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Chapter 2 - Market Definition, Statement on Wholesale Mobile Voice Call Termination consultation

Market Definition

Introduction

2.1 Ofcom does not propose to alter the market definitions that were proposed in the December consultation. The relevant markets were defined to be wholesale voice call termination on each MNO's network (or, where the MNO operates both 2G and 3G networks, across both networks).

2.2 This market definition has been debated extensively over the past 2 years, including during the 2002 inquiry by the CC, as well as in this Market Review. Hence, a summary of the rationale for the market definitions is now presented. This is followed by Ofcom's responses to points made in response to the December consultation. Interested parties should also refer to the May consultation (Chapter 3) and the December consultation (Chapter 2 and Annex A), where further supporting evidence and discussion of relevant points made in earlier submissions can be found.

Market definition: wholesale voice call termination on each individual mobile network

2.3 In Chapter 3 of the May consultation, and Chapter 2 (paragraphs 2.9-2.16) and Annex A of the December consultation, the relevant market definition was proposed as wholesale voice call termination on each MNO's network (or, where the MNO operates both 2G and 3G networks, across both networks). This was done in accordance with Oftel's normal approach to setting market boundaries (see paragraphs 2.2 to 2.8 of the December consultation).

2.4 The market definition for call termination is closely linked to the calling party pays (CPP) arrangement. As the calling party pays the entire price for a mobile voice call, there is a disconnection between the person paying for the calls (and so, indirectly, for the termination charge) and the person who makes the choice of the terminating network and could thereby influence the level of the termination charge (i.e. the called party).

2.5 The overall effect of this CPP arrangement in the relevant retail markets is that, while MNOs have an incentive to keep the price of those services required and paid for by the subscriber at a level to attract and retain customers, they have less incentive to keep the price of calls to mobiles from other fixed or mobile networks low.

2.6 In the wholesale market, the effect of the CPP arrangement is similar. For fixed-to-mobile calls, MNOs have little incentive to keep voice call termination charges low, because the fixed operator will pay a high charge - either because they have an obligation to, or because they have a commercial interest in ensuring that all calls made by their subscribers are terminated. For off-net mobile calls (i.e. from one MNO's network to another), MNOs pay each other for termination of calls and there is little incentive to keep termination charges low (because higher charges are passed through into the competing MNOs' retail prices).

2.7 More formally, Ofcom considers that no adequate wholesale supply or demand side substitutes for termination of calls to the subscribers of a specific MNO currently exist. Current technology does not allow the termination of a call to a mobile other than on the network of the MNO to which the called party subscribes. This appears unlikely to change in the near future. At the retail level, Ofcom is of the view that, at present, there are no effective alternatives for callers that could act as a constraint on termination charges. In addition, callers appear to have limited awareness of the cost of calling mobiles. There is a minority of mobile users that shows a higher elasticity to the price of incoming calls(-5-). However, MNOs have segmented these users by offering them special tariffs, thus preventing this group from putting any effective pressure on the generality of termination charges levied on fixed operators and other MNOs. Technological conditions and the behaviour of called and calling parties may change over time, but Ofcom believes that this is extremely unlikely to happen in the next two to three years. Hence, Ofcom believes that, at present, there are separate markets for voice termination on each MNO's network(s). A more detailed discussion of the markets and Ofcom's reasoning can be found at Annex A of the December consultation.

2.8 Ofcom's conclusion is therefore that the supply of wholesale voice call termination on each individual mobile network constitutes a separate market, and that the geographic extent of each network is also the geographic extent of each relevant market. It is not expected that this market definition would change over the period to 2006.

2.9 The December consultation proposed that voice calls terminating on 2G and 3G networks (where owned by the same MNO) should be considered as being in the same market. This view was on the basis that, although termination on a 2G network and termination on a 3G network were not substitutable, for commercial and technical reasons a common price was likely to be levied for termination on either network. This pricing policy would imply that the originating operator would pay the same price for voice call termination on an MNO's 2G or 3G network. Therefore, it would be reasonable to include them in the same economic market.

2.10 As there was some doubt as to the consistency of this definition with that proposed by the European Commission in the Recommendation (see paragraph 16 of the Annex to the Recommendation), Oftel notified the European Commission that it had identified markets which were potentially different from the Recommendation.

Responses to the December consultation

2.11 There were a significant number of responses to the May consultation on market definition issues from MNOs, and these responses were addressed in the December consultation (see Chapter 2 and annex A). Although these issues were not further raised in response to the December consultation, Ofcom is aware that disagreement remains between Ofcom and the MNOs on the scope of the appropriate market definition, with MNOs generally preferring a wider market definition (including both retail (access and origination) services as well as wholesale termination services).

2.12 Further responses to the December consultation on market definition issues were essentially limited to two points:

Supply-side substitution

2.13 Vodafone's comments can be summarised as follows:

"There is a clear economic linkage between origination and termination services which are provided over a common infrastructure. This means that it is wholly wrong for Oftel to conclude that there is no supply-side substitutability between the termination services of the various MNOs. In paragraphs A85 to A90 of Annex A to the Draft Notification Oftel rejects the possibility of supply-side substitution but does so ignoring the realities of the mobile telecommunications market(s)…

The service we are considering is the termination of voice calls on the Vodafone network. In paragraph A88, Oftel states that: "having a mobile network is not sufficient for an MNO to be able to terminate calls to the subscriber of a rival network.

This is plainly false. If Orange or O2 wishes to provide termination services to a Vodafone customer, they can do so quite readily by winning the customer and offering Orange or O2 services. The fact that termination is one of a number of services in the package cannot change the reality that other suppliers exist and that they are competing hard to win such customers, for example by offering subsidised handsets or attractive call charges." (Vodafone, paragraphs1.3-1.6)

2.14 Ofcom does not consider Vodafone's analysis to be correct. The logic of market definition is to consider whether substitution possibilities (demand- and supply-side) undermine the ability of a hypothetical monopolist to raise the price of its wholesale termination service. This does not occur here. Vodafone argues that MNOs respond to a small but significant non-transitory increase in price ("SSNIP") of wholesale termination by competing for that customer. But this is not sufficient to constrain the termination price, as it is not subject to competitive pressure. Put another way, considering a broad supply-side substitution of services to consumers does not change the ability of a hypothetical monopolist to sustainably raise prices for the (narrower) termination service. This ability to raise prices stems from the lack of demand- or supply-side substitutes for a consumer facing an increase in the price of termination services - that is, the consumer purchasing the fixed-to-mobile or mobile-to-mobile call.

2.15 Vodafone's argument would only hold if the consumer purchasing retail mobile-to-mobile or fixed-to-mobile calls (which use a wholesale termination service) also purchased retail mobile services from that supplier. But the CPP arrangement ensures that the party purchasing termination is not the same party who chooses the mobile network on which that call is terminated - ensuring that the 'field of competition' in which mobile operators compete for customers does not extend to termination services. Ofcom therefore does not believe Vodafone's analysis is supportive of a broader market definition. The appropriate market definition is not changed by the fact that any excessive profits generated in call termination may subsequently be competed away.

2.16 Ofcom notes that its market definition and analysis of supply-side substitutes is consistent with that of the CC(-6-) and the European Commission.

2G and 3G markets

2.17 BT comments on the combined 2G/3G market definitions:

"A2…Thus, call termination is considered to form one market based on the assumption that there will be common pricing by mobile network operators for 2G and 3G voice call termination.

A3 BT believes it is methodologically incorrect to define markets on the basis of an assumption about how suppliers will behave. As we describe below, we also believe it unlikely that the assumption will apply in practice. This will inter alia impose costs on end-users and so be in conflict with the regulatory objectives laid down in Article 8 of the Framework Directive.

A4 In its Explanatory Statement, Oftel concedes (paragraph A.107) that if different charges were to be payable in respect of 2G and 3G termination, there would be a case for defining separate markets. However, Oftel states that this would make no difference to the SMP designation, nor to the 'proportionate remedies'. This is a conclusion that BT would dispute, for the reasons described in section B below."

2.18 The European Commission also commented on these definitions:

"The Commission is of the view that it is uncertain whether Oftel's assumptions on a common pricing policy would prove to be correct in practice [footnote] Oftel to a large extent bases its assumption on the current pricing behaviour of "3" and on the other mobile network operators' statements." (European Commission, page 4)

2.19 As noted in paragraph 2.9, the market definitions were proposed on the basis of an assumption about the likely behaviour of MNOs once they had operational 3G networks over which voice call termination services could be supplied. In relation to '3', the market definition was proposed on basis of '3''s current behaviour.

2.20 The nature of the market review program which Ofcom has undertaken is forward-looking in nature. That is, the development of markets with and without ex ante obligations over the next two years must be considered. Ofcom believes the market definition process therefore inevitably requires informed judgements as to the likely nature of MNO behaviour.

2.21 Ofcom considered the responses of MNOs on their likely behaviour when supplying voice call termination services over their 3G networks. These responses suggested there were likely to be both technical and commercial reasons why they would be unable to set separate charges for 2G and 3G termination services. The likelihood that there would be a common pricing constraint for 2G and 3G termination suggested that it would be appropriate to put these services in the same market (where they were supplied by the same operator). Ofcom therefore considers that, on the basis of currently available information, it would not be appropriate to define separate markets.

2.22 In addition to the substantive comments above, Ofcom also notes that the European Commission stated that it did not believe the markets defined in the December consultation were in fact different from the markets identified in its Recommendation:

"Based on the draft measure and the additional information provided by Ofcom, the Commission concludes that the product market definition does not differ from that in the Commission's Recommendation on relevant markets." (European Commission response, p. 2)

Conclusions

2.23 Ofcom has concluded that, having taken due account of the Recommendation and the SMP Guidelines, as well as Oftel's guidelines on assessing effective competition in carrying out this review, there are six separate relevant markets as follows:

2.24 As indicated by the European Commission, these market definitions are consistent with those in the Recommendation.

2.25 These market definitions are without prejudice to any economic analysis that may be carried out in relation to any investigation or decision pursuant to the Competition Act 1998 (relating to the application of the Chapter I or II prohibitions or Article 81 or 82 of the EC Treaty) or the Enterprise Act 2002. See paragraph 2.49 of the December consultation for further information.

Footnotes:

5. - The evidence presented in previous consultations is still consistent with more recent evidence produced by Ofcom. For example, Ofcom's February 2004 survey of mobile users (forthcoming) found that, on an unprompted basis, only 2 per cent of users mentioned that one of the reasons for choosing a particular network was that it would be cheaper for others to call them. Only 9 per cent claimed that the cost of other people calling them was a significant factor in choosing their network, and that only 11 per cent had actually found out how much it would cost people to call them.

6. - See paragraph 2.147 of the CC report.

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