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This is the second of three entries analyzing telecommunications services agreements.  The first entry—Overview—highlighted the structure and basic components of telecommunications services agreements.  This entry—Revenue Assurance—focuses on the carriers’ interest and mechanisms for locking-in projected revenues.  The third entry—Risk Mitigation—will take a closer look at the carriers’ views on damages, termination rights and customer indemnities.

Revenue Assurance

Fundamentally, standard Wireless and Wireline services agreements are drafted to ensure that customers spend the minimum amounts that they committed to spend.  After agreement on services and rates, negotiations inevitably shift to minimum revenue commitments.  Notions that the quality of services delivered or the support provided should impact this revenue stream are clearly lacking in carrier agreements and negotiating strategies.  It often seems that carriers are far more focused on revenue assurance, perhaps for internal revenue projections ultimately shared with stock analysts, than revenue growth.

Volume-Based Pricing—Yes and No.   Broadly speaking, pricing for Wireless and Wireline services are volume-based.  A study conducted by a leading consultant several years ago of publicly available data confirmed this point, but also disclosed substantial variability in rates for similar commitment levels.  Another theory, largely rejected by experienced customers and consultants, is that the larger the percentage commitment for a customer’s projected spend level, the more aggressive the pricing.

Taxes, Surcharges and All Other Costs the Carriers Can Imagine.  Wireline and Wireless services are subject to an endless stream of taxes and surcharges imposed by the FCC, state agencies and state governments.  The largest surcharge is the Federal Universal Service Charge which the carriers have been permitted by the FCC to recover from their customers.  The current FUSF charge is 17.9% for interstate Wireline services; the so-called “safe harbor” percentages for Wireless service are noticeably less.

Unlike taxes imposed incident to the sale of goods to consumers, principally sales taxes, the carriers’ standard practice is to recover all surcharges and taxes imposed on them by state and local governments, from property taxes to gross receipts taxes, excluding only taxes on earned income.  These costs are typically recovered through one or more separate line items on customers’ bills.  The carriers also recover a range of  costs incurred in the operation of their businesses, such as regulatory compliance costs.

Thus, while rates may nominally be “fixed” under many services agreements, the recovery of taxes, surcharges and other variable costs is now approximating 20% of the net charges for Wireline services and because of the endless stream of state taxes, growing at a healthy clip for Wireless services.   The rising levels and litany of taxes and surcharges drive customers to renegotiate rates and re-procure services. They must do so to minimize substantial increases in expenditures for telecommunications services.

Wireline Service Revenue Lock-In Strategies.  The minimum commitment level, which may be expressed as an annual or (contract) term commitment, is almost universal.  In some situations, customers have been able to secure no-commitment deals with major carriers, but these are few and very far between.  The commitment is essentially a “take or pay” arrangement; if the commitment is not met, the customer pays the difference, subject to several qualifications noted below.  The minimum commitment also limits the ability of the customer to shift traffic to a carrier’s competitors—the customer’s most significant leverage during the term of the agreement.

Generally, customers strive for a single commitment, as opposed to several “sub-minimums.”  In an earlier entry, we noted that for some services, principally MPLS, customers cannot as an operational matter migrate a portion of these services to another carrier.  Subject to the discussion in the following paragraph, the single commitment allows customers to shift traffic without penalty among a carrier’s services or, so long as the minimum is achieved, to other carriers.

Carriers go beyond the minimum revenue commitment by (1) imposing “minimum payment periods” extending as long as the initial term of the agreement for particular services, or (2) tying credits to an expenditure level in excess of the minimum revenue commitment.  Another mechanism is the “minimum retention period” intended to recover waived non-recurring costs associated with access services acquired from local telephone companies.

Wireless Service Revenue Lock-In Strategies.  For all services except M2M services in which the customer equipment is typically supplied by the customer, each Wireless line typically carries a “line term commitment” (typically two-years) which enables the carrier to recover at least some portion of the handset costs it may be subsidizing.  Failure to maintain the line (or the handset) for line term, results in an early termination fee (ETF) that typically declines monthly over the commitment period.  The discounts for various service plans set out in agreements are typically tied to a minimum number of lines in service, subject to adjustment based on the number of lines in service for given periods of time.  Carriers and customers may negotiate other service commitments to achieve improved pricing or discounts.  The range of additional commitments is subject only to the creativity and negotiating approaches of the carrier and customers.

Adjustments to Commitments.   All services agreements should be reviewed for the impact of service discontinuances on the commitments discussed above. As a general rule, if service is being discontinued for the customer’s convenience or preference, as opposed to service or support issues, customers typically incur some sort charge for failing to meet the applicable commitment(s).  The major exception is discontinuing Wireline service not subject to or not triggering a shortfall in the minimum commitment .   On the other hand, when service or lines are discontinued “for cause” the commitment level should be adjusted.  The carriers’ standard agreements typically do not include a (downward) commitment adjustment mechanism for services discontinued for cause.

There are also 3 frequently observed circumstances in which strict application of the “take or pay aspect” of minimum revenue commitments may be relaxed:

  1. A significant downturn in, divestiture or sale of a line business that impairs the ability of the customer to meet the commitment.
  2. A change in services that result in noticeably reduced revenues.
  3. Under a competitive pricing review, rates are reduced such that aggregate expenditures can no longer meet the minimum revenue commitments.

By far, the most common is the contraction in the customer’s business resulting in a reduction in overall telecommunications expenditures.

There are a range of processes (principally an agreement to negotiate or discuss) and considerations that may be included in services agreements to address these circumstances. The carriers generally appreciate that a substantial shortfall payment may have an adverse impact on the customer, particularly the IT, Telecom or Procurement group that negotiated the agreement.