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Three years ago Ofcom was founded on a vision that convergence would take place in the communications sector; the convergence of services and technologies and the convergence of companies providing them. However, in December 2003, when Ofcom was created, there was little real convergence to speak of. Most companies still did what they had traditionally done, whether it was providing a landline phone service, a mobile service, internet access, or television or radio broadcasting.

Three years on, there has been tremendous change in the sector; today convergence has come of age. We can buy a bundle of landline, mobile, television and broadband services from just one provider. We can make phone calls over the internet, listen to the radio on digital television, watch television programmes on-demand over broadband and download video content to mobile phones. We can even redirect our favourite television show to any place in the world from our home set-top box.

For consumers, convergence means increased choice, lower prices, greater flexibility and personal control. Ofcom believes that the interests of citizens and consumers are best served by regulating for convergence, by promoting competition and taking measures where necessary to secure the broader public interest.

This Report sets out what we have done in 2006/7 to regulate for convergence. It also describes the steps that we have taken to become more efficient, reducing the burden we place on the communications sector we regulate.

Much has been achieved over the last three years in the communications sector, but there remains much more to do. For that reason we are now looking forward to the next three years and at the end of this section I set out how we plan to respond to some of those challenges.

The sector and Ofcom

One of the building blocks of convergence is radio spectrum. This finite resource underpins all modern communications and society’s increasing desire for mobility means that demand for spectrum is greater than ever before. Ofcom’s research has found that business activity that is largely dependent on spectrum contributes £37bn, or three per cent, to the UK GDP and the economic impact of spectrum use has increased by 50 per cent in just over three years.

More efficient spectrum use brings significant benefits to consumers, with the launch of new technologies and increased competition between service providers, bringing the potential for greater choice and lower prices.

In 2006/7 we made significant progress in delivering our strategy of securing the greatest possible use of this valuable resource. We completed our first two spectrum auctions, with 13 organisations being awarded new licences to use the spectrum. We also developed and consulted on proposals for the most effective way to release the spectrum that will be freed up through the switch to all-digital television in 2012 – the so-called digital dividend – as well as spectrum at 2.6 GHz and the ‘L-Band’. These spectrum releases will create new opportunities for innovation in wireless technologies, with potential uses including wireless broadband, new digital television services, mobile television and low-power applications, such as wireless home-hubs.

Following last year’s conclusion of the Strategic Review of Telecommunications and the acceptance of Undertakings from BT Group plc, we have continued to monitor progress in the delivery of the Undertakings. They were designed to enable genuine competition at the deepest levels of infrastructure for the benefit of consumers and the communications sector as a whole. In 2006/7 this new regulatory approach started to deliver sustainable competition and greater investment in infrastructure. By March 2007 some two million lines had been unbundled, enabling providers other than BT to take full control of the loop connecting homes and businesses to the local telephone exchange, offering consumers fresh competition and service innovation.

During the reporting period the UK overtook the US in broadband availability and the UK now stands second in the league table of G7 countries, with only Canada ahead. In addition, broadband speeds have continued to increase, with average headline connection speeds in the UK now above 3.8 Mbit/s. The consumer response to these developments has been positive. Ofcom’s research showed that at the end of March 2007 over half of UK adults had broadband at home, a seven-fold increase over the last four years. We realise, however, that the market is rapidly changing. To maintain progress in the future, we must ensure that the UK has the right regulatory environment to allow competition and innovation to flourish to further benefit the UK economy and consumers as next generation services come on stream.

In fixed-line phone services, more than 10.7 million UK households and small businesses use a telecoms provider other than BT – among them more than 4.6 million cable customers – enjoying some of the cheapest phone costs in the world. This enabled us in July 2006 to remove retail price controls that imposed a limit on BT’s line rental and call charges, which had been in place for 22 years. Alongside this, BT agreed to safeguards for low spending users and gave assurances that it would offer additional protection for customers on low incomes and vulnerable groups.

The mobile phone has now become as important to consumers as their landline. The same number of UK households now has a mobile phone as a landline; and for the first time, the proportion of households relying on mobile phones exclusively (10 per cent) is the same as the proportion who only use landline phones. Consumers benefit from competition between five mobile network operators and a number of virtual network operators in the UK. In March 2007 we moved to secure further savings for consumers by setting new charge controls that limit the amount that mobile network operators are able to charge other telephone companies for connecting calls on their networks. We expect that this will lead to an annual reduction in wholesale charges of £400-£500m over four years; savings which we expect to be passed on to retail customers.

In broadcasting, the switch to digital television continued apace, with over 77 per cent of UK television households viewing digital television across a variety of platforms by March 2007. However, the move from analogue to digital television also presents a challenge. Digital switchover and multi-channel television will make it more difficult for the commercially-funded public service broadcasters to sustain all their obligations in a digital age, presenting a stark challenge in terms of maintaining the existing level of plurality in public service provision. In 2006/7 we embarked on a major work programme that will begin to address this complex issue. In March 2007 we established an evidence base for assessing the effectiveness of the public service broadcasters by publishing our first Annual Report of Public Service Broadcasting (PSB). One of the report’s key findings was that PSB programming aimed at children was particularly valued by parents and we launched a review of children’s programming, with the results due in summer 2007. After the period under review we also published a paper on news provision in the UK.

Ofcom’s Public Service Broadcasting Review published in 2004/5 concluded that a not-for-profit, commercially-funded Channel 4 should remain an integral part of PSB. It also found that the transition to digital television would create a number of challenges for the broadcaster. In 2006/7 we commissioned an independent financial review of Channel 4. The results, published in April, clarify the challenges facing Channel 4 and set out the possible future funding options for the broadcaster. One way of sustaining PSB in the digital age is through the creation of a body to commission new media content focused on meeting public purposes. In 2006/7 we fleshed out our proposals for a Public Service Publisher with a discussion document that developed its proposals. This work will be taken forward in the next PSB review.

On 1 January 2007 the new BBC Royal Charter Agreement came into effect. With this came a new responsibility for Ofcom in conducting Market Impact Assessments (MIAs) into the likely impact that the launch of new BBC services or changes to existing services might have on other companies or markets. We conducted our first MIA in 2006/7 into the BBC’s proposed iPlayer. The conclusion, that the service could provide significant value to licence fee payers but could also deter investment in certain commercial markets, was delivered to the BBC Trust at the end of January 2007.

In radio, the importance of digital radio continued to grow, with sales of DAB sets outstripping analogue, helping to increase the average total number of hours that people listen to the radio in the UK to 24 a week. In July 2006 we launched a programme to expand DAB services by inviting organisations to bid to operate a second national UK radio multiplex and the first of 12 local DAB multiplex licences. At the end of the reporting period Ofcom had received two applications for the national licence; Ofcom plans to announce the winning bidder later in 2007, with new services beginning in early 2008.

Despite the new opportunities for radio broadcasting, the commercial radio sector faces some significant challenges. For established broadcasters, the dramatic increase in choice brings new competition for listeners. Broadcasters also face higher costs from having to invest in new technologies at a time when advertising revenue growth is stalling. These factors, which were not foreseen a few years ago, are having a profound impact on the radio industry and in April 2007 we published a consultation on a possible framework for the future regulation of the sector.

The consumer and citizen interest

Ofcom’s approach to regulation and competition is delivering benefits to consumers in terms of falling prices, increased reported levels of satisfaction and a greater availability and range of services. Ofcom research showed that the cost of a typical ‘basket’ of residential communications services had fallen by one-third over four years. It also showed that overall customer satisfaction remained high, between 88 per cent and 93 per cent. However, the results of technological change can be double-edged. With change comes complexity, and with complexity comes the increased potential for business practices that harm consumers and other forms of abuse.

In 2006/7 we continued to build on and strengthen our enforcement activity. We introduced new rules to prevent mis-selling and slamming – where a customer is moved from one telecoms provider to another without their consent – and took action against the worst offenders. We also reduced the potential for silent calls through the introduction of new rules and increased penalties.

Much of the recent consumer concern has been focused on standards on television. Ofcom received almost 45,000 complaints about Channel 4’s broadcast of Celebrity Big Brother alleging – among other things – racist abuse and bullying. We take such allegations extremely seriously and announced while the series was on air that we would launch an investigation into the programme. In May 2007 Ofcom published its adjudication on Channel 4’s broadcast of Celebrity Big Brother. Our investigation found that Channel 4 had made serious editorial misjudgements, compounded by a serious failure of its compliance process, putting it in breach of the Broadcasting Code. Ofcom imposed a statutory sanction on Channel 4 requiring it to broadcast a summary of Ofcom’s finding on three separate occasions.

Another area of considerable concern has been around quiz television programmes and other forms of participation television, which rely on interaction with viewers through premium rate telephone services.

In response to specific concerns, we published in April 2006 additional guidance to the Broadcasting Code aimed at competitions in television programmes and on quiz channels. And in December 2006 we set out the next steps towards potentially toughening up the rules, addressing whether certain services should be considered to be editorial – subject to the Ofcom Broadcasting Code – or advertising – subject to the Advertising Code. In March 2007, after viewers and others raised serious concerns regarding apparent systematic compliance failure on the part of a number of broadcasters, we announced an inquiry into the use of premium rate telecoms services in television programmes. The inquiry will report in early summer 2007.

Co-ordination between regulators is essential in this area, and Ofcom continues to work closely with the premium rate regulator ICSTIS to ensure that consumers are protected. When evidence has emerged of potential compliance failures, Ofcom has acted. We currently have over 20 separate cases under investigation about call-in television quizzes and we will use the full range of our statutory powers to impose sanctions on licensees – including fines – where it is warranted.

In 2006/7 we also introduced new rules on the television advertising of food and drink products to children. This followed a consultation where we received more than 1,000 responses from a broad range of people and organisations. New content rules were introduced on 22 February 2007 and scheduling rules on 1 April 2007. With the new rules in place, in households where children’s viewing also includes a large number of programmes targeted at adults, under-16s would see 41 per cent fewer advertisements for products that are high in fat, salt and sugar. For under-9s, the reduction would be 51 per cent. We will review the effectiveness and scope of the new restrictions in autumn 2008.

All Ofcom’s work is underpinned by its duty under the Communications Act to secure a wide range of services to people living in different parts of the UK. In April 2006 we published a comprehensive review of communications in the Nations and Regions of the UK, comparing findings across Wales, Scotland, Northern Ireland and the nine English regions. The results informed our work programme for the current year; and shortly after the period under review we published our second Nations and Regions review.

International

Ofcom’s activities, and those of the companies it regulates, are increasingly influenced by the international agenda. In 2006/7 we played a key role in shaping the debate on a number of important international policy developments. Ofcom continued its negotiations on the European Commission’s proposed Audio-Visual Media Services Directive. We argued that the proposal to extend regulation beyond television broadcasting to include on-demand media would not be effective in protecting the interests of citizens and consumers and would have a damaging effect on innovation. In November 2006 the Council of Ministers agreed on a General Approach in relation to the proposed Directive which was a significant improvement on the Commission’s original proposals.

We also contributed to the Commission’s review of the EU communications regulatory framework that underpins Ofcom’s approach to the economic regulation of the telecoms markets. Ofcom argued that the functional separation remedy – that led to the creation of BT Openreach and which stemmed from the Strategic Review of Telecommunications – should be available to other European regulators. In March 2007 the EU telecommunications commissioner endorsed this approach.

In May 2006 Ofcom led the UK delegation to the International Telecommunications Union’s Regional Radiocommunication Conference. This secured international agreement in two crucial areas: it established the spectrum frequency plan required for UK digital television switchover which will take place between 2008 and 2012; agreement was also reached which will pave the way for Ofcom to release the digital dividend spectrum for new uses.

Reducing regulatory burdens

Ofcom is committed to reducing its regulatory burdens on its stakeholders. A desire to remove unnecessary and out-of-date regulation underpins all of our work; in December 2006 Ofcom published its Simplification Plan which set out a range of measures to reduce the burdens on stakeholders.

Specific areas of deregulation in 2006/7 include:

• Removing retail price controls, see page 25
• Simplified spectrum licensing, see page 22
• Legalising low-power FM transmitters, see page 22
• Television channel and radio sponsorship, see page 35
• Television appeals for donations, see page 35
• Pay-television channels on Freeview, see page 36
• Restricted Service Licences, see page 36

Reducing costs and improving efficiency

Ofcom is predominantly funded by industry. Because our operating costs are a net cost to the bottom line of the companies we regulate, we are committed to increasing our own internal efficiencies.

When Ofcom was created we committed ourselves to year-on-year real-terms reductions in our operating budget and we have consistently delivered on that commitment. The broadcasting licensees and communications providers that fund Ofcom’s activities have experienced consecutive real-terms reductions in their fees for the last three years. The year 2007/8 will be no different: for the fourth successive year Ofcom will operate under a budget which is lower in real terms than the budget for the previous year.

To cover the cost of establishing the organisation Ofcom received a £52.3m loan from the Department of Trade and Industry. By the end of the 2007/8 financial year Ofcom will have repaid the loan, together with the accumulated interest. From 2008/9 onwards, therefore, the loan will no longer be recouped through regulatory fees, reducing further the financial burden on stakeholders.

The reduction in our operating budget is driven by a consistent desire to improve our operational efficiency. When Ofcom was created it inherited 45 properties from the previous regulators; 24 properties have now been disposed of, or surrendered to the landlord. In 2006/7 this included the surrender of the lease at South Quay Plaza 3 in London’s Docklands and progress in subletting a further floor at the London head office at Riverside House.

We have continued to make efficiency savings with our information systems (IS). When Ofcom was created we inherited around 70 systems from the legacy regulators. In the previous reporting period Ofcom launched a programme, called Project Unify, to integrate these systems which are used in areas as diverse as licensing, field operations, finance, human resources, project management and the Ofcom Contact Centre. This programme is already paying dividends, with a single IS system now operating across many parts of the organisation.

Looking ahead

In Ofcom’s first three years we completed strategic reviews of telecoms, public service broadcasting and radio spectrum. In order to meet the challenges of convergence, we are now looking forward to the next three years to provide a clear sense of how we will respond to the challenges that are happening in the communication sector.

In April 2007 we published our Annual Plan; this set out a three-year strategic policy framework. In spectrum we will further develop our market-based approach to its management. This will include major releases of spectrum, including the sought-after digital dividend. We will also continue to promote spectrum liberalisation, removing unnecessary barriers to the most efficient use of this valuable resource. Work in this area will include a consultation on the liberalisation of the existing 2G mobile licences that are currently restricted to GSM services.

We will promote competition and innovation in converging telecoms and broadcasting markets. Central to this will be to ensure that BT Group plc continues to comply with its Undertakings by giving competitors equivalent access to the wholesale products they need to provide services to consumers. We will also ensure that competition thrives as next generation networks and next generation access develops and we will undertake a number of projects to promote competition in television broadcasting markets. This will include conducting a market investigation into the pay television industry, which we started at the end of 2006/7.

We will maintain our focus on delivering the public interest. Over the next three years, projects will include rethinking PSB for the digital age, which will include the start of the next statutory review of PSB later this year, and continuing our work on the future of radio, which will include our approach to content and ownership regulation. This work will be taken forward with close involvement from the Ofcom Content Board.

Another priority will be to improve compliance by the businesses we regulate by taking a more targeted approach to enforcing the rules designed to protect consumers and citizens and identifying the practices that have the potential to cause most harm to people. We will also seek to empower citizens and consumers by promoting media literacy and by ensuring that consumers have the information needed to make informed choices.

I would like to thank all my colleagues for their hard work over the year. I would also like to thank our stakeholders for their valuable contributions to our numerous consultations during 2006/7. This debate has led to more informed policies and decisions for UK citizens, consumers and the communications industries, and I look forward to continuing the debate in 2007/8 and beyond.

Ed Richards, Chief Executive

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