, plan issues, is
    very alive and well. You just need to go into any store, look
    on the Internet, and see all the different kinds of plans as
    the various carriers try to compete with one another. But
    focusing on this part of the market, this less than 1 percent,
    or 1 percent of all the text messages that are at issue and
    believing that this is going to drive the competitive needle,
    that was not our marketing judgment, Mr. Chairman.
        So if we were to cut the price, we do not think we would
    attract anybody to our market, because if they are a heavy text
    user, they are not paying 20 cents a text. They are in a plan,
    they are paying a penny a text. If they are a light text user,
    why would they change carriers based upon the pay-as-you-go
    text price?
        So, Mr. Chairman, we do not believe as a marketing matter
    or as a competitive matter that this is a focus where we can
    draw customers away from our competitors.
        Chairman Kohl. But look, guys, back in October of 2006,
    Sprint raised the per message text price from 10 to 15 cents.
    Within months, both Verizon and AT&T also raised their price by
    that amount.
        Then in October of 2007, Sprint again raised the per
    message text price, this time from 15 to 20 cents. That was in
    October of 2007. And by March of 2008, both Verizon and AT&T
    once again matched this price increase within only weeks of
    each other.
        Now, you say it really had nothing to do with people either
    subscribing to your service or not subscribing to your service.
    Ms. Itkin, Cricket does not charge anything. Do you think that
    is a competitive enticement to customers?
        Ms. Itkin. Thank you for the question, Mr. Chairman. Yes,
    Cricket has pricing plans whereby, as I mentioned in the
    testimony, incoming messages are--there is never a charge to
    receive them, and starting in very low-price plans, you receive
    unlimited text messaging. And, sure, we find that we have had
    opportunities to be innovative in our pricing, and I think in
    today's economy that is very important for consumers to have an
    affordable option.
        Chairman Kohl. Well, now, you do not think she is right,
    that price--she says price is an issue. And you are saying
    whether you charge 10 cents, 5 cents, 15 cents, or 20 cents for
    a text message, the individual one, is not a big issue.
        Mr. Watts. For our customers----
        Chairman Kohl. That is what you are saying. And it is
    pretty hard to believe, because if it is not a big issue, what
    are you in business for? Price is a part of your whole
    business. It is a part of how you get customers and keep
    customers.
        If they had not gone up to 20 cents, you would not have
    gone up to 20 cents. Had they gone down from 10 cents to 5
    cents, perhaps you would have done that--if nothing else, not
    to get, you know, beat out on something. That is the way
    business is. And what we are suggesting to you is a clear
    indication, at least on the surface here, that when one went
    up, the next one went up. And, you know, whether or not that
    was done after consultation or before consultation, it clearly
    is not to be doubted to any extent whatsoever.
        Mr. Watts. I am sorry. Was there a question there that you
    would like for me to address? I would be happy to try to
    address that.
        If I might, there is implicit in this entire conversation
    that if two competitors charge the same price for something,
    they must not be being competitive, and there are a number of
    faults with that. Set aside--there is case law after case law
    that says you cannot draw that conclusion from parallel
    pricing. The United States Supreme Court has made that clear.
    Economists would say that does not indicate anything.
        But the real-world economy does not indicate that either.
    You can find businesses after businesses, particularly when you
    have businesses like ours, the wireless carriers who offer a
    broad range of services, features, capabilities, where if you
    go into our pricing sheets, you will find hundreds of examples
    where the prices we charge are markedly different from each
    other. Will you find an example where the price may be the
    same? Yes, of course you will. But, you know, you will find
    that in every single business out there.
        We just happened to do a few little quick checks this
    afternoon of places you can find the common price. Home Depot
    charges the same price for a particular barbecue grill that
    Lowe's does. They charge $960 each for a barbecue grill. Does
    that indicate they have conspired somehow or they are not
    competing. Of course not. They have thousands of other products
    and services that they offer. They compete on another price.
    For some reason--I cannot tell you why--they chose on that
    particular component to charge that price. It does not mean
    anything other than that.
        You can find the same example where Foot Locker and Champs
    Sports charge the same price for a basketball. You say, ``Big
    deal. It is a basketball.'' But it is one thing they offer out
    of thousands of products and services. Does the fact that they
    charge the same price for that basketball mean they do not
    compete on other things? Of course not. And that is exactly
    what we have here.
        We have an example that has been pulled out of hundreds if
    not thousands of different prices, products, services, and you
    say, ``Gee, that is the same price charged here. There must be
    something wrong.''
        But we have to come back to who is using that, and less
    than 1 percent of our text messages are at this price, and
    businesses are simply not going to spend enormous resources in
    a highly competitive environment like we have today in an area
    where there is such a small amount of usage. We focus our
    attention on many other things to differentiate ourselves. And
    that is what has happened here. It is nothing more.
        Chairman Kohl. What is the percentage of your customers
    that use the individual text message, not the percentage of the
    total volume but the percentage of your customers? It is more
    than 1 percent, isn't it?
        Mr. Watts. Would you like to try that?
        Chairman Kohl. Mr. Milch?
        Mr. Milch. Certainly, Mr. Watts. For Verizon, yes, it is,
    Mr. Chairman. It is more than 1 percent. About 26 percent of
    our customers do not use any text messages at all. So we do not
    put together something where they are paying for text messages
    in some sort of a bundle or plan if they do not want to use
    text messages. So they do not need a bundled price or text
    bundled into their cost.
        Of the remaining, of the 74 percent who do text, about 17
    percent total--I do not want to give you the wrong numbers
    here. It is 17 percent of all of our consumers, a little over
    20-odd percent of the 74 percent--do incidental texting and pay
    on a pay-as-you-go basis.
        Chairman Kohl. Thank you.
        Mr. Watts. And our numbers are comparable to Mr. Milch's.
        Chairman Kohl. Yes, that is what I thought.
        I would like to call now on the Ranking Member of this
    Committee, Senator Orrin Hatch.
        Senator Hatch. Thank you, Mr. Chairman. I welcome all of
    you to the company, and this is an interesting subject to me. I
    am sorry I am late, but I have been so involved in the health
    care matters that I have to run back and forth between
    committees to do it, also Intelligence.
        Mr. Kelsey, if the accusation that cellular companies have
    undue market power is true, why then do we see higher prices in
    only one extremely small sector of the texting business? Now,
    customers who pay for each specific text message, called pay-
    for-use, or PPU--you have already brought this out, I am sure--
    make up less than 2 percent of the texting volume for many
    cellular providers.
        Now, is there really that much profit to be made in that
    subsection of the market as compared to the market as a whole?
        Mr. Kelsey. Well, I think it is important to note that,
    yes, this is one example, but this is one example that is
    similar to other individuals services that wireless providers
    offer--for example, data plans and also voice plans--and
    pricing those individual services high is a way to herd
    consumers into the monthly plans that may result in more
    minutes than a consumer will use or need.
        Alternatively, they may buy a 200-texts-a-month plan, and
    then once they pass that limit, or they have a teenage daughter
    or son that passes that limit, they are then paying 20 cents--
    they are back to paying 20 cents to send and receive a text
    message.
        So for us, you know, we are not alluding to any collusion
    here, but we are saying that people do not need to sit in a
    room and come up with a plan from the consumer perspective to
    see the same harm exist in the marketplace.
        The point is that when individual text messaging now,
    consumers are being charged the maximum amount that they are
    willing to pay rather than the lowest cost that a carrier can
    provide it for.
        Senator Hatch. Let me go to Mr. Watts and Mr. Milch. What
    would be your respective companies' profit margin for the PPU
    market? And what percentage of your texting process comes--or
    profit, excuse me, comes from the PPU business? Do you want to
    start first, Mr. Watts?
        Mr. Watts. I do not have the exact number for that. I can
    tell you that because--you could assume that because 99 percent
    of our text messages are on the rate plans, that certainly a
    substantial portion of our profits and revenues come from that
    same percentage of usage.
        I cannot break this down by a particular unit like that
    because our networks are not constructed to provide a
    particular service, pay-per-use versus bundled. I simply cannot
    break it down that way. So, unfortunately, I do not have that
    statistic for you, Senator.
        Senator Hatch. Okay. Mr. Milch.
        Mr. Milch. Ranking Member Hatch, the only statistics I have
    for you is the one that I recall was at our--and it is not
    precise--is that the percent of revenue that Verizon Wireless
    gets from the pay-per-use category of customers is absolutely
    minuscule. It is in the similar percentage rate as the
    percentage of customers that use the plan. So it is a very,
    very small percentage of our revenues.
        I do not have the profit margin broken out the same as Mr.
    Watts does.
        Senator Hatch. Well, Mr. Keshav, are their statements
    consistent with--their statements on profit margin, are they
    consistent with your sly?
        Mr. Keshav. Sir, they did not reply to your question of the
    profit margin. My analysis indicates that if a text message is
    priced at 20 cents, the cost of carrying that is roughly one-
    third of 1 cent, so the profit margin is approximately 19.7
    cents on the 20 cents.
        Senator Hatch. Mr. Watts, PPU prices are going up. How can
    you argue that AT&T is not exerting undue market power in the
    PPU market if prices continue to rise and your companies are
    charging comparably higher rates?
        Mr. Watts. When you say market power, that suggests that
    one company can dictate a price in the marketplace, and we
    simply do not have that ability in such a highly competitive
    environment. Most importantly, what you can see is that AT&T
    competes with all the wireless carriers across a very broad
    spectrum of products and services, and we have different
    prices, different offerings. We differentiate ourselves in a
    variety of different ways. And in this case, with pay-per-use
    text messaging, it is an area where we have not chosen to focus
    our attention to differentiate ourselves, but we are charging a
    rate that is a competitive price, because there is no one in
    the market that has a significantly lower price with the
    exception of companies such as Cricket, and they have a
    different marketing effort. That is great for them. That is a
    perfectly fine business decision for them to make. But we have
    simply chosen to focus our attention in other areas.
        Senator Hatch. Mr. Milch, I understand that you have stated
    that Verizon is attempting to steer its customers toward
    bundled plans. Now, could one do this in a truly competitive
    market devoid of undue market power? That is a question that I
    think needs to be asked, if it has not already been asked.
        Mr. Milch. It has not been, Senator Hatch. Of course, we
    believe we can do this. We believe, as Mr. Watts stated
    earlier, that customers in bundled plans are far more
    satisfied. They have far more predictable bills every month,
    and it is very important for them. It reduces our costs because
    we have lower customer service complaints, and we have much
    more satisfied customers.
        The question of whether we can offer our customers a bundle
    with significantly lower prices and give them the opportunity,
    if they do not want to use very many messages to pay as they
    go, or to opt into a bundle, it seems to me that this is
    perfectly consistent with a competitive market. There is no
    aspect to offering a series of choices within our own plans,
    looking at the plans of our competitors, that suggests that
    there is any market power in the texting market overall, let
    alone as pay-as-you-go market, which I am not quite sure is a
    separate market that has to be considered for whether there is
    undue power in it.
        This is a very broad market. There are billions and
    billions of text messages. As everyone has pointed out, this is
    a market where output has skyrocketed and average prices have
    declined. Those are not the markers of a non-competitive
    market. To the contrary, those are the markers of a competitive
    market where output goes up and prices decline.
        Senator Hatch. Mr. Kelsey, what is wrong with Verizon
    steering people, their customers, to bundled plans? I
    understand these type of plans are very popular and that they
    seem to have and offer better value.
        Mr. Kelsey. Well, from a consumer perspective, I think it
    is not--it is important not to confuse growth with competition.
    What is wrong is that Americans overall pay more than consumers
    in many other developed nations.
        You know, I would suggest that one of the reasons it is
    doubtful that pricing individual text messages lower as any way
    to get competitors from one or the other four national
    providers to switch is because once they are lured into that
    bundle, once they are lured into that contract, they face very
    high switching costs through early termination fees, which we
    believe are punitive in nature, and the fact that their
    handsets are many times linked or limited to the particular
    carrier that they are in a plan with. So it is very hard for
    consumers many times to vote with their feet when they are kind
    of shepherded into one of those longer-term contracts.
        Senator Hatch. Along a different line, Mr. Kelsey, handsets
    and the information they transmit and receive are becoming
    increasingly complex. More than ever, proper integration is
    vital to the successful launch of new cellular projects and
    features.
        For example, I understand that visual e-mail requires
    significant integration work between the headset manufacturer
    and the wireless provider. Therefore, are not exclusivity
    agreements in the long term in the best interests of customers?
        Mr. Kelsey. No, I do not think so. I think that if they
    were ever justified, it might have been very early on when the
    wireless marketplace was still an infant marketplace. Certainly
    now you see 87 percent of Americans have cell phone plans, and
    in a market where there is sufficient demands, we do not
    believe that exclusivity is necessary to boost innovation.
    Rather, I think handset exclusivity is more of a finance
    question. It is one of many ways to finance research and
    development. If you look at other markets like Asia and Europe,
    where close to 85 or 90 percent of the handsets are sold apart
    from the wireless carriers, it certainly, I think, offers a
    window into a different world that is kind of possible in this
    wireless marketplace. Also, if you look at other markets here
    in the United States, for example, handset exclusivity does not
    necessarily--if you look at other markets, for example, like
    computers and the Internet, your Dell does not exclusively work
    with Comcast or Apple does not exclusively work on Time Warner,
    for example. So I think there are plenty of other places where
    the device itself is divorced from the carrier, and that
    represents a boon to consumers because it is more choice, and
    also it provides lower costs.
        Mr. Watts. Senator Hatch, I apologize, but may I have a
    moment to respond to Mr. Kelsey's comments? I have to say,
    candidly, he could not be more wrong. There are so many reasons
    why handset prices are what they are in the United States
    today. And while we hear examples of other countries where you
    have phones that are untethered, what is left out of that
    debate is the effect on prices of the phones, the effect on the
    innovation that is engendered by those exclusive arrangements.
        First, prices of phones in the United States are cheaper
    than anywhere in the world, and they are cheaper for a very
    simple reason: because carriers have a tendency to subsidize
    those prices. They subsidize those prices because they have
    exclusive arrangements with vendors or they have the ability to
    incur--or drive down the cost of the phones that they buy. We
    have, obviously, one of the more popular phones in the arena
    today, and that is great for the American public.
        Recently, it was announced that Apple would charge $99 for
    an iPhone. That could not happen if that price was not
    subsidized by AT&T. We would not be inclined to subsidize that
    price if we did not have the ability to recoup the cost of that
    subsidy. That carries throughout the market.
        Other companies have exclusive arrangements where they have
    done exactly the same thing, and what that has done is hugely,
    hugely benefited the American public because they pay less for
    phones.
        On the innovation front, nobody had an idea about touch-
    screen technology and all the things the iPhone did until it
    came out and until it was successful. And what has happened in
    response to that? Competition, competition, competition. Every
    phone manufacturer is spending enormous amounts of money to
    create the iPhone killer. If you go to the Internet and put in
    the phrase ``iPhone Killer,'' you will find millions and
    millions of hits for all the stories that have been written
    about people trying to respond. That is the essence of
    competition in this country.
        Senator Hatch. Well, thank you. I have a question for you,
    Ms. Itkin, and we will submit it in writing because I have
    taken more time than I should. And I know Senator Klobuchar has
    a limited time, so I will finish with that.
        Chairman Kohl. Thank you, Senator Hatch.
        Senator Klobuchar?
        Senator Klobuchar. Thank you very much. Thank you, Mr.
    Chairman, for holding this hearing. I am running back and forth
    as well to the Julius Genachowski confirmation hearing for the
    FCC, which is relevant here. Maybe I will ask some of the same
    questions there.
        But I will say that my focus in this area has been on the
    second part of the hearing that the Chairman has set up, and
    that is just the competition of the cell phone industry in
    general. And my impression has been that this industry started
    out with little regulation, understandably. It was back in the
    days when the movie ``Wall Street'' was out and Gordon Gecko
    had a huge cell phone the size of a briefcase, and we have now
    gotten to a point in this country that there are more than 270
    million wireless subscribers. Almost 18 percent of American
    households have only a wireless phones. Americans are using
    mobile Internet capabilities as never before. And as we have
    talked about, they are sending text messages at an amazingly
    high rate, more than a trillion messages last year.
        As we speak, I am sure about 50 of my colleagues have sent
    some kind of a text message.
        In the past few years, we have also seen this unprecedented
    consolidation in the wireless sector, and while this was
    occurring, as has been discussed already, we saw some dramatic
    increases in the prices of individual text messages.
        We also have other concerns, and I want to talk about that.
    I introduced a bill last year called the ``Cell Phone Consumer
    Empowerment Act'' with a number of my Commerce colleagues. And
    I am sure we are going to be reintroducing something like that.
        I have appreciated some of the changes that have been made,
    especially with the early termination fees. When we launched
    that bill, there was not much work done on that, and now there
    have been some dramatic changes with the early termination
    fees.
        Also, that bill focuses on automatic contract extensions
    and the lack of information about service coverage, and that is
    where I want to start today. Still having spent the weekend
    driving around my State on major roads, I can still tell you
    that in rural parts of our country--and Minnesota is not what
    my friend Senator Begich calls ``extreme rural,'' but there are
    rural parts, and these are major interstate highways where the
    cell phone coverage still goes bad. It is very frustrating for
    people in my State, and especially when they think they are
    getting a cell phone coverage that covers a certain area. And I
    think this hurts competition, if you want to talk about the
    competition generally, that people do not have full
    information.
        My feeling is that they do not have full information when
    they buy a cell phone of where the drop calls are and what the
    problems are, and that is why we want to get a handle on that
    with this bill. And I would like you to comment, whoever wants
    to, on this area about the rural phone service and the lack of
    phone service and how we have issues despite all this growth in
    the market with competition to serve these areas. Ms. Itkin.
        Ms. Itkin. Mr. Chairman, Senator Klobuchar, thank you for
    the question. I really think Cricket is an example of what can
    happen and what kind of services can be provided to consumers
    when we are allowed to compete. We do a lot of the things
    already today that you are trying to address in your
    legislation. Talk about disclosure, we want simplicity and
    predictability for our customers. They do not get surprise
    charges. They know what their monthly bill is going to be month
    after month. And since we do not have an early termination fee
    and we do not subsidize our handsets--we are one of the
    carriers that does not--we have to earn our customers month
    after month after month. They can leave, port their number, and
    go to a competitor.
        So it is very important because we are offering some of the
    most affordable rates and some of the most value-rich services
    today that Congress and the FCC ensure that some of the
    industry issues are there to promote competition today and into
    the future. And I have discussed some of those in my opening
    statement about the constraints on spectrum for small and mid-
    size carriers as well as the roaming loopholes that are here
    today that need to be filled.
        Again, finally, if these issues, I think, are addressed,
    you are going to see more competition, and I think that if----
        Senator Klobuchar. So your argument would be you fix some
    of these roaming loopholes, and you would be able to better
    offer service in the rural areas?
        Ms. Itkin. Absolutely, because then we will be able to
    provide seamless coverage for consumers and provide head-to-
    head competition every day to the Big Four.
        Senator Klobuchar. What we tend to do is take three
    different cell phones out with us because one will maybe work
    in a certain area, which is the problem, which is why I do not
    see this great competition in so many parts of our State.
        Mr. Kelsey.
        Mr. Kelsey. Sure. Thank you for the question. So there is
    some good news, I think, and you alluded to that earlier. You
    know, we have seen services--for the very first time, Consumer
    Reports this year reported that service itself has increased
    and consumer satisfaction is increasing.
        Senator Klobuchar. Right.
        Mr. Kelsey. At the same time, prices are going up and that
    is the new top concerns that consumers have. Prices are going
    up, and there are fewer market providers than ever before.
        So I think it is important to look at that and to also look
    at the barriers to entry that stop some of the smaller
    competitors from becoming bigger and going out to provide
    service to the few places that still do not have it in America,
    not only for voice is that--for voice we see that with the in-
    market exception for voice roaming and also data roaming. But
    on the data question, in particular, which I think is extremely
    important, because data is the service that will drive wireless
    communications for the next 10 years, we see special access
    fees, which are the on ramps to the Internet, getting charged
    at, in our view, discriminatory rates on their competitors, and
    handset exclusives I would like to go back to, which really
    stop consumers from being able to choose a more rural or
    smaller provider because they do not necessarily have the
    phones that consumers want. And if a rural provider or a
    smaller provider cannot get those handsets, they cannot attract
    the customers that will buy the data service, and they cannot
    invest in their data infrastructure. And that is a big problem.
        Senator Klobuchar. And what do you think about this
    argument--you know, Senators Kerry, Wicker, Dorgan, and I just
    sent a letter to the FCC asking them to expedite their
    consideration of the handset exclusivity relationship. What do
    you see as this argument that was made by Mr. Watts, Mr.
    Milch--Mr. Watts especially--about this innovation, a response
    to that, the innovation that he says AT&T has been able to
    develop or that Apple has been able to develop because of the
    exclusivity relationship?
        Mr. Kelsey. Well, thank you for the letter, by the way. I
    think, you know, we very much support that action, and I had
    mentioned it in my spoken testimony.
        On innovation, you know, I think it is really important to
    note that it is not the wireless provider that is the innovator
    here. It is the device manufacturer that is the innovator. And
    we have seen devices where services have been crippled as they
    have come over or they have been developed in the United States
    marketplace. There is evidence of phone manufacturers coming
    out and saying, you know: Look, we had call timers that we
    wanted to offer consumers, but we have been told we should not
    roll those out. We have had GPS that we wanted to offer for
    free to consumers, but we were told we cannot role that out
    until the carriers figure out a way to ask consumers to pay for
    it.
        This week, we are going to see the iPhone 3GS, and some of
    the options available there with tethering and with higher
    speed services are available in Europe, but they are not yet
    available here in the United States.
        You know, I really do believe that innovation is--I really
    do believe that handset exclusivity is just one way to finance
    research and development. It is a finance question. It is not a
    necessary question, especially if you have a marketplace where
    there is lots of demand and consumers are clamoring for
    different types of phones. More options should be available at
    lower prices.
        Senator Klobuchar. Now, Mr. Milch, Verizon has announced
    that it is going to reduce the exclusive period it has over at
    least two of your phones--is that right?--to 6 months, so you
    are going to reduce that. Am I correct?
        Mr. Milch. Yes, Senator, we offered to the rural carriers
    that we would, for our LG and Samsung handsets, be willing to
    reduce the exclusive period to 6 months.
        Senator Klobuchar. And why those models? Why those phones?
        Mr. Milch. Those are our most popular models and phones,
    and that is why--they are the largest grouping. That is why.
        Senator Klobuchar. And so what do you think is the average
    life span of one of these phones in today's market until you
    can sort of give up the exclusivity arrangement?
        Mr. Milch. You know, I am not sure. I think that many of
    these phones go through major, major series of iterations, and
    many of them have been on the market for quite some time.
        I would also note that I think that the notion that all of
    a sudden getting rid of handset exclusives as a mandatory
    aspect, as Government intervention to outlaw certain types of
    contractual arrangement, with respect, I do not believe it is
    going to have any effect on the issues that Mr. Kelsey is
    speaking about. It is not going to put a single handset,
    getting rid of those exclusives, into the hands of another
    carrier. That carrier has to work with the device manufacturer
    to make sure that it works on their network.
        There is mutual development that goes on, and a great deal
    of mutual development. With all due respect to Mr. Kelsey, he
    does not know what he is talking about when he simply says that
    it is only the device manufacturer that innovates. It is a
    cooperative venture that results in innovation, and so if
    someone wanted the Verizon experience with a certain phone, I
    can tell you if they went to a different carrier, they would
    not get it because that Verizon----
        Senator Klobuchar. And how do you respond to what is
    happening in Europe?
        Mr. Milch. Well, I respond to what is happening in Europe--
    I do not know which aspect of it. My view is that Europe has a
    paucity of handsets compared to the United States. For
    instance, we talked about the prices in the U.K. or what is
    available in the U.K. They have about 150 handsets in the U.K.
    We have over 630 different handsets available in the United
    States, and that is directly related to the innovation that is
    going on here. And I think that any view that there may be a
    different way to fund innovation is simply ahistorical. We have
    the evidence before us. We have years of innovation in handsets
    that has come about from a system where there are contracts
    between providers and device manufacturers that involve some
    period of exclusivity. It is the same theory that underlies the
    patent system in the United States, and it rewards innovation
    by providing a period of exclusive dealing.
        Senator Klobuchar. But yet with some of these handsets--
    which is good, you are reducing that exclusivity period to a
    shorter period of time. And I think one of the things, as we
    saw with early termination fees, gradually sometimes the
    marketplace evolves. And arguments that can be made early on
    may be changed as the technology develops and there is more
    innovation out there and a focus then focuses on price, more of
    a focus on price and allowing consumers to get things at a
    better price.
        My concern here is more that for so many of my constituents
    now, this is becoming their only phone, and so they are very
    price-sensitive in a very difficult economic time. And they get
    locked into these contracts. So then we have to look at the
    early termination fees, like we did before, and they do not--
    they try to buy the best phone for their service area, and then
    they figured out that what they read did not really cover that
    service area.
        So that is all we are trying to do here, is get more
    competition in some of these areas--what I am trying to do--so
    that they actually get service. I am here talking about areas
    that tend to have more drop call service. Maybe they have some
    service, but then you go one block out of town, and they do not
    have service.
        Mr. Watts.
        Mr. Watts. I appreciate you giving me an opportunity to
    address that particular issue. My company, AT&T, I believe is
    particularly committed to the rural markets, and we have
    demonstrated that commitment in a number of ways. We have
    demonstrated it with our dollars and cents. In the last few
    years, we have had a number of transactions where we have tried
    to go out and acquire additional spectrum network assets. That
    includes Dobson Wireless, which we acquired about 2 years ago;
    Centennial Wireless, which we have a pending contract to
    acquire; and we have recently entered into a contract to buy a
    number of assets from Verizon that they have to divest as a
    result of their acquisition of Alltel.
        One of the most common attributes of each of those three
    transactions I just described is the geographic area they serve
    would generally be described as rural. And we have taken that
    step and gone out and committed to spend billions of dollars to
    get into those markets so we can bring advanced features and
    capabilities to the very types of areas that you are talking
    about and you are focused on.
        So we have a very significant commitment to that, and it is
    not just words. I can point to those dollars and cents that we
    spent there.
        In addition, we are spending this year, AT&T's capital
    budget--and it is not just for wireless. Our capital budget as
    a whole is going to be between $17 and $18 billion in 2009.
    That is an enormous number. There are very few companies in
    this country or in this world who are making that kind of
    investment in this environment.
        There is another key factor I want to point out. When we
    make that investment, the work that is done on our networks is
    done by the largest unionized full-time workforce in America
    today. So we are not only investing in America, we are not only
    investing in rural America; we are creating and maintaining
    good, solid, high-paying positions, unionized workforce. We are
    the only wireless company that has any significant or any
    unionized workforce at all.
        So you put all that together, and the very concerns that
    you have expressed I believe we are addressing head on, and I
    appreciate you giving me the chance to point that out.
        Senator Klobuchar. Okay. Thank you very much. But I will
    bring you to Staples in a few of our other towns and see if the
    phones work. We still have some challenges. I appreciate that
    and look forward to working with you as we look at
    reintroducing this legislation.
        Thank you.
        Chairman Kohl. Thank you very much, Senator Klobuchar.
        Mr. Milch and Mr. Watts, a single text message is limited,
    as you know, to 160 characters and does not cost very much at
    all for your cell phone networks to carry this information. Was
    the doubling of text message prices on a per message basis
    between 2006 and 2008 in any way justified by increases in your
    cost?
        Mr. Milch. I will go first. Mr. Chairman, we are a multi-
    product firm. Every multi-product firm has to recover all of
    its costs across its various products. There is no reason in a
    competitive market to believe that in any one particular point
    in time--at least as I understand the economics, Mr. Chairman--
    that prices are going to come to cost. We do not base our text
    message prices on our cost in that sense. We certainly are
    mindful of our cost, but with respect to Professor Keshav's
    analysis or the analysis that it does not cost very much for
    our network to do it, to carry a text message, I think there
    are two important points.
        The first important point is that looking at the long-run
    incremental cost or some sort of cost that looks at the cost
    for putting the next text message on the network ignores the
    fact that you had to have the network in the first place. We
    had to make huge investments in spectrum, huge investments in
    computers and switching, in order to be able to carry even the
    first text message. And so those text messages have to carry
    all those shared and common costs along with every other
    service we have. That is the first issue.
        The second issue is, as I noted, I believe, quite frankly,
    Senator, that the question of cost is not relevant to this
    issue. We are not sitting here in a regulated industry, nor
    should we be, where the question is: What is your cost for that
    product? That is not the way that prices are set in a
    competitive industry.
        And so I believe, Chairman Kohl, that the cost issue is
    interesting but not relevant to the question of what our prices
    are.
        Chairman Kohl. Do you want to say something, Mr. Watts.
        Mr. Watts. If you do not mind, Mr. Chairman. I do want to
    point out that implicit in your question was an acceptance of
    some of the testimony that you have heard today that the
    increase in the quantity or the volume of text messages has not
    resulted in an increase in cost to a carrier. And with all due
    respect to Dr. Keshav, the network that he describes that can
    increase simultaneously the capacity to handle trillions of
    minutes of voice traffic and simultaneously handle billions, if
    not trillions, of text messages, and to suggest that that
    network exists that can do that without additional cost would
    be to describe a network that would be magical in its
    proportions. But it does not exist. That network is a myth.
        There are enormous costs incurred in building these
    networks. Mr. Milch went through some of those, and it goes on
    and on, from the spectrum to the carriers to the networks. And,
    most importantly, while you have heard that all of the text
    messages could be carried on only 280 cell sites in the world,
    that would be great if the entire world lived around 280 cell
    sites. But they do not. They live around all the world which
    takes, as Mr. Keshav said, 300,000 cell sites were built in the
    period of time he mentioned in his testimony. Why? Because that
    capacity had to be created. And to create that capacity you
    incur costs.
        So his fundamental premise is simply flawed, and I
    appreciate the opportunity to respond.
        Chairman Kohl. I appreciate that. You know, one of the
    purposes of this hearing today is hopefully to come up with
    more vigorous competition in the industry. And you can
    understand how we want to do that because we are here to
    protect consumers. We are not here to try and be destructive to
    you, but we are here to try and protect consumers. And we
    always assume that when you have a sufficient level of
    competition, that results in better deals for consumers. And I
    am sure you could understand our premise and why we are here
    today in that regard.
        Again, Mr. Milch and Mr. Watts, as you know, a consumer is
    charged both to send and also to receive a text message. And
    once a text message is sent to a consumer's phone, they are
    charged 20 cents, or whatever the plan is, regardless. So they
    have no way to decline a message.
        Do you have the technology to allow them to decline a
    message? And if you do, shouldn't they be allowed to decline a
    message and thereby save the cost?
        Mr. Watts. Well, let me go first because my answer is going
    to be short. I do not know. I very much hate to have to say
    that to you, Mr. Chairman, but I simply do not know the answer
    to that question. We will certainly try and find out, and we
    will get back to you.
        Chairman Kohl. Mr. Milch, you must know.
        Mr. Milch. Mr. Chairman, I wish I did. We do have the
    ability to provide our customers with the ability to receive no
    text messages. They can go on and, as a matter of customer
    care, elect to lock their handset out of receiving text
    messages entirely.
        On a message-by-message basis, Mr. Chairman, I do not know.
        Chairman Kohl. Mr. Keshav.
        Mr. Keshav. I believe that the existing text messaging
    standard does not have a message which could be sent by the
    consumer to say ``decline.'' That is not in the standard today,
    as I know it. That would be GSM standard 34, I believe. But you
    could always have some kind of billing system which would take
    care of it. It will complicate matters enormously. I do not
    think that would be a way I would want to go. As an engineer, I
    would not go there. That is my answer.
        Chairman Kohl. All right. Mr. Milch and Mr. Watts, wasn't a
    major motive for these price increases in text messaging to try
    and cause consumers to move to your plans which start at $5 a
    month? And didn't raising the price of text messaging have the
    intended effect of encouraging and pushing consumers into the
    bucket plan because the individual text message was going up
    and up and up? This is not necessarily something that is not
    legal, of course, but I just want to understand how your
    marketing plan works. The more it costs on an individual text
    message, the more likely it is that a consumer is going to go
    to a bucket plan, right?
        Mr. Milch. We believe so, Mr. Chairman, at Verizon.
        Chairman Kohl. Mr. Watts.
        Mr. Watts. I believe that is the case, and I believe our
    customers have voted with their pocketbooks and said that is
    where they get their most value, yes, sir.
        Chairman Kohl. Okay. Mr. Milch and Mr. Watts, one way that
    phone companies restrict competition is by locking in customers
    to 2-year service contracts. If a consumer wants to switch
    carriers in advance of the contract's expiration, then they
    must pay a hefty early termination fee, as you know, sometimes
    as high as $250.
        What is your policy for prorating the contracts where the
    fee is reduced to reflect the amount of time remaining on the
    contract? For your information, you both have prorated
    termination fees, but they are inadequate in the sense that if
    an AT&T customer cancels their plan only a month before the 2-
    year contract is up, they still have to pay much more than a
    prorated amount to terminate. You understand that.
        Mr. Watts. I understand the question. Unfortunately, it is
    not accurate. It would have been true a year ago, but it is not
    true today. We have changed our early termination fee process
    where it does decline on a monthly basis. And if you get to the
    point that you just described, today you would pay basically,
    assuming a 2-year contract, \1/24\ of the contract price in
    early termination penalty. So that is no longer the case, but I
    concede it was at one time.
        Chairman Kohl. I hope you are right. According to my
    information, if they want to terminate just a month before, now
    it costs $60, which is not \1/24\. I could be wrong on that,
    but that is my information.
        Mr. Watts. Well, I will certainly confirm that, but my
    recollection is that we have changed it where it declines on a
    pro rata basis. And if that is not--I will get back to you
    either way, but I will certainly get back to you if I am
    incorrect.
        Chairman Kohl. All right. Anybody else have a comment that
    you want to make, some idea or some thought you want to
    express? Mr. Kelsey.
        Mr. Kelsey. Mr. Chairman, on early termination fees in
    particular, I would just add that, you know, from a consumer
    perspective, it is a huge barrier to switching carriers because
    that fee starts out at such a high level; and just because it
    goes down $5 a month, it does not seem to them to be linked to
    what the cost is to the carrier of that consumer then switching
    service. After they have been with a carrier for 18, 20 months
    and have paid back the subsidy on the phone, there is no reason
    that a consumer that wants to switch providers should not be
    able to and should not be able to also bring their phone with
    them.
        Thank you.
        Chairman Kohl. Ms. Itkin.
        Ms. Itkin. Thank you, Mr. Chairman. I just wanted to state
    that Mr. Milch and Mr. Watts talked about how much investment
    their companies were making. Well, Cricket has made billions of
    investments, too, in building facilities. We spent over $1
    billion on spectrum in the advanced wireless services, and we
    are putting people to jobs, to work today building out
    networks. And I think it is important we are able to offer
    affordable prices on our plans despite the kind of investments
    that we are putting into the network. And I think it is very
    important that we have reform for spectrum policy and roaming
    policy so that competitors like us can continue to be
    successful today and in the future.
        Chairman Kohl. Thank you.
        Mr. Keshav.
        Mr. Keshav. I would like to take a moment to respond to Mr.
    Watts and Mr. Milch on the points that they raised about my
    prior testimony. But first about the fact that the incremental
    cost is what I am considering and not the cost to build the
    network in the first place.
        I would like to point out that my analysis is looking at
    the cost--establishing equivalence between voice minutes and
    text message minutes, and the voice minutes also have to pay
    for the up-front cost. So I believe that my analysis is, in
    fact, accurate.
        Mr. Milch also made the point that cost is not relevant to
    the issue, that prices are not set that way. I completely agree
    with him. There need not be any relationship between price and
    cost, and my testimony is focusing purely on the cost. I have
    no comment to make about the prices.
        Finally, I would like to raise a point that Senator
    Klobuchar made about the rural areas. Rural areas always have a
    problem because the amount of revenue that can be derived per
    square inch in rural Minnesota is a lot less than what a
    carrier can derive per square inch in Manhattan. And if you do
    want equivalent quality of service in both areas, you have to
    do what was done by the Congress in 1920, which is the
    universal service obligation that AT&T took on, and put in some
    kind of obligation. But that means it will be a cross-subsidy
    from more expensive markets to currently less-dense markets.
    That will be something that needs to be decided by policy. It
    is not something that competition is going to fix, in my
    opinion.
        Thank you very much, sir.
        Chairman Kohl. Thank you.
        Mr. Milch.
        Mr. Milch. Mr. Chairman, thank you very much for the
    opportunity to appear here today. In conclusion, I would only
    reiterate my belief that the wireless market in America is a
    great success story, and it is a great success story that we
    need to look at and take a lesson from. That lesson is that
    under the current set of rules, which are very light-handed,
    there has been hundreds of billions of dollars of investment;
    many, many jobs that have been created and are still going to
    be created out of the wireless industry in this country, and
    that innovation has been startling and prices overall have gone
    down.
        So I believe that we have a situation that, with all due
    respect, we ought to be very careful if we are going to muck
    with it.
        Thank you, Mr. Chairman.
        Chairman Kohl. I thank you so much, and all the other
    panelists, for being here today. We are going to leave the
    record open for 1 week, and I believe that today's hearing
    demonstrates the importance of encouraging vigorous competition
    in the industry as well as focusing on text messaging pricing.
    We will continue to closely follow these issues on this
    Committee. I believe that the Justice Department and the FCC
    should be taking action to ensure that undue barriers to
    competition in the cell phone industry are removed, including
    by the FCC enacting the necessary regulatory reforms.
        As always, this Subcommittee is interested in encouraging
    competition in the interest of both capitalism and the
    consumers who support capitalism. So we thank you all for being
    here today.
        This hearing is concluded.
        [Whereupon, at 3:53 p.m., the Committee was adjourned.]
        [Questions and answer and submission for the record
    follow.]

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