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Introduction

1.1 National Grid Wireless Ltd (which has traded under the name “Arqiva” since 22 September) and British Sky Broadcasting Ltd (Sky) have applied to remove the three free to air (FTA) channels that Sky currently provides on digital terrestrial television (DTT). These would be replaced with five pay TV channels as part of Sky’s “Picnic” service^(-1-). We published a consultation document on this proposal on 4 October 2007.

1.2 In parallel with our consideration of the proposal we have been carrying out a wider investigation into the pay TV sector, and we published a consultation document as part of that investigation on 18 December 2007. As noted in our news release of 13 May 2008^(-2-), there are issues raised by the Sky/Arqiva proposal, such as access to premium content, that inform our wider pay TV market investigation and vice versa. In addition to this document, we are therefore also publishing today a further consultation in respect of our pay TV market investigation^(-3-).

1.3 In the context of our pay TV investigation, we are consulting on a view that Sky has market power in separate wholesale markets for premium sports and movies channels, and that it is likely to exploit that market power by limiting the distribution of those channels to other retailers. We are further consulting on a proposal to address our concerns by requiring Sky to wholesale premium channels on regulated terms. In the light of these views we reach the view in this document that it is highly unlikely that any competitor would be able to compete effectively with Picnic in the absence of a wholesale arrangement.

1.4 Our conclusion in this document, on which we are consulting, is therefore that we are most likely to fulfil our regulatory duties by consenting to the proposal but only subject to effective fulfilment of certain conditions. This approach would seek to gain the benefits of greater choice in premium sports and movies on DTT, whilst ensuring fair and effective competition in pay TV. We are therefore also consulting on the potential use of the following conditions:

• A wholesale must-offer arrangement, under which Sky would be required to supply its premium sports and movies channels on a suitable wholesale basis which is commercially viable, in particular, subject to certain conditions in relation to wholesale pricing.
• The use of simulcrypt, under which other retailers of pay TV services on DTT, using different conditional access systems, could access Sky’s premium sports and movies channels without needing to transmit the same channels more than once, subject to suitable security requirements.
• Ancillary conditions, which would focus on our intended outcome for competition and consumers by ensuring that a wholesale must-offer arrangement is not easily manipulated to be ineffective, but commercially and technically workable.

1.5 Some stakeholders have expressed concern to us regarding various advantages which Sky has as a retailer, which could not fully be addressed either by a wholesale must-offer arrangement, or by any other conditions of which we are aware. These stakeholders have therefore argued that Sky should not be permitted to retail pay TV services on DTT, even after the introduction of effective wholesale must-offer arrangements and related conditions. Our view is that a number of the advantages which have been cited (e.g. Sky's brand strength) are not unique to Sky and do not justify ex ante intervention. Some of the concerns, such as Sky's ability to influence manufacturers and retailers of set-top boxes, are more specific to Sky. However, the available evidence does not justify what would effectively be a blanket prohibition on Sky retailing on DTT.

Our October 2007 consultation

1.6 The proposal must be considered in the context of our regulatory duties and principles. In particular, we have a principal duty to further the interests of citizens and consumers, where appropriate by promoting competition. In light of this principal duty, and the significant competition issues raised by the proposal, we published a consultation document on 4 October 2007.

1.7 DTT, primarily driven by the popularity of Freeview, is widely regarded as a success story. By the end of March 2008, DTT had become the most common means of receiving television with almost 40 per cent of all TV sets being DTT-enabled, and more households receiving digital TV services via DTT than via satellite or cable. However, in comparison to satellite and cable, the provision of pay TV services on DTT is still emerging. The development of these services is still uncertain, especially at a time of significant technical evolution and service innovation with a number of issues to consider in the near future, including: digital switchover and the use of the released spectrum, a possible move to different technical transmission standards (e.g. MPEG4 and DVB-T2), and the introduction of high definition services. The evolution of DTT is therefore reaching a significant transition point.

1.8 Our preliminary view was that the launch of a Sky pay TV service on DTT, offering premium sports and movies, would have an immediate, positive effect on the choice and availability of retail pay TV services on DTT. However, we also expressed some concerns. The critical stage in the development of pay TV on DTT provides an opportunity for a pay TV provider on DTT to emerge to compete with existing providers on satellite and cable. If, as a result of Sky’s position in the wholesale provision of sports and movies channels, the proposal was to lead instead to Sky becoming the main provider of pay TV services on DTT as well as satellite, this in turn might lead to be the source of significant concern and potential consumer detriment in the long term.

1.9 Given the concerns raised, and the uncertainty about the development of DTT and the impact of the proposal, we identified the following options for consultation:

• Option 1: consent to the proposal unconditionally, relying on our ex post competition powers.
• Option 2: consent to the proposal subject to additional ex ante conditions, such as requiring Sky to make its channels available to other retailers on a wholesale basis.
• Option 3: not to consent to the proposal under any conditions.

Responses to the October consultation and our preliminary conclusions

1.10 In total, we received 450 responses to our October consultation: 426 responses from members of the public and 24 responses from organisations^(-4-). As a brief overview:

• About 87 per cent of the 426 individuals who responded said we should not consent to the proposal under any circumstances.
• Sky was the only organisation which said explicitly that we should consent to the proposal unconditionally.
• The majority of the other organisations (including all of Sky’s retail competitors) said that we should not consent to the proposal, or consent to it only if appropriate ex ante conditions were imposed on Sky.
• Most organisations also said that we need to consider the proposal alongside our wider pay TV market investigation.

1.11 The issues raised in the responses can be considered in four specific areas: (i) access to content, (ii) Sky as a retailer of pay TV services, (iii) technical platform services, and (iv) other policy considerations.

Access to content

1.12 In October 2007 we expressed a concern that if Picnic was to launch on DTT it could become very difficult for competing pay TV retailers to gain or retain consumers, without similar access to Sky’s sports and movies content. Stakeholder views were highly polarised on this issue. Sky said that there is a single “all TV” market which encompasses all sorts of audiovisual content, and hence the proposal would not significantly change the dynamics of competition. In contrast, most other respondents said that premium content was distinct from other TV content, and ownership of premium content such as sports and movies has provided Sky with enduring market power.

1.13 In our pay TV market investigation our current view for consultation is that some pay TV content is of particular importance: live Premier League football and first-run blockbuster movies have an especially wide appeal, and are not available via FTA TV. We consider that channels containing these types of content (“Core Premium channels”) are in their own narrow wholesale markets and that Sky has market power in those markets. Given this view, we consider it is highly unlikely that any retailer of pay TV services on DTT would be able to compete effectively with Picnic in the absence of the wholesale supply of Sky’s Core Premium channels.

1.14 In the context of our pay TV investigation, we are consulting on a view that a wholesale must-offer arrangement, under which Sky would be obliged to supply its Core Premium channels on a suitable wholesale basis, would be the most appropriate solution to the competition concerns raised. This would seek to create an environment to promote fair and effective competition. We are consulting in this document on a view that such an arrangement would also address the competition concerns raised by this proposal.

1.15 In order for such a wholesale supply arrangement to work effectively in the context of this proposal, some particular conditions may be appropriate to ensure competitors’ set-top boxes can receive the sports and movies channels, and to provide the right incentives to Sky and its competitors to achieve the intended outcomes.

1.16 In particular, we consider the use of simulcrypt would be appropriate to avoid using scarce capacity to transmit the same channels more than once. Simulcrypt enables the same channel to be broadcast with more than one conditional access system, which would allow both competitors’ existing set-top boxes, as well as Picnic compatible boxes, to receive these wholesale channels.

1.17 In addition, it may be appropriate to impose ancillary conditions which provide incentives to implement a wholesale must-offer arrangement which is both commercially and technically viable, in a timely fashion. Our current view is that it is impossible in advance to identify comprehensively the types of behaviour which Sky might engage in to reduce the effectiveness of any wholesale must-offer arrangement. We recognise that third party retailers may also have an incentive to reduce the effectiveness of any wholesale must-offer arrangement. We therefore consider that it would be better to impose ancillary conditions which focus on delivering the intended outcome for competition and consumers rather than attempt to address a wide range of potential behaviours. Examples of such types of conditions may include a requirement that Picnic may not commence service until:

• A local simulcrypting trial involving Sky, Arqiva and one or more prospective third party retailers is carried out to the satisfaction of Ofcom and the relevant parties.
• At least one third party retailer is in a position to start retailing the wholesale channels.
• A short defined time period has elapsed following (i) the launch of a competing pay DTT service that includes at least one of the wholesale channels or (ii) the satisfactory completion of a local simulcrypting trial.
• Sky has achieved a specified number of wholesale DTT subscribers, defined to be subscribers of retail competitors on DTT who include at least one of the wholesale channels as part of their subscription.

1.18 Given our objective of finding the least intrusive means of achieving our intended outcomes, we encourage stakeholders to explain why any recommended ancillary condition would be necessary and why there would be no other practicable and less restrictive means of addressing the concern in question.

Sky as a retailer of pay TV services

1.19 A number of organisations told us that Sky (or possibly related News Corporation companies) would have the incentive and ability to restrict the take up of competitors’ set-top boxes and services in order to become the sole retailer of pay TV services on DTT. Sky told us that it intends to foster a contestable market for the supply of Picnic compatible set-top boxes by any manufacturer that could meet Sky’s technical specifications, replicating the model for existing Freeview set-top boxes.

1.20 We do have concerns about the issues which could arise from Sky’s position as a major purchaser of satellite set-top boxes and its relationship with retailers. However, at this stage, we have not been presented with convincing evidence to support the proposition that any anti-competitive activities would be likely to occur or would deny Sky’s retail competitors access to potential subscribers. Of the activities highlighted by stakeholders, which could be used to gain competitive advantage, the majority do not appear to be unique to Sky. Other competitors could adopt similar practices, and it is not clear that these activities are in themselves undesirable. We also consider that putting in place arrangements to offer retail competitors access to Sky’s premium content could, in principle, address some of the objections to Sky retailing on DTT.

1.21 Given the availability of our ex post competition powers, we consider there is insufficient evidence to justify ex ante intervention to prohibit Sky from retailing pay TV services on DTT.

Technical platform services

1.22 In our October consultation we recognised that the proposed use of set-top boxes incompatible with existing DTT pay TV services could ultimately result in Sky controlling access to technical platform services on DTT. Many respondents said this was a genuine concern and some said we should mandate the use of standards compatible with those already in use on DTT. Sky told us that it intends to promote an environment where, in principle, any manufacturer could build and supply Picnic compatible set-top boxes, subject to meeting Sky’s technical specifications. It also said that it would provide technical platform services to broadcasters of other pay DTT channels, subject to a number of conditions.

1.23 We would be concerned if Sky leveraged its market power in the wholesale provision of premium content in order to gain control over technical platform services on DTT. However, we consider a suitable arrangement where competitors could gain access to Sky’s premium channels would address this concern since it would then be possible to watch these sports and movies channels on a competitor’s DTT platform, and not only on Sky’s DTT platform.

Other policy considerations

1.24 In October 2007 we said we would be concerned if the proposal had a detrimental effect on the appeal of Freeview by significantly reducing the number of FTA channels, impeding the take up of digital television in the lead up to digital switchover, or causing consumer confusion over different types of DTT set-top boxes. Our preliminary view was that this was unlikely; a view shared by Sky. While most other organisations agreed that it was unlikely to have a detrimental effect on Freeview, they had greater concern about consumer confusion and Sky’s continued presence on the board of Digital Television Services Limited (which manages Freeview) if it no longer had any FTA channels but replaced these with a competing pay TV offering. In contrast, 75 per cent of individuals who responded said that the removal of Sky’s existing FTA channels would significantly harm Freeview, and over 60 per cent said they thought the proposal might lead to, or increase, consumer confusion.

1.25 While we recognise there may be issues about the plurality of news provision, our view at this stage is that the current proposal is unlikely to have a significant adverse impact on DSO or the popularity of Freeview with consumers. While the proposal will lead to greater choice, and potentially complexity, for consumers when they decide what set-top boxes and TVs to buy, a degree of greater complexity may be an inevitable and acceptable consequence of increased competition and innovation.

1.26 We do have a concern over Sky’s position on the board of Digital Television Services Limited under the proposal, given its interests may be increasingly misaligned with those of Freeview as both services develop further. However, at this stage we would be cautious about pursuing a regulatory remedy without allowing the opportunity for a commercial resolution to be agreed.

Footnotes:

1.- Sky currently provides Sky News, Sky Sports News and Sky Three on a FTA basis. These would be replaced by Sky Sports 1, Sky Movies Screen1 (in the evening) and Sky One (in the evening, including an hour of Sky News content). In addition, the remainder of Sky’s capacity would be used by Sky to retail two further pay TV channels in the daytime: Discovery Channel and Disney Channel. The proposed Picnic service would not be compatible with any existing set-top boxes. Consumers would therefore need a new set-top box to receive these pay TV channels.

2.- The news release can be found at: http://www.londonstockexchange.com/LSECWS/IFSPages/MarketNewsPopup.aspx?id=1838680&source=RNS.

3.- The consultation can be found on our website at http://www.ofcom.org.uk/tv/paytv/.

4.- All of the non-confidential responses to our October consultation can be found on our website at: http://www.ofcom.org.uk/consult/condocs/dtv/responses/

The full document is available below

• Proposed BSkyB Digital Terrestrial Television Services [pdf]
  Full Print Version, updated on 08|10|2008 with a minor correction to paragraph A1.11

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