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Levine, Blaszak, Block & Boothby, LLP Telecommunications procurement is not a career for the faint-hearted. Business users have more options today than they did a decade ago, both in terms of technology and suppliers. But unless you can harness these opportunities and use them to your advantage, you may well find that you have made commitments you can’t meet to buy services that may not meet your needs a year from now at prices that you will soon regret. The vendors of telecommunications services know this -- they draft the contract forms and tariffs that cause many of the problems. This article is an attempt to level the playing field a little by explaining the legal framework under which most telecommunications contracts operate, pointing out key terms on which sophisticated large users tend to focus, and offering some pointers regarding negotiation strategy. Tariffs Rule, for Now As the law now stands, basic voice services, dedicated access, private lines and frame relay service must be purchased pursuant to tariffs that the carriers may unilaterally alter at will. (ATM is currently an unregulated service that is offered only under contract.) The law requires carrier tariffs to include the charges for the service and any regulations "affecting" those charges. Carriers also enter into contracts with their customers to supplement the tariffs, but when a tariff and contract are inconsistent the tariff prevails, and a recent Supreme Court ruling has raised doubts about whether any untariffed term (even one that only supplements a carrier obligation set out in the tariff) can be enforced. A typical large user deal consists of a non-tariffed contract (sometimes just an order form), a customized tariff option, and the carrier's general tariff (usually incorporated by reference into the contract). A customer should not sign until satisfied with both the customer-specific terms it has negotiated and any applicable portions of the carrier’s general tariff. Even if the carrier allows the customer to review the customer-specific tariff terms before signing (AT&T is usually good about this, for example, while MCI is not), the customer should also insist on a contract clause stating that the carrier will tariff all contract terms that must be tariffed to be fully enforceable. A carrier that rejects such a request is doing nothing more and nothing less than reserving the right to nullify the deal. To complicate matters further, the FCC has been trying for years to require carriers to withdraw their tariffs for domestic interstate services. The interexchange carriers are fighting the order -- they know full well that the 1934 regime gives them rights vis-à-vis their customers that are unheard of in unregulated environments. Over the long run tariffs will almost surely go away (at least for large customers), either because the FCC successfully mandates their elimination or because the carriers are permitted to withdraw them and the largest users demand that they do so. The Long Distance Market The major telecommunications carriers have been offering individually negotiated rates and other terms to business customers for over a decade. AT&T’s approach is to segment the market into Fortune 100-200 users (most of whom who buy packages of voice and data services under AT&T’s Tariff 12) and other users (who buy services in packages known as Contract Tariffs). AT&T prefers to put customers into Contract Tariffs. They incorporate its general tariffs (which are very unfavorable to customers) wholesale, and has succeeded in establishing a Contract Tariff policy of negotiating few terms other than price and commitment level. AT&T will negotiate other terms and conditions only in Tariff 12, which does not incorporate the general tariffs and is much more pro-customer, but is made available only to very substantial customers whose business AT&T will otherwise lose. MCI, Sprint and the other interexchange carriers use the same contract vehicle for all customers, but generally offer their larger customers more favorable terms and conditions. Before You Start Know your traffic. This means your current and projected minutes of use by call type (on- or off-net), by time of day, by state (for intrastate), by country (for international), and by month (if your business is seasonal). It means your average call duration and the nature of all carrier-provided enhanced call features. It means your current costs, both before and after discounts. It means the number of private lines and frame relay Ports/PVCs -- and the associated bit rate or CIR, location (NPA/NXX), and current price (before and after discount). It means the rate of network churn. Without this information, you will be unable to compare vendor bids to one another, evaluate your ability to meet the vendor’s proposed minimum revenue and other commitments, or determine whether you will in fact be eligible for discounts and credits. The vendors' sales teams are compensated primarily on the commitments they secure, which gives them powerful incentives to overstate your traffic and/or to include traffic (like intrastate minutes) in the totals they report that will not actually count towards any commitments you make. The sales team will also insist that they can provide good rates only for a dollar (or percentage) commitment that ties up all of your business -- and then some. If you enter into a commitment based on the vendor's statements about your traffic, you will probably be stuck with it even if it turns out that the vendor's representations were deliberately inflated. Since standard tariffs provide that telecom agreements are "take or pay," the bottom line is that relying on vendor estimates of traffic is foolish and can be very costly. A Few Words About Price Prices for interexchange (that is, non-local) services have been decreasing every year for over a decade due to new technology, competition in the market for business services, and declining access charges. In recent years, business users have begun to buy from carriers other than the Big Three. WorldCom’s merger with MCI eliminated one such option, but LCI’s merger with Qwest has boosted it into the ranks of viable alternatives -- Qwest (along with C&W and Frontier) are all viable options for commodity services and as a second carrier for very large users. Although everybody knows that prices are declining, many business users are not aware that the carriers’ standard tariffed (or "rack") rates for most services continue to rise. In fact, the rates for business services (AT&T’s SDN and Megacom, MCI’s Vnet and DAL 800, Sprint’s VPN and 800 Premiere) have increased an average of 7%-10% per year for the last decade. Real rates are declining because virtually all customers receive discounts off those standard rates. As the standard rates rise, customers signing new contracts have been given ever-larger discounts -- indeed, discounts are growing faster than rack rates, which is why net prices are declining. From the carrier's perspective, this has an added advantage -- a customer feels good when its discount goes from 30% to 50%, even (especially?) if it doesn't realize that the real price decrease is only 10%. There’s a crucial lesson here. If you sign a contract with rates that are stated as a percentage discount off the standard tariff rate, it is absolutely certain that the price you actually pay will increase over time. You will continue to receive your stated discount, but increases in the "base" rates will push your prices up. This is why carriers increase their rack rates even as costs (and market rates) decline. It has the effect of building in a price increase of 7-10% per year. And yes, the carriers will agree to "stabilized" rates -- which do not increase with rack rates -- but only if they think that's the only way to get your business. Finally, users who are considering expanding the entities that can take service under their contracts, with all usage counting toward the discounts tiers and minimum revenue commitments, need to aware of the carriers' hostility to what they view as resale. To gain better pricing through additional volume, smaller and mid-sized users should first explore arrangements offered by carriers to members of particular trade associations. Contract Terms and Conditions Business users typically focus on price when negotiating contracts for telecommunications services, but there are other issues worthy of attention. If any of the issues discussed below are critical to your company, you should know that in at least some cases carriers are willing to address them. Success in any particular case will depend on two factors: (1) How much does the carrier want to win (or hold onto) your business? The answer will depend upon the size of the deal and upon whether your company is a "trophy" -- although we must note that many more companies think they deserve trophy status than actually do, and users are almost always considered more desirable (in the trophy sense) by carriers that do not have a large share of their business. (2) Does the carrier have to provide acceptable terms to win or hold onto the business? The signals that a customer gives off are crucial here. A customer that has solicited competitive bids and holds all of the bidders at arms length is giving off very different signals than a customer whose chief information officer plays a lot of golf with his incumbent carrier’s sales rep and winks when he talks about the competition. Terms That Affect Your Costs Rate Stability -- Carriers will stabilize some or all contract rates, the most common being charges for dedicated access and measured services and the port and PVC charges for frame relay/ATM. Although intrastate and international voice services are often priced at a discount off standard rates, it is possible to secure fixed rates in a dozen or more states and foreign countries, while leaving the rest to "float" with tariff. As discussed above, allowing rates to float with tariff is a sucker's game for end users. Rate Reviews -- In a world of falling prices, business customers are rightly concerned that rates that are competitive today will be excessive within 12-18 months. The most reliable way to minimize this risk is to maximize your flexibility. Do not commit to a contract term of longer than three years. The longer the term, the longer you must wait for the day when you can renegotiate your rates with maximum bargaining leverage. Do not commit more than 70-80% of your anticipated "spend" for services covered by this contract. Uncommitted business is the user's ace in the whole. It makes threats to bring in another vendor if the incumbent does not keep rates in line with the market credible, protects you from shortfall penalties if your company sells off a subsidiary, downsizes or begins to use technology in ways that were not anticipated when the contract was signed (IP telephony is a good example). It is for this reason, among others, that carriers fight so hard to get high commitments and/or "exclusivity" clauses. They are not economically required to secure favorable pricing (regardless of what you are being told), and Users should fight hard to resist them. If you are signing up for a commitment of over $5 million a year, you may also be able to secure some form of rate review. The carriers' "standard" forms are worthless -- they obligate the carrier only to talk to you once a year, which it would be pleased to do anyway. The most common real rate review clauses require the carrier to adjust the rates in your contract to match more favorable rates in the carrier’s recent contracts with comparable customers. This approach works only if you can verify that your contract is being compared to the most favorable other contracts, which is very hard to do -- when push comes to shove the carriers always find that the best contracts are with customers who are somehow not comparable to you. There are alternatives, including the use of a neutral third-party to review and recommend rate adjustments and unencumbered negotiations with some form of customer leverage if the parties cannot agree on going-forward rates, but they tend to be cumbersome or available only to the largest (over $20M per year) and most aggressive users. In the end, and especially for smaller and mid-sized customers, a rate review clause is no substitute for the leverage offered by substantial uncommitted traffic that can be migrated without penalty. Installation Waivers -- Carriers usually waive or offer a fixed credit for the installation charges that apply to dedicated access and private lines. They also commonly require that any waived charges be repaid for facilities removed in less than some minimum period, usually 12 to 24 months. The length of this period and whether the repayment is 100% or pro rated is negotiable. Avoiding Hidden Costs -- This is surprisingly difficult to do in contracts for tariffed services. No one in his right mind would enter into a contract in which he commits to spend millions (or even hundreds of thousands) of dollars each year if the vendor told him that additional charges could be imposed without his consent or even his advance knowledge. But that is precisely what most customers are asked to do when they sign contracts for tariffed services. One major vendor includes references to its tariffs (which can be changed without the customer’s consent) in contracts for unregulated services like ATM service and links between non-U.S. locations. These hidden costs find their way to your invoice because the carriers’ customer-specific tariffs (except for AT&T’s Tariff 12) incorporate their standard tariffs. Access Coordination, Central Office Connection and similar fees are common examples of charges about which users are rarely informed until they show up on the bill. In addition, when the carrier modifies its standard tariff by, for example, adding a surcharge for Universal Service or increasing the kinds of taxes that may be passed on to customers, those customers whose contracts incorporate standard tariffs will find a surprise on their invoices. Payment Terms -- Under traditional tariff rules, carriers can cut off service for nonpayment after 30 days, but the carriers are willing to modify those terms for large business customers. Late charges and interest are similarly negotiable, and the carriers are often willing to permit a large customer to withhold (or escrow) payment of charges disputed in good faith. Billing and Audits -- AT&T now offers business customers a 120-day billing guarantee on switched services. That is, any charges that are not billed within that period are waived. Other vendors are sometimes willing to offer a similar guarantee. And carriers are often willing to permit billing audits up to once a year and more frequently if the customer has genuine concerns about billing accuracy. Terms That Affect Your Contract Obligations Minimum Commitment -- Virtually all major contracts require customers to commit to purchase a certain volume of services (usually measured in dollars, but sometimes in minutes, etc.) during the term. As noted above, it is important to manage your commitment to preserve an adequate "cushion." The carrier will resist efforts to do this, claiming that a smaller commitment requires a higher price. But remember that rates do not depend solely (or even mostly) on the size of the commitment, and you can probably find other contracts from the same carrier with lower commitments and comparable or better prices than what the carrier has given you as its "best and final" offer. (There are 25,000+ such filings. You may need help from a consultant with a good database to find the ammunition you need for your negotiation -- the increased savings will cover the additional cost.) Your account team’s compensation depends in large part on the size of your commitment. This creates an incentive for the team to get users to sign up for as much as possible -- often more than they can deliver. Be sure to verify any information the carrier tells you about your current "run-rate." Does it include services that will not be covered by the new contract? Examples include Internet, X.25, local service and ATM. Does it assume the continued application of the current rates? If the new contract reduces your rates, you will spend less even if your traffic remains constant. Does the proposed commitment take into account any anticipated downsizing, such as the sale of a subsidiary? Does it take into account anticipated technology migration? Good examples include a shift from catalog sales supported by toll-free service to Internet commerce, and the shift from private lines to frame relay or ATM for data communications. Try to get flexibility in how commitments will be satisfied. Here are some items to consider:
Some carriers will also reduce the minimum commitment if the customer discontinues one or more of the services because of persistent performance problems, often called chronic outages. The applicable standard is negotiable. Shortfall Charges -- If you fail to meet your minimum volume commitment, the carrier does not receive the benefit of its bargain. For this reason, all carriers impose some sort of shortfall charge. But note that if you do not use a service, the carrier avoids certain costs, most notably local access costs -- 40-45% off the cost of switched voice service. AT&T, which used to require the customer to pay 100% of any shortfall, has been reducing the penalty. Other carriers will negotiate these charges if the customer insists. Remember, though, that your best protection in this area is a low commitment. In contracts with sub-commitments, there is a shortfall charge for failing to meet both the overall commitment and each individual sub-commitment. Thus, a single shortfall can subject you to two shortfall charges. It is a simple matter to eliminate this double penalty, and it is a reflection on the ethics of the industry that you have to ask -- and sometimes insist -- before the carriers will do it. One final point about commitments. Some contracts state the commitment in net terms, that is, after application of all discounts, while others state the commitment in gross terms. When a carrier uses a gross commitment with a 100% shortfall penalty, the shortfall penalties are much more than the customer would have paid if it had used the service. Again, fixing this should be simple -- but see the previous paragraph. Monitoring Conditions -- By law, each customer-specific tariff must be available to any customer who qualifies for its terms. The carriers have responded to this requirement by adding "monitoring conditions" to their options to ensure that "inappropriate customers" (generally resellers) do not buy them. Such conditions may include a required percentage of interstate traffic, a maximum percentage of switched-to-switched traffic and/or a minimum call duration. End users only care about them if there is any chance that any of them will not all be met throughout the term. Then they can pose serious problems, especially since the penalty for missing a monitoring condition is typically enormous -- all prices are doubled, for example. To limit this risk, limit the number of monitoring conditions, make sure that they are consistent with your calling patterns (know your traffic!) and leave plenty of room for change. Finally, make sure that the punishment fits the crime. If, for example, your switched-to-switched calling exceeds the limit, any surcharge should apply to only those minutes that exceeded the limit, and not to all minutes or services. Exclusivity -- Exclusive arrangements (typically committing 80-100% of a customer's traffic) are very popular among the major carriers. Some carriers include them in nearly every draft contract offered to a customer. Others require them in return for rate stability, or use a version to increase dollar commitments each year (setting each year’s dollar commitment at something like the greater of a pre-set number or 90% of the prior year’s actual purchases). A user should resist exclusivity strongly, and agree to it -- if ever -- only in exchange for real rate stability, a rate review process with teeth, and meaningful performance guarantees. Remember, once you agree to exclusivity, your incumbent vendor has a virtual monopoly on your business for years. If your rates are above the market price, or you want to migrate to a new technology but the incumbent (knowing that you have no alternatives) is offering it at high rates, or your company acquires a business that uses another carrier -- you have no recourse. Exclusivity (whether in its purest form or in the form of an escalating minimum revenue commitment) eliminates all of the bargaining leverage that would otherwise be provided by the "cushion" discussed above. Customer Termination Rights Termination for "Cause" -- It should go without saying that a party may terminate a contract if the other party breaches. Most carrier tariffs give the carrier, but not the customer, this right. Such provisions can be negotiated and included in customer-specific tariffs. Early Termination Charges -- Customers often want the right to walk away from a contract upon payment of an early termination charge. The carriers seek to impose a substantial penalty for this, often 100% of the minimum commitment for the remainder of the term. 50% or less is more reasonable. Resist any requirement that you repay "all credits" received under the contract in the event of termination. That could encompass credits against installation charges, outage credits, credits that represent your discounts on intrastate services, and even credits that were refunds for overbilling. Transitional Support -- Once your contract ends, rates revert to the carrier’s standard rates unless you negotiate another contract with the same carrier. If the minimum revenue commitments and monitoring conditions do not permit you to complete the migration in the months before expiration, you should negotiate the right to continue to receive the contract pricing for a few months after expiration without additional commitments. Such transition rights may be even more valuable in the case of early termination, where you need extra time to prepare for migration to another vendor. MCI, in particular, has embraced reversion to rack rates as a weapon with which to bludgeon customers who are leaving for a competitor. Carrier Performance Obligations Implementation and Acceptance -- Very large users contemplating a large-scale reprovisioning of a network typically include a detailed implementation plan. In the past, only large users were able to negotiate remedies for installation delays, but some carriers now include these as standard features in their tariffs and other carriers are prepared to address them in individual cases. For data network migrations and private lines, carriers have been willing to permit customers to test new service installations and postpone the start of billing until the service passes the tests; the acceptance cycle is typically 2-5 days. Performance Specifications – Because carrier "fitness standards" typically speak only in terms of "objectives," customers must negotiate in order to get real performance specifications and sanctions for failure to achieve them. Some carriers have begun to include such requirements in their tariffs. For example, AT&T and Qwest have service level guarantees in their frame relay tariffs; they cover network availability, round trip delay, packet loss, and mean time to repair. Outage Credits -- The credits typically offered for switched service outages are very limited. Dedicated service outages typically trigger "run-rate" credits -- if a service costs $300 a month and goes out for 24 hours, you receive a $10 credit. Most carriers have been willing to grant higher credits at least in larger contracts and some (as noted above) are starting to include more meaningful outage credits in their standard tariffs. No carrier, however, will grant credits that come anywhere near compensating the customer for the losses it incurs due to an outage. In fact, all carrier tariffs preclude carrier liability for so-called "consequential" damages. Finally, do not forget the value of non-monetary remedies for service failures, including a reduction in the minimum commitments for chronic failures or, in the case of critical applications, a requirement that the carrier re-engineer any service elements suffering from chronic failures or even replace them and absorb the incremental cost of doing so. Partial Termination Rights -- Most carriers are willing to allow a customer to reduce its commitment to reflect the termination of services that experience chronic outages; what constitutes a chronic outage is negotiable. This kind of clause has limited value in the data world, where it is not generally feasible to mix-and-match vendors. Carrier Responsibility for Local Access -- While some carriers resist providing assurances of performance for local access, AT&T routinely does so. The issue is negotiable with other carriers, and is important if you are looking for end-to-end performance guarantees. All carriers will permit customers to purchase dedicated access directly, but they routinely impose high connection and "coordination" charges on customer-provided access that wipe out the savings. These charges (access coordination, central office connection, entrance facility and others) can be negotiated. Service Support For Larger Customers Larger customers typically require more in the way of customized support services and other terms. These may include the following:
Tariff Changes – Carriers carefully guard their rights to modify their tariffs at any time. Although there are FCC cases limiting a carrier's right to change the rates and other terms contained in a customer-specific tariff without the customer's consent, the law offers little comfort with respect to changes in the general portions of the carrier’s tariff, even if they are clearly applicable to you. (AT&T’s Tariff 12 departs from this model and is, therefore, a much more desirable contract vehicle for customers.) Intellectual Property Indemnification -- This issue is gaining importance with the introduction of enhanced features in the carriers’ networks and in equipment used by the customer. There are two risks here. One is that the customer will be inconvenienced by a patent, copyright, trade secret or similar lawsuit between its vendor and others (it's already happening). The other is that the customer may itself be sued in such a case. You should try to require your carrier to agree to defend you and pay all damage awards and other costs if you are sued because of your use of the carrier’s service. The costs incurred by the carrier under such an indemnification should not count against any limitation on the carrier’s liability that may be included in the contract or the carrier’s tariff. Fraud Risks -- Under carrier tariffs, the customer must pay for all calls originating on its network, which the carriers have persuaded the FCC includes calls placed by individuals who "hack" your PBX. In nearly all circumstances, a customer has no knowledge of such hacking until it receives the carrier’s invoice 30 days later. By then, the damage has been done, and it can be enormous. Carriers are in a position to notice unusual spikes in your traffic or changes in your calling patterns as they happen and should be required to notify you immediately of potential problems. But because their tariffs place the entire risk of PBX fraud on the customer, the carriers have no incentive to act. (Compare this with calling card fraud, where the issuer bears the risk and, therefore, acts promptly to shut down fraud as it is happening.) All of the major carriers have some kind of "fraud protection" program, but be sure to read the fine print. The Sprint program is generally well-regarded, the AT&T program is expensive and imposes burdensome requirements on subscribers to it, and the MCI program is worthless. Strategic Advice
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