In a strongly worded Report and Order, Further Notice of Proposed Rulemaking, and Order (the “Order”) released on November 26, 2019, the FCC adopted several measures to protect U.S. communications networks from potential national security threats. Likely coming as no surprise to anyone following the proceeding or current news, the FCC identified Huawei Technologies Company (“Huawei”) and ZTE Corporation (“ZTE”), both Chinese telecommunications equipment manufacturers, as national security threats based, in large part, on the companies’ close ties to the Chinese government. Adding to numerous recent federal actions addressing national security concerns, the Order takes three significant steps, within the context of the universal service fund (“USF”) program, to try to mitigate national security threats to the nation’s communications networks.

First, the Order adopts rules prohibiting the use of USF support to purchase services and equipment from “Covered Companies” deemed to present national security threats and initially designates Huawei and ZTE as Covered Companies. Second, the Further Notice of Proposed Rulemaking (“FNPRM”) solicits comments on a proposal to require eligible telecommunications carriers (“ETCs”) – and possibly all communications providers – to remove and replace Huawei and ZTE services and equipment subject to the FCC establishing a reimbursement program providing financial assistance. Third, the Order establishes an information collection and requires ETCs to submit information regarding their use of Huawei and ZTE equipment and services as well as the costs associated with removing and replacing such services and equipment from communications networks.

The new rules will take effect immediately upon publication in the Federal Register rather than providing the standard thirty-day post-publication waiting period. Federal Register publication of the Order also initiates a thirty-day comment period regarding the initial designations of Huawei and ZTE. The Public Safety Homeland and Security Bureau will issue a “final designation” on Huawei and ZTE – we fully expect that Huawei and ZTE will be designated as Covered Companies – and set a compliance effective date. In light of the potentially short timeframe before the rules and compliance requirements take effect, USF support recipients should be sure to review the Order/FNPRM carefully and assess whether and how the rules will affect the recipient’s specific circumstances.

A Focus on China

Pulling no punches, the FCC made clear its concern about the potential for the Chinese government to engage in industrial and economic espionage and other malicious acts by exploiting Huawei’s and ZTE’s access to U.S. communications networks. Chairman Pai (here and here), Commissioner O’Rielly, and Commissioner Starks, among others, have spoken out regarding the need to protect U.S. communications networks from security threats. Prohibiting USF recipients from using USF support for Huawei and ZTE services and equipment was an easily foreseeable next step.

While the Order received unanimous support from the FCC, Commissioner O’Rielly expressed some reservation regarding the likely significant equipment replacement costs and advocated for a process to challenge future designations of Covered Companies should there be concern that a designation was mistaken. Interestingly, and suggesting the FCC anticipates that the Order will be appealed, the Order appears to methodically respond to Huawei arguments and provide further support for the FCC’s decision.

We highlight below a few of the key takeaways from the Order.

The Order – USF Support Usage Prohibitions

First, the USF support use prohibitions are broad. The new rules prohibit USF support recipients from using USF support to “purchase, obtain, maintain, improve, modify, or otherwise support any equipment or services [including software] provided or manufactured by a covered company.” The FCC defines a “Covered Company” as including not only the particular company at issue but also the company’s affiliates, subsidiaries, and parents. Consequently, USF support recipients will need to understand a Covered Company’s “family” of companies to avoid inadvertently violating the FCC’s rules.

The rules do not bar USF support recipients from using Covered Company services and equipment, although, in practice, the restrictions may have that effect. While the FCC appears to prefer that Covered Company services and equipment not be used at all, the rules are based on the FCC’s authority over the USF program and, therefore, the restrictions are limited to the use of USF support. USF support recipients are permitted to use Covered Company services and equipment but must self-fund purchases, including ongoing maintenance for existing services and equipment. USF support recipients will need to assess whether they are able to completely self-fund ongoing Covered Company equipment and service maintenance, upgrades, etc. or if they will need to replace the services and equipment.

Second, USF support recipients may find compliance with the new rules challenging. For example, the Order dismisses concerns about compliance difficulties where USF support recipients are unaware that their underlying providers are reselling, such as under “white labeling” arrangements, the services and equipment of Covered Companies. Parties to multiyear contracts for Covered Company services and equipment also could face difficulties because, although the rules apply prospectively only, such contracts are not exempted from the new rules, potentially exposing USF support recipients to early termination or other contract modification costs.

Third, USF support recipients will be required to certify compliance with the new rules once the Wireline Competition Bureau (“WCB”) and USAC develop the specific certifications and information collection revisions for the USF programs. USAC audits will be used to confirm compliance and, unless the WCB or USAC provide guidance on acceptable compliance support, USF support recipients will need to consider what records may best support compliance should they be audited. USAC will seek recovery from the entity that violated the rule, potentially including entities such as schools, healthcare providers, or consortiums, rather than a service provider.

The FNPRM – Potential Replacement and Reimbursement of Covered Company Equipment

The FNPRM seeks comment on a wide range of questions related to removing and replacing Covered Company services and equipment from U.S. telecommunications networks. While the initial draft of the FNPRM limited the removal and replacement proposals to ETCs, the final FNPRM takes a much broader approach. The FCC now questions whether the prohibition on the purchase, maintenance, improvement, etc. of Covered Company services and equipment, as well as the remove and replace requirement, should extend to all communications companies, not just those receiving USF support.

The FNPRM proposes conditioning future USF support on an ETC’s agreement not to use Covered Company services and equipment and requiring such services and equipment be removed and replaced, contingent on the FCC’s establishment of a reimbursement fund to aid ETCs with costs of complying with the changes. The FNPRM seeks comment on a variety of issues related to this proposal, including, but not limited to, the scope of the remove and replace requirement, what costs should be reimbursed, who should be eligible for reimbursement, and the timing of compliance with the proposal. Carriers should note that the FCC also seeks comment on whether Huawei and ZTE handsets should be prohibited even though not supported by the USF program.

The FNPRM also seeks comment on the scope, as well as the authority for, a possible expansion of the Covered Company services and equipment remove and replace requirement to all communications networks. The FNPRM also queries how the FCC should treat entities such as interconnected VoIP providers and facilities-based ISPs for purposes of the proposed service and equipment prohibitions.

ETC Information Collection

The final component of the Order requires an information collection to determine the scope of Huawei and ZTE services and equipment currently in use on ETC networks and the cost of removing and replacing the equipment. The information collection is mandatory for ETCs, including their affiliates and subsidiaries, and ETCs should be prepared for the information collection to proceed quickly as the FCC directed the WCB to request emergency collection approval from the Office of Management and Budget if necessary. While not required, USF recipients that are not ETCs voluntarily may participate in the information collection, particularly should they have pending ETC applications or intend to seek ETC designation in the future.

Kelley Drye will be following these rules and proceedings so check back for further updates.

FCC Prohibits Carriers Receiving USF Support from Using Providers Deemed to Pose a National Security Risk; Further Notice to Explore Using USF to Replace Equipment Already Installed