Accounting Issues Emerge as Latest E-Rate Crisis

Meanwhile, the same accounting rules change is likely to force the FCC to raise the USF contribution factor since USAC will no longer be able to subtract from its $3.5 billion surplus to keep the factor low. The most recent contribution factor was 8.7%. The change could force FCC to raise the factor to 10% or more. That would place upward pressure on phone bills, a potential political hot potato issue that in turn could refocus the Commission, Congress and the industry on reforming how USF funds are collected, sources said. Observers conventionally have viewed 10% as the threshold above which Congress was likely to push for a change in the USF contribution mechanism.

USAC also substantiated reports Tues. it froze the E- rate program Aug. 3 citing a lack of cash on hand. USAC officials said the corporation was unlikely to make new commitments until late Nov. at the earliest.

Chmn. McCain (R-Ariz.) said the committee was likely to hold a 2nd hearing since members had more questions following the most recent E-rate revelations. McCain said he may call Chmn. Powell to testify. “We may need another hearing and it'll be during the lame duck [session] if we do,” McCain told reporters. “We need to get whoever is in charge of this. It'd be nice to get the chairman… It seems like there’s a lot of money washing around.”

Neither the freeze nor the accounting issue had emerged prior to a series of House hearings on E-rate, which mostly focused on fraud in the program. The E-rate program freeze received little attention until details were revealed in recent days, including a Mon. N.Y. Times article mentioned at the hearing.

The FCC ordered USAC on Sept. 27 to convert from generally accepted accounting principles (GAAP) to govt. accounting principles for the E-rate program. Under that change, USAC has to keep cash on hand to cover all obligations. In the past, if USAC awarded funds in June, for example, it wouldn’t have to account for them until they were distributed. Now, USAC must account for the funds as soon as they are obligated. In liquidating financial instruments like 90 day T-bills early, USAC had to pay penalties amounting to $4.6 million.

Sen. Snowe (R-Maine) told us the committee must get to the bottom of why USAC was forced to lose millions. “We must address immediately remedial action with respect to what’s happened in the E-rate program, with this precipitous conversion,” she said. “I don’t think anybody’s arguing whether it’s necessary to go to the government accounting rules but there is an orderly fashion in which that should transpire.”

Snowe said neither OMB nor the FCC has made clear to the Senate why FCC ordered USAC to liquidate assets to cover obligations, putting the organization in compliance with more stringent govt. accounting standards. “Why was this decision made?” Snowe asked. “I think it’s very unusual the FCC wouldn’t have received a written directive from OMB mandating the liquidation of these assets at the cost of the E-rate program. It doesn’t make sense.”

Snowe said her understanding was that over a year the conversion to govt. accounting standards may cost USEC $30 million since the corporation will no longer be able to invest in relatively high-interest T-bills. Later, FCC officials confirmed that figure. “There’s no rationale for why it was handled in this fashion,” she said. “It wasn’t prudent… You need a lead time to prepare, to make the transition” to new standards.

Sen. Rockefeller (D-W.Va) also raised a number of questions at the hearing. Rockefeller sent Chmn. Powell a letter Oct. 1 expressing concerns about how the FCC has handled the most recent crisis in the E-rate program. “Given Congress’s commitment to universal service, we are seriously concerned… the Federal Communications Commission has instituted changes that may significantly affect the operation and administration of the entire fund,” he wrote. “We are particularly troubled that E- rate and rural health care funding has been suspended since August 3, 2004, as a result of the uncertainty surrounding the accounting treatment.”

USAC Vp. George McDonald told us USAC made clear on its website on Aug. 19 that it was freezing commitments while it resolved accounting issues. “At the time we were hopeful this could be resolved quickly and we could get back to business but it played out the way you heard today,” McDonald said. “What we thought was something that could be just quickly resolved and then we could get back to business. Now we know unless something happens we need to collect the cash before we can issue new obligations.”

McDonald said that in late Nov. USAC will “deobligate” fiscal year 2003 money that hasn’t been collected yet, which will free up cash and allow USAC to make new commitments. Still, he noted, USAC won’t have as much money to commit as it expected and will need more direction from the FCC on how to proceed and “who goes first.”

Unlike the House hearings, the Senate committee focused relatively little on fraud in the program. In opening remarks, McCain said Congress and the FCC are to blame for problems: “The FCC, while making rules changes in response to exploding scandals, has been reactive and too gentle. Only last year did the FCC allow for disbarments, but the rules seem lax.”

Winston Himsorth, executive dir. of E-rate Central, a proponent of the program, said the hearing on the whole seemed positive, especially relative to the House hearings. “You had senators standing up and saying this is a very important program,” he said. “McCain said schools are relying on this. It’s a good program. We need to control fraud, waste and abuse to the extent that there is. That’s fine. We should.”