[Federal Register Volume 62, Number 80 (Friday, April 25, 1997)]
[Rules and Regulations]
[Pages 20124-20126]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 97-10718]


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FEDERAL COMMUNICATIONS COMMISSION

47 CFR Part 32

[CC Docket No. 93-240; FCC 97-80]


Accounting for Judgments and Other Costs Associated With 
Litigation

AGENCY: Federal Communications Commission.

ACTION: Final rule.

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SUMMARY: On March 13, 1997, the Commission adopted a Report and Order 
(``Order'') (FCC 97-80, CCB released March 13, 1997) establishing what 
accounting rules and ratemaking policies should apply to litigation 
costs incurred by carriers subject to the Commission's rules.
    A fundamental requirement of Title II of the Communications Act of 
1934, as amended, is that ``all charges * * * for and in connection 
with [interstate] communication service, shall be just and 
reasonable.'' This provision safeguards consumers against rates that 
are unreasonably high and guarantees carriers that they will not be 
required to charge rates that are so low as to be confiscatory. 
Carriers under the Commission's jurisdiction must be allowed to recover 
the reasonable costs of providing service to ratepayers, including 
reasonable and prudent expenses and a fair return on investment. This 
fundamental requirement is unchanged by the Telecommunications Act of 
1996.
    The Commission has proposed and adopted accounting rules that 
would: Require carriers to account for adverse antitrust judgments and 
post-judgment antitrust settlements below the line in Account 7370, a 
nonoperating account for special charges; defer other antitrust 
litigation expenses during the pendency of antitrust litigation; and 
account for the expenses below the line in the event of an adverse 
judgment of a post-judgment settlement.

EFFECTIVE DATE: May 27, 1997.

FOR FURTHER INFORMATION CONTACT: Thomas David, Attorney/Advisor, 
Accounting and Audits Division, Common Carrier Bureau, (202) 418-7116.

SUPPLEMENTARY INFORMATION: We conclude that rules are still needed for 
federal antitrust judgments and settlements that exceed the avoided 
costs of litigation of the case, but not for litigation expenses. We 
further conclude that extension of the rules to litigation unrelated to 
federal antitrust litigation is not warranted at this time.

Regulatory Flexibility Analysis

    In the NPRM (50 FR 19421, May 8, 1985) Amendment of the Uniform 
System of Accounts for Class A and Class B Telephone Carriers to 
Account for Judgments and Other Costs Associated with Antitrust 
Lawsuits, and Conforming Amendments to the Annual Report Form M, CC 
Docket No. 85-64, Notice of Proposed Rulemaking, 2 FCC Rcd 3241 (1985), 
the Commission certified that the Regulatory Flexibility Act (RFA) of 
1980 did not apply to this rulemaking because the rules it proposed to 
adopt in this proceeding would not have a significant impact on a 
substantial number of small businesses. The Commission's RFA in this 
Report and Order (Accounting for Judgments and Other Costs Associated 
with Litigation, Report and Order, CC Docket No. 93-240, FCC 97-80 
(1997)) conforms to the RFA, as amended by the Contract With America 
Advancement Act of 1996 (CWAAA), Public Law 104-121, 110 Stat. 847 
(1996). No comments were received specifically concerning the proposed 
certification. However, some comments were received generally 
concerning the impact of the proposed rules on small entities. For the 
reasons stated below, we certify that the rules adopted herein will not 
have a significant economic impact on a substantial number of small 
entities. This certification conforms to the Regulatory Flexibility Act 
(``RFA''), as amended by the Small Business Regulatory Enforcement 
Fairness Act of 1996 (``SBREFA'').
    The NPRM certified that no regulatory flexibility analysis was 
required because

[[Page 20125]]

the entities affected by the proposed rules were either large 
corporations, affiliates of such corporations, or were dominant in 
their field of operations and therefore not small entities. However, 
the rules we adopt in this Report and Order apply to all carriers 
providing interstate services, some of which may be small entities. 
Moreover, since the NPRM, we have stated that although we still 
consider small incumbent LECs to be dominant in their field of 
operations, we now include such companies in our regulatory flexibility 
analyses. Consequently, we cannot certify that no regulatory 
flexibility analysis is required for the reasons offered in the Notice.
    Nonetheless, we still certify that no regulatory flexibility 
analysis is necessary here. As the two parties commenting on small 
entity issues observed, it is unlikely that a substantial number of 
small LECs will be subject to federal antitrust litigation. 
Consequently, it does not appear that the rules will affect a 
substantial number of small entities. Even if a substantial number of 
small entities were affected by the rules, there would not be a 
significant economic impact on those entities. These rules govern the 
accounting treatment of federal antitrust judgments and settlements in 
excess of the avoid costs of litigation, but not litigation expenses. 
BellSouth, in commenting on small entity issues, contended that the 
proposed rule, which would have required all carriers, including small, 
to accrue litigation costs in a separate account and record them below 
the line if the carrier lost its legal action, would be unduly 
burdensome on small LECs. This Report and Order does not adopt that 
proposal, thereby eliminating this concern.
    We therefore certify pursuant to section 605(b) of the RFA that the 
rules adopted in this order will not have a significant economic impact 
on a substantial number of small entities. The Commission will publish 
this certification in the Federal Register, and will provide a copy of 
the certification to the Chief Counsel for Advocacy of the SBA. The 
Commission will also include the certification in the report to 
Congress pursuant to the SBREFA.
    Report to Congress. The Secretary shall send a copy of this Final 
Regulatory Flexibility Analysis, along with this Report and Order, in a 
report to Congress pursuant to the Small Business Regulatory 
Enforcement Fairness Act of 1996, 5 U.S.C. Sec. 801(a)(1)(A). A copy of 
this Final Regulatory Flexibility Analysis shall also be published in 
the Federal Register.

Summary of Report and Order

    Historically, the Commission allowed carriers to record litigation 
expenses in above-the-line accounts and retained the option of 
disallowing such costs on an ad hoc basis in ratemaking proceedings. 
Litigation tended to arise from contract disputes, tort liability for 
accidents, or worker's compensation claims, which were viewed as 
matters arising out of the ordinary course of business. Penalties and 
fines paid on account of violations of statutes, however, were recorded 
below the line.
    In the 1970's, government and private antitrust litigation 
involving AT&T and other carriers subject to the Commission's 
jurisdiction increased substantially. Anticipating the need to 
determine whether the large sums AT&T spent defending these antitrust 
suits should be charged to ratepayer or shareholders, the Commission 
initiated a Notice of Inquiry in 1979 (Notice of Inquiry 70 FCC 2d 
1961, 1961-62 (1979) to develop a policy of general applicability so 
that it could avoid having to make this determination in each future 
rate proceeding. The Commission concluded that tariff and rate case 
review mechanisms provided suitable fora for identifying and 
disallowing such costs. Additionally, however, the Commission asked the 
Telecommunications Industry Advisory Group that was rewriting the 
Uniform Systems of Accounts for telephone companies whether more 
detailed accounts or reports for litigation expenses were needed.
    The Commission revisited the question after the substantial treble 
damages antitrust judgment in the Litton Systems case (See Litton 
Systems, Inc. v. American Tel. and Tel. Co., 700 F.2d 785 (2d Cir. 
1983), cert denied, 464 U.S. 1073 (1984) became final against AT&T and 
its former subsidiaries, the regional Bell operating companies. The 
Commission ordered AT&T and the regional Bell operating companies to 
record the Litton Systems judgment below-the-line in the nonoperating 
account used for penalties and fines for violating statutes, and it 
further ordered that they credit the operating accounts in which they 
had carried their defense costs and reclassify these costs to the same 
nonoperating account in which the judgment was to be recorded. Although 
this was only an accounting change, this change presumptively removed 
these costs from the ratemaking process. After the Commission denied 
reconsideration, the carriers sought judicial review of accounting 
treatment and resulting presumption for their litigation expenses. They 
did not challenge the treatment of the antitrust judgment or the 
interest thereon.
    The Commission also conducted a rulemaking proceeding to clarify 
the accounting treatment of litigation costs incurred in both antitrust 
lawsuits and other lawsuits in which violation of any federal law was 
alleged (see Notice of Proposed Rule Making to Amend Part 31 Uniform 
System of Accounts for Class A and Class B Telephone Carriers to 
Account for Judgments and Other Costs Associated with Antitrust 
Lawsuits, and Conforming Amendments to the Annual Report Form M, CC 
Docket No. 85-64, Notice of Proposed Rulemaking, FCC 85-120 (released 
May 3, 1985) (Litigation Costs NPRM); Report and Order, 2 FCC Rcd 3241 
(1987) (Litigation Costs Order); recon. in part, 4 FCC Rcd 4092 (1989) 
(Litigation Costs Recon. Order) (collectively, Litigation Costs 
Proceeding), vacated and remanded sub nom. Mountain States Tel. and 
Tel. Co. v. FCC, 939 F.2d 1035 (D.C. Cir. 1991) (Litigation Costs 
Decision). It concluded that payments incurred as a result of adverse 
antitrust judgments or post-judgment settlements should be recorded 
below the line in a nonoperating account, but allowed ratemaking 
recognition of the saved litigation expenses of the suit (See 
Litigation Costs Recon. Order, 4 FCC Rcd at 4097-98). The ongoing costs 
of defending the litigation would continue to be recorded in an 
operating account as accrued but would be transferred to a nonoperating 
account when a judgment adverse to the carrier became final or if a 
settlement were entered after an adverse judgment. This accounting 
treatment was extended to litigation costs arising from alleged 
violations of any federal law. As with the Litton Accounting Order, 
this treatment presumptively removed from the ratemaking process the 
litigation costs other than certain pre-judgment settlement costs 
arising from a carrier's violation of antitrust and other federal laws, 
and shifted to the carriers the burden of showing the reasonableness of 
including such costs in their revenue requirements. This, too, was 
challenged.
    The Court of Appeals for the District of Columbia Circuit vacated 
both Commission orders on the same day and remanded each case for 
further proceedings. In Litton Accounting Appeal, the court was not 
persuaded that the illegality of the underlying carrier conduct was a 
sufficient reason, by itself, for exclusion of the litigation defense 
expenses from ratemaking and admonished the Commission to scrutinize 
the reasonableness of the expenses with ``a wider and more

[[Page 20126]]

discriminating focus.'' The court also found that the Commission's 
policy was not sufficiently explained.
    In Litigation Costs Decision, (939 F.2d at 1042), the court 
remanded the Commission's Litigation Costs Proceeding because: (1) The 
Commission did not adequately justify application of the rules to 
violations of federal law other than antitrust law; and (2) the 
Commission did not sufficiently consider the probable effects of its 
rule on the companies' incentives to either settle or litigate 
lawsuits. The court also stated that the Commission had failed to 
explain why its reclassification of litigation costs was not 
retroactive ratemaking. Although the court vacated the Commission's 
orders, it specifically acknowledged the Commission's ``special 
responsibility * * * regarding the competitive behavior of the common 
carriers subject to its oversight.'' In discussing the accounting 
treatment for antitrust judgments, the court stated that the Commission 
may disallow any expense incurred as a result of carrier conduct that 
cannot reasonably be expected to benefit ratepayer and that the 
Commission acted reasonably in aligning the presumption against 
recovery with the majority of antitrust cases in which consumers do not 
benefit from the conduct occasioning liability. The court found no 
fault with the Commission's treatment of either adverse antitrust 
judgments or pre-judgment settlements in antitrust cases, although it 
faulted the Commission for failing to consider the possible perverse 
incentives arising from its asymmetric treatment of post-judgment 
settlements, which ultimately could also increase the amount 
recoverable from ratepayer. The court agreed that the same rationale 
that the Commission used in determining that an ILEC could not recover 
an antitrust judgment also applies with respect to litigation expenses 
because the reasonableness of the underlying conduct, not the defense 
of the conduct, determines whether the expense is reasonable.
    In this proceeding, the Commission has concluded that its rules 
should require that adverse antitrust judgments be accounted for below-
the-line in Account 7370. This would include any associated interest 
and awards of attorneys fees to adversaries. Fines and penalties have 
always been accounted for below-the-line, and this practice will 
continue. The Commission has also concluded that settlement costs paid 
by carriers to resolve antitrust litigation should be accounted for 
below-the-line in Account 7370, but it modified its proposal to allow 
carriers to recover in ratemaking the saved litigation expenses of both 
pre- and post-judgment settlements entered before any adjudication of 
anticompetitive misconduct becomes final. The Commission has also 
concluded it should change how we treated the costs of defending 
antitrust litigation. In the previous rulemaking, it allowed litigation 
expenses associated with an adverse judgment or a post-judgment 
settlement to be recorded above-the-line but made them subject to 
``recapture.'' This recapture doctrine created a presumption that these 
expenses would be excluded from a carrier's revenue requirements (See 
Depreciation Simplification NPRM, 8 FCC Rcd at 6656). In the present 
rulemaking, the Commission altered the presumption to provide that 
these costs may continue to be recorded above the line in operating 
accounts. Finally, the Commission has concluded that the record before 
us provides insufficient basis for changing the current accounting 
treatment of alleged or adjudicated violations of state or federal laws 
other than federal antitrust laws. This means that only costs related 
to judgments or settlements in lawsuits stemming from violations of 
federal antitrust laws will be recorded below-the-line (See Second 
Litigation Costs Order) (Docket No. 93-240, FCC 97-80 at Paras. 18). 
With regard to settlements of such lawsuits, there will be a 
presumption that carriers can recover the portion of the settlement 
that represents the avoidable costs of litigation, provided that the 
carrier makes the required showing (See Second Litigation Costs Order 
at Paras. 45-46).

Ordering Clauses

    Accordingly, pursuant to Sections 1, 4(i), 219, 220 and 221(c) and 
410(c) of the Communications Act of 1934, as amended, 47 U.S.C. 
Secs. 154(i), 219, 220, Part 32 of the Rules is revised.
    It is Further Ordered that, pursuant to Sections 1, 4(i), 220, and 
221(c) and 410(c) of the Communications Act of 1934, as amended, 47 
U.S.C. Secs. 151, 154(i), 220, and 221(c), Part 32 of the Commission's 
Rules and Regulations, is amended as shown below.

List of Subjects in 47 CFR Part 32

    Communications common carriers, Reporting and recordkeeping 
requirements, Telephone, Uniform System of Accounts.

Federal Communications Commission.
LaVera F. Marshall,
Acting Secretary.

Rule Changes

    Part 32 of Title 47 of the Code of Federal Regulations is amended 
as follows:

PART 32--UNIFORM SYSTEM OF ACCOUNTS FOR TELECOMMUNICATIONS 
COMPANIES

    1. The authority citation for part 32 continues to read as follows:

    Authority: 47 U.S.C. 154.

    2. Section 32.7370 is amended by revising paragraph (d) to read as 
follows:


Sec. 32.7370  Special charges.

* * * * *
    (d) Penalties and fines paid on account of violations of statutes. 
This account shall also include penalties and fines paid on account of 
violations of U.S. antitrust statutes, including judgments and payments 
in settlement of civil and criminal suits alleging such violations; and
* * * * *
[FR Doc. 97-10718 Filed 4-24-97; 8:45 am]
BILLING CODE 6712-01-P