1. Modernizing Universal Service Dennis Weller Chief Economist Verizon NARUC Summer Meetings July 2007

2. The World Has Changed • New competition, technology • Large companies forced to reinvent themselves • Change now coming to high cost areas • Lines, minutes declining • CETCs in two thirds of study areas • “Hollowing out” old business model • Challenge for universal service • How to modernize the system for the future • Adaptation, efficiency, market forces

3. The Current FundsDesigned to Support the Status Quo • Different funds created over time to plug ILEC revenue shortfalls • Pays companies for what they are already doing • Rewards companies for having higher costs • Does not help companies adapt to the new environment

4. The Current FundsAdapting to Wireless • Wireless service is good • Competition is good • But the funds were not properly designed for either • Attracts CETCs to areas where ILEC subsidies are high • Pays CETCs to do what they would have done anyway • Pays for handsets, not for extending service • 98% of areas where subsidized wireless service is available also have wireless service available from unsubsidized carriers

5. The Current FundsAdapting to Wireless – the Hard Math • Wireline service is bought per household • Wireless service is bought per family member • We now pay the same amount per handset as per wired line • Average number of handsets per family plan: 2.8 • End game if we convert wireless to subsidized model: • $3B (current ILEC) + $8.4B ($3B x 2.8) = $11.4B • Contribution factor about 23% with today’s base

6. Why an Auction? • Competitive bidding is the normal way for government to buy products and services • Selects the most efficient provider • Ensures the best terms for the public • Transparent, open process • Brings market forces to bear on universal service • The only way to answer the question: • “What does universal service cost?” • Which also is the answer to the question: • “What support is sufficient?” • It’s not possible to answer these questions by looking at carrier’s costs

7. Verizon’s proposal to Modernize Universal Service • Step 1: Stabilize the fund on an interim basis • Joint Board has proposed interim cap • Step 2: Adopt a framework for competitive bidding • Step 3: Auctions where there is more than one ETC • Results in one wireline, one wireless universal service provider in each area • Step 4: Review and next steps • Extend auctions more widely? • One universal service provider per area?

8. New Demands on the Funds • Better targeting of support where it’s needed • Areas that are not supported today • Areas that don’t have wireless today • Areas that don’t have broadband today • How to address these demands without • Ballooning the fund • Robbing Peter to pay Paul • Efficiency is the key

9. Using Savings from Efficiency GainsTo Pay for New Needs • Establish zones within study areas • Initial auctions generate savings • Savings used to: • Reduce burden on consumers • Target funding to new needs • Prioritize areas based on statistical analysis of auction results • Open areas for nomination by carriers • Wireline where no support today • Wireless where no service today • Competitive bidding for each area • FCC works down prioritized list until available funds have been distributed

10. What About Broadband? • What about broadband?

11. Household Internet AdoptionPercentage of Households Taking Broadband US States &EU Member Countries US Average: 42% EU Average: 23% NJ NL CA CT DE AZ MA DK NV UT FL WA GA NH NY KS SE MD VA CO ID WY TX OH IL NE OR ND FI NC MO PA NM BE WI RI SC LA MI MN SD TN IA AL OK ME IN MT FR KY UK EE AR VT MT LU MS WV AT SI DE ES LV PL PT IT HU CZ LT CY IE SK EL Data from household surveys taken in late 2005 and early 2006. Sources: European Commission, “E-Communications Household Survey,” July 2006; US average from Pew Internet & American Life Project, “Home Broadband Adoption 2006”, May 28, 2006; US states from Render Vanderslice & Associates, September 2006

12. Cap-Ex of US Companies and OECD Telecoms Year Ending Sept./Dec. Source: Yahoo Finance data Page 12

13. Extending Broadband Availability • How can we do better in getting broadband where it isn’t? • Broadband is too important to be included in the universal service mechanism • USF system is already broken • Not targeted or efficient • No other country does it this way • Success of the public-private partnership model • Data gathering and use of the data should be integrated • Micro data are best gathered locally • Connect Kentucky • Various means for bringing investment where need is identified • Demand development • Tax and other incentives, existing funding sources • Participation by public and private entities in community

14. Extending Broadband AvailabilityHow can Federal Policy help? • Federal funding to encourage other states to adopt public-private partnership model • Connected Nation • Proposals for reform of RUS • Enhancing the “tool kit” • Tax incentives, loans • State public-private partnerships as a “farm system” to identify projects for additional federal funding through grants • For extreme cases where the normal “tool kit” is not sufficient • Grants for infrastructure deployment • RUS or some other federal agency • Nomination for federal funding would lead to open, competitive bidding