Home > Media and Analysts > Speeches and Presentations > 2005 > Feb > 08|02|05

10|02|05

Speech to Communications Managers Association (CMA), 8 February 2005

Stephen Carter, Chief Executive, Ofcom
8 February 2005

Good afternoon.

Last year, David Currie spoke at the CMA annual conference. He set out the challenges that we faced in setting up Ofcom, and our hopes and expectations as we looked forward to what promised to be a busy first year of operation.

So this year, it seems only fair to ask whether that first year of operation has lived up to our - and your - expectations. Did we do what we said we would do? What worked, what didn't? And importantly - are we delivering on the promise that Ofcom would be a different kind of regulator, with increased output, higher quality, delivering on time and at lower cost?

And what about the vision that David outlined - of an always on, connected UK, offering liquid bandwidth at 10 M/bits a second to those who want it - is that vision any nearer to reality one year on?

Another important catch at last year's event was to recognise that where the Communications Act talks about the 'consumer' that means the 'business consumer' as well as the 'residential consumer'. As I said subsequently in our Phase 1 Telecoms Review report, 'in a knowledge economy, effective competition for business customers is equally important as for residential consumers'. Indeed, the focus on international competitiveness means that this is an area where the regulator is required to give a lot more focus now than was the case when the old regime was set up in 1984 - where retail prices and waiting lists were the issues. Alongside the networked competitiveness of the City of London.

So what are we doing to make good the promise to up the ante in our focus on and understanding of the needs of the business customer? The first step in designing a policy that meets the needs of the business user must of course be to try and understand those needs. We are committed to a programme of market intelligence-gathering and research designed to shed light on this. As an initial step, as part of the Phase 2 Telecoms Strategic Review we published some interesting research evidence on the patterns of take up and use of telecoms services by businesses.

What did the research tell us? Well, first of all, that when we talk about business users we are talking about a very diverse group with a myriad of different requirements.

We distinguished between SMEs and large businesses, but we also recognised that this was by no means the end of the story.

The SMEs in our survey had an average turnover of £740k, an average of 11 employees, and an average quarterly spend on communications of £464.

But within the SME segment we found quite distinct groups and distinct behaviours. In particular we found a cohort of technology savvy, high spending users, who account for only about 20% of SMEs but are the first to adopt new technologies. On an average of turnover of £1.6m, this group spends £1k a quarter on communications. We believe the behaviour of these customers has a disproportionate effect on the supply side.

But we also found a long tail of SME users - about 23% of the total - who spend little on and care less about telecoms. These firms are generally very small businesses with average turnover of £310k and an average of six employees. They are the lowest spending segment - as little as £200 a quarter - and over 20% have never switched supplier. They are also below average in their use of internet and mobiles and many claim that they will never be interested in broadband - no less than 58% said they saw no benefits from higher bandwidth connections.

What about large businesses? Again, those in our survey were diverse. About half had 250-500 employees and 46% had turnover under £50m. At the upper end, 16% had turnover of £250m+ and 7% had over 5,000 employees.

Again, when we looked at the telecoms usage and attitudes of large businesses, we found some important differences. For the smaller end of large business, the key product sets being purchased were PSTN, ISDN, leased lines and mobile. The high-end corporates buy all of these services but also a range of specialised access technologies for voice and data, VPN, Frame Relay, SMDS, ATM and so on. And at that high end, we are talking about very large sums of money being spent - 43% of that group spend more than £1m a year on telecoms services.

To make the obvious point, these differences within and between the categories of business user nullify any idea of a 'one size fits all' regulatory approach. We need to reflect the diverse needs of all groups of consumers.

But the research highlighted some important common themes and similarities across all groups. One of which was that, despite twenty years of liberalisation and competition, BT retains a very firm grip on large parts of the market. When asked which suppliers they used, 40% of our surveyed companies told us they used BT for VPNs, and 43% fixed calls. Very healthy numbers from a BT perspective. But even healthier in ISDN2, PSTN and broadband lines, the corresponding numbers were 77%, 64% and 60%. Even allowing for some dual sourcing, this reflects a very strong BT market position.

Part of the reason for this was that other than in calls, the number of respondents who said they had switched supplier in the last five years for any other category of telecoms service was surprisingly small - less than 30% in all categories of service we looked at.

Now a word of caution. This may all reflect complete satisfaction with BT amongst businesses. Also, it may be that our survey approach was insufficiently granular to identify pockets of customers who are getting a great deal from the competitive market.

But in aggregate, this survey evidence confirms our view that the market may not be delivering a strong competition as we would wish to see for business users.

So what are we doing to address this?

First a quick overview of what Ofcom has done over the course of the last year. My focus is what we have done explicitly in the telecoms space which is relevant to the business user, but you may be aware that we have also had some minor, uncontroversial projects looking at issues such as the future of public service broadcasting and the future shape of UK commercial radio.

Plus we have taken major steps towards creating a liberalised trading and management environment for radio spectrum - a very important activity, the economic benefits of which may not be immediately apparent but will feed through over the coming years.

In telecoms, we faced a complicated inheritance. The ink was still drying on the new EU Regulatory Framework. Oftel had taken the necessary steps to carry over the old regime by conducting a series of market reviews under the new framework, allowing existing obligations to be continued. But a number of 'difficult' market reviews were left to Ofcom to complete. Some of these - the reviews on wholesale leased lines, wholesale broadband access, call termination, and local loop unbundling for instance - of considerable importance to many of you here today in the business user community.

We took the decision to do two things. First, it quickly became apparent to us that the issues thrown up in each individual market review highlighted the need for a coherent policy approach. So we announced a strategic review of the telecoms market. More on this later.

But second, we needed to take some hard decisions immediately. On leased lines and Partial Private Circuits where we were able to reaffirm, the case for what I believe was one of Oftel's better-designed regulatory products, and reduce the charges for it. Charge controls will ensure that prices for PPCs continue to fall over the next four years, and BT has been required to introduce wholesale products to support competition in the growing market for ethernet based services. A further consultation is planned within the next few months, to ensure that these wholesale products are provided in a way which supports effective competition at the retail level.

On mobile call termination, we have not solved the underlying problem - SMP in relation to call termination - but we did at least create some stability and certainty in the near term. The challenge will be to find a longer term solution which is fair to both fixed and mobile operators and the consumer but which is less intrusive than a long-term price cap regime.

In broadband, the position we inherited can be summarised as:

• good progress on roll-out by BT and cable, but a weak competitive situation overall.
• BT facing competition in the downstream ISP market, but little if any competition at the wholesale level.

Specifically, we saw little active use of Datastream, the 'middle mile' product designed to allow competition from alternative infrastructure providers. And LLU activity confined to niche applications focused on the needs of some specific business users. Valuable, but comparing badly with the significant inroads being made by LLU competition in other markets.

The first thing we sought to do was approach this array of issues from a strategic standpoint: namely that the regulator's job is not to create short-term arbitrage opportunities for alternative businesses, but to encourage sustainable competition at the deepest points of interconnection with the BT network- that is, true facilities-based competition which allows a wide range of innovation and differentiation in the retail and service markets.

We think this facilities-based competition is very important for the business user in particular. You need a market which is able to deliver innovation on service design, quality and wrap around, not a market where competition is restricted to price - though I am also aware that communications managers like low prices!

We have done the easy bit: that is to set wholesale prices at a level where alternative operators can turn an honest penny with LLU investment in the more densely populated areas and Data-stream in the market towns and rural areas.

But now we are into the harder bit: getting BT to have processes for provisioning that wholesale supply, right first time, that work at industrial scale. We have adapted an experience from the television ad sales market sector- namely an independent adjudicator who is as much facilitator as low-cost disputes resolver.

Peter Black, the telecoms adjudicator, is working with the industry both to resolve the practical problems associated with LLU but also to develop some robust mechanisms to ensure that the process works consistently going forward - past the point where it's a headline story on the financial pages or in the top of BT executives' in-tray. He has just published proposals for new Key Performance Indicators - measures of whether the end to end LLU process is now providing a genuinely fit for purpose product.

We very much welcome input from business customers on whether these measures are likely to deliver the necessary confidence in the LLU process.

The sum total of these interventions is to create what we hope is a coherent broadband policy which seeks to encourage infrastructure competition at the deepest level possible. However, the broadband market is ever evolving and the interplay between different competitive and regulatory forces remains complex. In 2005 we will return to the issue of LLU - including setting charges for full unbundling - and for Datastream.

Whilst broadband services are important to the business user, we also recognise the ongoing importance of bread and butter voice and narrowband data. Ironically, we think the business user has enjoyed the fruits of a highly competitive market environment. Partly as a result of over-capacity on the supply side, prices have plummeted and competition for contracts has been intense. Wholesale Line Rental has proven a very effective regulatory product for SME customers, with 300 companies offering this kind of service.

However, we do question whether some of the pricing behaviour in the market - however welcome in the short term - would be sustainable in the longer term without changes to the regulatory framework.

One immediate change was prompted last year when BT re-balanced its tariffs between call and line rental. This shed a bright light on the need to fix some of the ongoing problems with the Carrier Pre-Selection product, in order to allow others to continue to compete. We encouraged BT to ensure the proper allocation of its PPP charges and to introduce a new wholesale local call product which removes the competitive advantages inherent in BT's network architecture this has helped to sustain scope for competition in the CPS market, at least for the present.

However, we recognise that retail voice competition is still very much unfinished business. And it will remain so until there is a successful scale Wholesale Line Rental product, about which more in a moment.

In addition though we have also been keen to permit the kind of disruptive market entry that could put real pressure on existing business models in voice. In particular, voice over broadband. This is of course a reality for many business users already. But to move voice over broadband from being a 'within network' solution to being a replacement to the PSTN, we have had to address some important regulatory issues around the legal status of VoB and the obligations that should be imposed upon it. As in all areas of life where European law is involved, this turned out to be less than straightforward but we believe we have brokered a workable solution.

Finally, of course, we initiated our Strategic Review of Telecommunications.

I don't want to spend too much time rehearsing the detail of that review here today, but I do want to outline some of the issues which I think are firmly up for discussion and on which we would particularly welcome the views of the business user.

The core of our analysis is pretty straightforward. The telecoms market has delivered some good outcomes to date for consumers. It has driven down prices across the board, improved quality of service and there has been some product innovation.

But we are seriously concerned that the current market structure is not sustainable. However, comparatively effective our UK regime has been, without a shift in direction, the market will start to stagnate or even go into reverse.

This analysis is based on a combination of factors. First we are at a point of technology change in network architecture. These changes are almost invisible to the general public and have not had the thorough airing which has accompanied, for instance, the transition from analogue to digital TV. And yet they are as seriously transformative. They require very large sums of money to be invested by the supply side at a time when City sentiment is still highly sceptical about TMT. And they create some serious cashflow problems for the supply side as it struggles with the transition from traditionally high-margin PSTN business to lower margin broadband and data.

Second, you, the users of telecoms services, want innovation, diversity and choice. Not a single vanilla voice telephony product, but many different flavours of voice and data, higher bandwidths, greater functionality, new applications, new content available across multiple platforms.

We believe that only a market structure based on effective competition can deliver what consumers require. If this was a plain vanilla world, the regulator could theoretically intervene directly to impose low prices and guaranteed service quality. But it is very difficult to enforce innovation and creativity via licence condition.

But thirdly, that effective and sustainable competition can be very difficult to achieve in practice, as twenty years of effort has shown.

Over the course of the twenty years since liberalisation, we have pursued effective competition in a variety of different flavours. We have had a period of managed duopoly competition, a period of actively promoting access competition, and latterly an approach that considered infrastructure and services competition to be of equivalent value and importance.

The policy of pursuing competition in the provision of fixed access has left us with a strong cable sector, much valued for the pressure it can bring to bear on BT. But even if there were a single strong cable player would be insufficient on its own to create an effectively competitive market - in particular because of its limited geographic spread. And we see no likelihood in the foreseeable future of cable networks being built out to the point where they are as ubiquitous as cable networks in other countries.

We welcome investment in new fixed wireless technologies by the likes of UK Broadband. But it is not sensible or viable to base a regulatory policy on technologies which remain unproven at this stage.

Hence, our conclusion has been that to a significant extent, BT's access network will remain a natural monopoly or what we have termed an 'enduring bottleneck' and will need to be regulated accordingly if competition is to thrive. But we have also concluded that there is scope for infrastructure-based competition in core networks, and in some cases in the 'middle mile' connecting core networks to access networks - what some in the industry refer to as backhaul.

But if competition is going to be at all effective, given the existence of these enduring bottlenecks, it will be necessary to ensure that access to these bottlenecks is available on genuinely fair terms to BT's competitors. Hence, our concept of 'real equality of access'. This has two elements - product level equivalence, and changes to behaviour and governance - and both of these are equally important.

In relation to the latter, BT has made some significant proposals in its response to the consultation. These will be the subject of industry discussion - a first workshop is planned for next week. The devil of course is in the detail. But I welcome BT's willingness to move the debate forward in this area.

The product-level equivalence aspect has attracted less attention. And yet in many ways the issues that it raises are as difficult. We distinguished between equivalence of inputs - BT using exactly the same products, procedures, processes and gateways as its rivals - and equivalence of outputs, where BT continues to use its own unique products but the advantage that flows from this is offset in some way, perhaps through pricing. We made clear that equivalence of input is a strong preference, though we noted in some cases that it would be difficult to apply to legacy products without imposing excessive cost.

From industry reaction so far, it is clear that there is a strong preference for equivalence of input wherever possible. In particular it has been suggested that this is vital in relation to the Wholesale Line Rental product which many companies wish to use to provide further competition in voice services and - importantly - to be able to fully own their relationship with the customer. On this, the debate continues.

Achieving equality of access to enduring bottlenecks should allow us to focus our regulation more narrowly in the future and in particular should allow us to deregulate retail markets and remove wholesale regulation upstream of the bottleneck in question.

Here the question is how far and how fast. BT is rightly pushing us to be clear on the direction and travel, and to demonstrate a willingness to think creatively. But of course, our approach must be rooted in an evidence-based approach.

And here I would make a plea to the CMA.

One clear candidate for further deregulation is in relation to the supply of services to large businesses. Here BT has argued the case for liberalisation is particularly irrefutable - as they put it, can anyone doubt that companies in the City of London have a widespread choice of suppliers and can obtain value for money through running competitive tenders?

Let me remind you that significant deregulation has actually already taken place as a result of the introduction of the EU regulatory framework. This narrowed down what was previously an across-the-board set of restrictions on BT's pricing behaviour to a much smaller set of SMP services for businesses. Our rough estimate was that this took some £2-3bn worth of business outside of the regulatory arena, including key services like VPNs.

This time last year, we published a statement on large business pricing. This looked at the scope for further liberalisation in the remaining markets where we had found BT SMP. Our conclusion was that BT could have more freedom to bundle SMP and non-SMP elements in a single discount scheme - something it is very keen on - providing there was replicability of the key wholesale inputs, WLR, CPS and PPCs. Meaning that rival suppliers could be operating on a level playing field in seeking to compete with such discount packages.

The key question of course is what is replicability in this context. In our view it links firmly to the concept of equivalence. So, if BT introduces genuinely 'equivalent' wholesale products, there is scope for significant further liberalisation. As part of the TSR we are reviewing how far the relevant wholesale products are away from offering that 'equivalence'.

The second area we looked at was price publication requirements. BT argues that such requirements don't actually protect the customer at all. Far from it - they create a reference price which effectively sets a target for BT's rivals which is higher than it needs to be. It argues that a requirement to publish prices effectively stymies BT from responding to tenders and from entering e-auctions for business contracts. The end result, according to BT, is that the effect of regulation is to raise prices, rather than lower them.

This again is an area we are prepared to look at again, but we particularly welcome the input of the business user on this, to ensure we have a proper understanding of the dynamics of the market and the effects of price publication. Because requirements are in place to protect you, not to protect BT's business rivals.

BT has also asked us to look more radically at whether the broad characterisation of single, national markets for 'business services' is past its sell-buy date. We have been asked to look again at whether competitive conditions vary in different geographic areas and between different segments of the business market.

Addressing this question requires data and hard facts, about types of businesses, where they are, what they purchase and who is in the market to supply them. So we are proposing as part of the implementation of the TSR to undertake a major fact-finding exercise designed to answer the questions that BT has raised. Again, your help will be critically important in that process.

Finally, I want to talk a little bit about where the market may be headed and the challenges that this imposes for the regulator.

The business market drives the adoption of new technology as we have already seen in relation to broadband and voice over broadband. The question is: where next? What happens at the cutting edge of business today is likely to spread throughout the business community tomorrow, and to the residential consumer the day after.

The shift to Next Generation Networks - such as BT's announced 21st Century Network - imply a massive change to the product set. We have set out some of the possible changes in our TSR document and in the separate consultation on the 21CN itself. We expect to see the progressive deployment of fibre solutions in place of copper (for instance Ethernet in place of existing leased lines), and the eclipse of legacy platforms like ATM in favour of all-IP architecture.

This poses major challenges for the regulator. We want to avoid regulating new services wherever possible. But in some cases it may be necessary for existing regulation to evolve as the product set evolves, but some regulation may still be needed where the underlying infrastructure is still an economic bottleneck.

We also need to recognise the importance in the business market of restrictions on switching between supplier, whether enforced through contract or effectively imposed through the grave difficulty and risk that a business incurs when it tries to make the change, for instance as a result of inadequate migration processes.

These 'real world' restrictions are important as we assess the scope for effective competition. We will be mindful of the need to avoid an unduly theoretical approach to competition.

Back to top