1. Management summary  

This report is an economic evaluation of whether number portability (NP) should be introduced into the mobile telephony industry in the United Kingdom. Our analysis shows that there will be a net gain to the UK economy of £98m from the introduction of mobile NP.

We conclude that:

• the UK will be better off if number portability is introduced

• Oftel should therefore require mobile operators to introduce NP

• NP should be introduced as soon as is practical.

In order to come to these conclusions we have:

• set up a framework for the economic analysis of mobile NP (described in Section 3)

• carried out extensive user surveys to estimate the likely implications and benefits of NP (we summarise these in Section 4)

• analysed with the industry the likely growth of the mobile industry and the impact of NP (see the base Case and the Switching Model papers in the Appendix)

• examined the likely costs of mobile NP (Section 5)

• created a cost benefit model of the economic evaluation and carried out sensitivity analyses (the results are set out in Section 6)

• proposed how the costs of mobile NP should be allocated between the operators (Section 7)

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2. Introduction to the study

2.1 Introduction

In this section we explain the reasons for the study, the basic concepts behind the study of costs and benefits in number portability (NP), and Ovum's approach to the study. First of all we put the development of NP into its international and historic context.

2.2 International background

Number portability - the ability of telephone customers to keep their number when moving between operator, service or location - is firmly on the agenda of the National Regulatory Authorities of the countries introducing competition into telecommunications. It is increasingly accepted as an integral part of a competitive environment, and is being considered for introduction in a number of liberalising countries.

NP was first available for freephone services in the USA in 1993. For the fixed network it was first introduced in 1996 in the United Kingdom and Hong Kong. There are firm plans to introduce it in Denmark, France, Germany, and the Netherlands in 1998/1999. In Figure 2.1 we summarise the international position on NP.

The European Union considered the desirability of NP during its deliberations on numbering issues. In the Green Paper issued in late 1996 the Commission proposed that NP should be implemented in fixed and mobile services by January 2000. However the final version, published as a Communication in May 1997, proposed that mobile NP should be subject to further study in each member country.

Figure 2.1: International position on number portability

(1) Restricted to local dialling area

(2) Simultaneous operator and location NP restricted to local dialling area

(3) Not advertised

(4) Mobile and paging networks only

2.3 United Kingdom

In the UK, NP was first proposed for the fixed network in 1993 by Oftel, and although agreement was reached between BT and the cable operators on the technical principles, it proved impossible to agree on how the costs of NP should be allocated between the operators. BT objected to Oftel's proposals to amend its licence conditions, and the dispute was referred to the Monopolies and Mergers Commission (MMC). An important part of the MMC's Inquiry was an examination of a cost benefit analysis of the introduction of NP into the fixed network. This study had been commissioned by Oftel, and was carried out by NERA. The MMC produced its report in November 1995, and this set out the charging principles to be used. The first NP service was started in May 1996.

Oftel then moved on to examining NP for non-geographic numbers (freephone, local rate, national rate and premium rate services) and for mobile services. Technical trials for non-geographic services were started in 1997.

For mobile services, Oftel consulted the industry and the public on the principle of mobile NP during the consultation on the National Numbering Scheme in August 1996, and found widespread public support for its proposals. Oftel committed itself to the principle of mobile NP in its policy statement on the National Numbering Scheme (issued in January 1997). In 1996 the industry initiated discussions between the mobile operators and equipment suppliers on technical solutions through the Network Interoperability Consultative Committee. Towards the end of the year Oftel decided that an economic evaluation of mobile NP was necessary. This would have to demonstrate whether the benefits of mobile NP outweighed the costs, and hence whether the introduction of NP was in the public interest. This report describes that economic evaluation.

2.4 Objectives of the economic evaluation

Oftel's terms of reference for the study were as follows:

• to evaluate the benefits to be gained by telecommunications subscribers from the introduction of mobile NP and establish how those benefits will be distributed;

• to evaluate the costs likely to be incurred due to the introduction of mobile NP and establish where those costs will fall;

• to provide an estimate of the aggregate of costs and benefits from a national perspective.

An important part of the study was the creation of a "base case", which forecast how the mobile industry would develop in the UK without NP, and a "switching case", which predicted the effects of introducing NP on customer volumes and on switching rates. These were used as discussion papers with the industry, and their responses were used in developing a final switching model. These papers and the model are to be found in the Appendix.

2.5 Benefits and costs in NP

The basic economic problem with NP is that the benefits fall on certain groups of customers, and the costs fall on the operators (and hence their customers). This leads to two problems:

• how do we know whether the overall benefits outweigh the costs, and hence whether it is worth introducing NP?

• how should costs created by NP be allocated between the various parties?

The bulk of this report examines the first question, and in Section 7 we consider the second question.

Porting possibilities

NP allows customers to keep their number when changing operators or services. In the UK's mobile industry there are several possibilities for a customer porting a number:

• they can change operator (for example, when moving between Cellnet and Vodafone)

• they can change service (for example from analogue to digital services)

• they can change service provider (for example, from Talkland to Cellcom)

Indeed, all can occur at the same time! We illustrate the possibilities in Figure 2.2.

Figure 2.2: NP possibilities in mobile

In the UK it is (in theory) possible to move from one service provider to another and keep the number if the customer is not changing operator. We have therefore ignored this dimension of NP, and focused on NP for customers changing operator and service.

The benefits

New entrants to the fixed networks have argued strenuously that customers are reluctant to change operators if they cannot keep their telephone number. For both residential and business customers there are costs of changing stationery, informing contacts and entries in directories. Businesses fear that they will lose business as a result of customers or suppliers no longer being able to contact them. Callers to business or residential customers who change operators also incur costs of changing their records or of time spent dialling the wrong number. With NP customers save these costs.

There are also other wider benefits of NP. Some customers may change to more efficient operators if NP is introduced, thus saving expenditure on telephony. This will make the industry more competitive, and encourage more operators to enter the market. This will force existing operators to become more efficient, and the national economy will benefit from having a more competitive telecommunications industry.

In Figure 2.3 we summarise the types of benefits, using the classification used in a number of NP cost-benefit studies. We have followed the distinction made in the NERA study of the fixed network in using the Type 1, 2 and 3 classification:

• Type 1 benefits accrue to the customers who switch operators, networks or services;

• Type 2 benefits accrue to all customers;

• Type 3 benefits accrue to people who make calls to customers who have ported their numbers.

This table also illustrates an important distinction between "Type A" and "Type B" customers:

• Type A customers will switch to another supplier (or service) whether or not NP is available;

• Type B customers will switch to another supplier (or service) only if NP is available.

Figure 2.3: Types of benefits and beneficiaries of NP

It should be noted that:

• not all these benefits are easily quantifiable, and we have chosen to concentrate on those that can be reasonably quantified;

• not all these benefits are relevant - the economic evaluation has to examine costs and benefits from a national viewpoint, and some (such as loss of business) are simply transfer payments

• we have to follow through some of the implications of the benefits - for example lower prices may lead to reduced profits for operators, although these will be offset to some extent by an increase in the number of calls made.

In Section 3 we describe in more detail how we dealt with these issues, and in Section 4 how we estimated the benefits.

Costs

There are five sets of costs to be considered in NP:

• system set up costs (the costs required to condition the networks, and we define these as the costs necessary to carry the first ported call)

• customer transfer costs (the costs involved in transferring a customer from one operator, service provider or network to another)

• additional traffic costs (the costs of carrying calls to ported numbers)

• customer costs (the extra costs of new handsets or SIM cards, depending on the handset used)

• caller costs (the additional delay in setting up a call if the called number is ported)

The key questions about costs are:

• which of the costs identified by the operators should be included in the economic evaluation?

• are the costs generated by the operators reasonable?

• are there any other costs that should be included in the economic evaluation?

We describe our approach to these questions and to the estimation of the costs in Section 5.

2.6 Differences between the fixed and mobile networks

It is tempting to apply the results of the costs benefit analysis conducted on the fixed network directly to the mobile networks. However there are some important differences between the two which make a fresh study necessary. The main differences are as follows:

• for some business customers, the mobile number is much less important. It is used almost as an internal extension number, and may not be advertised externally;

• for other business customers, the mobile number is more critical than the fixed network number, especially for small businesses and single traders who are constantly on the move. Plumbers, electricians, and builders are examples of people who advertise and value their mobile number highly;

• for some residential customers, the mobile phone is available mainly for emergencies, and so is little used for receiving calls. However, for others it is a substitute for a fixed telephone;

• the benefits to callers are greater than in the fixed network because few mobile numbers are published in telephone directories. Hence callers have much greater problems in tracing contacts who have changed their mobile numbers;

•  at present, charges for calling different mobile network operators, say from BT’s network, vary, and charges for calling DCS are somewhat lower than those for GSM networks (although the differential has been narrowed recently).

• entry into the mobile market is governed by the availability of radio spectrum, and so the scope for further national benefits from more entrants is more limited than in the fixed network;

• the scope for national benefits from greater efficiency is more limited than in the fixed networks because the mobile networks are of a more similar age and efficiency;

• there is no one dominant operator in the UK mobile industry, and so the benefits to competition, which provided the bulk of the benefits in the NERA study, are less easy to identify and measure;

• the existence of the service provider layer, the handset subsidies and dealer commission structures add complexities in the mobile market that are not found in the fixed market, and we have to consider the economic and market implications of these.

As a result we had to consider some very specific issues in this study, and direct comparisons between the work carried out by NERA and this study soon break down.

2.7 Ovum's approach to the study

In designing our approach to this study, we aimed to achieve results that:

• were well founded on existing economic theory;

• made use of actual, rather than hypothetical data wherever possible;

• were conservative rather than optimistic;

• had involved the mobile industry in the process.

A key member of our study team was Mark Armstrong, Professor of Economic Policy at the University of Southampton, He is an acknowledged expert in the application of economic theory to regulation, and was an independent assessor for the MMC Inquiry on geographic number portability.

In order to meet the second objective, we carried out extensive surveys of personal mobile phone users, small and medium enterprises (SME), and corporate users of mobile phones. These surveys provided most of the data for the estimation of the benefits. In estimating costs, we used estimates produced by the operators, but these were reviewed and refined by John Horrocks, an independent technical expert who has studied NP costs in several other countries.

Where we were faced with a range of possible values for the figures to go to the economic evaluation, we erred on the conservative side in order to ensure that the results are robust. If subsequent investigations show that the benefits are greater, or the costs lower than we believe, the decision is not altered. Because we have taken a conservative view, we believe that few improvements in data will lead to lower benefits or higher costs.

We met the four mobile operators and two service providers to discuss both our views on the likely growth of the mobile industry and the impact of NP (using the base case and the switching paper as the basis for these discussions). John Horrocks met two operators to discuss their cost estimates. In addition Oftel organised a presentation of our draft results to the industry, some corporate customers and user organisations, and this report takes the comments expressed during these consultations into account.

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3. The economic framework

3.1. Introduction

This section summarises Ovum's economic approach to the estimation of costs and benefits for NP in mobile telecommunications. We set out the principles, apply them to the various costs and benefits that may arise with the introduction of NP, and describe their measurement, either as part of the user survey, or in other ways.

3.2 Private and social costs of changing telephone number

An important ingredient of the economic evaluation of NP in Section 5 below is an understanding of the various costs associated with a subscriber changing number. These include:

(i) costs to subscribers of informing potential callers of new numbers, including the time involved, changing stationery, repainting vehicles, and so on;

(ii) costs to callers (if they have been informed) of updating databases, reprogramming telephones, and so on, to take account of the subscriber’s new number;

(iii) costs to callers of finding the new number if they have not been informed, for instance the time and expense in finding new number from directories;

(iv) costs to subscribers of not receiving calls from callers whom they have neither informed nor who have not found the new number on their own, including the disutility from not receiving calls from friends and any business lost;

(v) costs to callers in not obtaining a new number when they have neither been informed nor been able to obtain the number from another source, including the disutility from not being able to contact friends and from not being able to obtain one’s usual plumber, say.

It is important not to "double count" these costs, so for instance if a subscriber who uses the phone for private purposes informs virtually all her potential callers of the new number - so that costs (i) and (ii) are incurred - then there are virtually no costs of other kinds. Another point is that while cost (iv) may well be quite substantial on an individual basis (say for a plumber), in aggregate they may still be small since a frustrated caller will usually call elsewhere and increase the business of an alternative supplier. In other words, although the private costs of losing business due to changing number may be large, the social cost may be smaller, and it is the latter quantity which is relevant for the analysis.

We investigated the value of the cost types (ii) and (iii) during the user survey, when we discovered real life cases of the problems experienced by callers to mobile customers who had moved numbers, and asked respondents to evaluate the costs of this.

3.3 The private benefits to customers of changing operator

A major task for the economic evaluation is the measurement of the benefits gained or costs saved. We can decompose the net benefits of changing operator into three terms:

• the gain in utility caused by the (possibly) lower tariff of the new operator (denoted b);

• the cost associated with having to change telephone number (denoted a);

• the "other costs" associated with changing operator (denoted b).

Using this notation we can write a subscriber’s net gain in changing operator without NP as

b - a - b

whereas the net benefit of changing operator with (free) NP is just

b - b .

The gain in utility b is represented by the change in the "area under the demand curve" in Figure 3.1 as the price is reduced (that is, area p2AD minus area p1AB). The term a is the total cost to the subscriber in changing number (i.e. costs (i) and (iv) described in section 3 above), and b captures all the residual costs involved in changing operator (such as the time and effort involved, the uncertainty associated with a new operator, differences in service quality, call congestion, minimum length of contract, and so on).

Figure 3.1: Demand for telecommunications services

Generally it is overly simplistic to suppose that a tariff offered by an operator can adequately be summarised by a single price p. Suppose that networks offer tariffs where there is a monthly fixed charge, F say, and a per-call charge p. (In fact this is still too simple, and there will be different prices at different times of the day, as well as tapered tariffs, charges for message services, and so on.) The quantity b will then reflect the change in a bill caused by differences in both F and p. We make the simplifying assumption throughout that subscribers have the same demand function on all networks.

The quantities b and b can usefully be described diagrammatically in Figure 3.1. Suppose the subscriber is initially on a network with call charge p1 and moves to a second network (with free NP) with call charge p2. We use the notation v(p) to represent the subscriber’s gross welfare with the price p, i.e. v(p) is the area under the demand curve. (Therefore, v(p1) is the area p1AB on the diagram.) For simplicity, suppose the fixed monthly charge F is the same on each network. Suppose also that the price of the second network that would just leave the subscriber indifferent between networks is p*. Then the gain in utility b caused by the price reduction is the area p1p2 DB, whereas the "other costs" of changing network b is the area p1p*GB. Thus the net gain in changing operator is the area p*p2DG. If the fixed monthly charge differs across the networks, then we should add the difference (F1 - F2) to this net gain. Since the subscriber welfare function v(p) is not directly observable, a useful fact for cost-benefit analysis is

(*) 

(which is obvious from the diagram). This gives an upper and lower bound on the welfare gains from price reductions.

Rough estimates for the quantities a and b can be obtained from a survey as follows. Suppose a given subscriber states that she would need a discount in her monthly bill of £10 (with an unchanged calling pattern) to change operator if she could keep her number and a discount of £15 (with an unchanged calling pattern) if she had to change number, both figures assuming she would stay with the new operator for, say, a year. Then for this subscriber a = £60 and b = £120. Note, though, that in doing this we are implicitly assuming that the cost of changing number and the "other costs" of changing operator are one-off costs, whereas in reality there may be significant flow costs (and benefits) in each case. Another problem with measuring the costs of changing number in this way is that, as discussed in Section 3.2, there may be a divergence between private and social benefits of changing number (especially for small businesses who fear losing business to other firms), and the above method is an estimate only for the private cost of changing number. Alternatively, one could estimate a by estimating directly the costs involved in changing number (changing stationery, re-painting vans, and so on).

It is conventional in discussions of NP to group those subscribers who choose to change operator into two classes, denoted A and B. (Note that we will consider only the regime where NP is provided for free to subscribers; the above classification is easily modified to allow for NP charges to be passed on to subscribers.)

Type A subscribers

These subscribers will change operator even if they have to change telephone number as well, i.e.

b - a - b > 0 .

Since the rates of churn are so high in the mobile sector even though there is not yet any NP, there are clearly substantial numbers of such subscribers.

Type B subscribers

These subscribers will change operator only if there is (free) NP, i.e.

b - a - b < 0 and b - b > 0 .

We estimate that there are about two Type A customers for every one Type B customer. As described in the Base Case and the Switching Model (see Appendices) we believe that over the ten year period 1998 - 2007 there will be 5.06m Type A customers, and 2.67m Type B customers.

Finally, and to be clear, we include the "other costs" b as a cost in the cost-benefit analysis for Type B subscribers. Thus, if a Type B subscriber requires a reduction in her monthly bill of £10 per month to change operator with NP (and, say £20 per month without NP), and in the market a reduction of £15 per month is available, then that person is made £5 per month (not £15) better off as a result of NP. Similarly, the differences between the two required monthly reductions - £10 per month in this case - does not accurately measure the net benefit to Type B customers. (The "other costs" should not be included as a cost in the cost-benefit analysis for Type A subscribers since they will incur the cost regardless of whether NP is introduced.)

By contrast, under the bounded rationality hypothesis, some or all of the "other costs" would not be regarded as real costs. Thus it could be argued that the benefit to customers is greater than we have assumed by up to £10 in the example. The approach we have adopted is therefore consistent with a conservative estimate of the benefits of portability. In addition, it takes account of comments made by the MMC on the evaluation of fixed number portability and reflects real differences between the fixed and mobile case, notably the need to purchase a new handset or SIM card when switching mobile networks.

3.4 Direct benefits of NP associated with Type A customers

This is perhaps the least speculative part of the study: because the introduction of NP does not affect the choice of network for such subscribers, there are no particular issues concerning the effects on productive efficiency, industry revenues, the measurement of subscriber inertia, and so on.

Here the net benefits of introducing NP are just the savings of the costs described in Section 3.2 above, minus the cost to donor operators in providing NP for such subscribers. As discussed, though, we are careful in how we aggregate costs across porting subscribers in order to avoid double counting.

3.5 Direct benefits of NP associated with Type B customers

We group these benefits under three headings:

• benefits for porting subscribers;

• benefits for callers to mobile;

• change in industry profits.

Benefits for porting subscribers

The benefits are the sum of (b - b) over all type B subscribers. Thus as discussed above, in general it would be wrong to measure the benefits to such subscribers as being given by the total reduction, b, in the bill caused by moving operator (although this would be true in the extreme case where there were no other sources of switching costs, and where the services offered by the two operators were precisely identical). Such a measure would usually result in an over-estimate of the actual benefits. Similarly, it would be an over-estimate of these benefits to add up the costs of changing number, a, over all such subscribers, since, by definition, we have a > (b - b) for type B subscribers.

In more detail, we summarise the benefits to subscribers in changing between the various operators as follows:

Figure 3.2: Subscriber gains in switching operator

There is additional functionality when moving from analogue to digital. NP will therefore allow customers to switch operators, and gain these benefits. The user surveys showed that there was some demand to switch operators at the same time as customers moved from analogue to digital. As the analogue networks are due to be closed by the year 2005, and quite possibly sooner, this benefit will be short-lived. At present it is possible to keep a number when moving from analogue to digital if the same operator continues to be used, but Oftel is proposing that from July 1997 such subscribers must change to a new 07 code.

Using the notation in Section 3.3, we can summarise the net effect on the welfare of a typical type B subscriber in the following table:

Figure 3.3: Benefits for a porting subscriber

Benefits for callers to mobile

In contrast to the PSTN setting, there may be substantial benefits for callers to mobile subscribers when such subscribers move network. This is because many Type B subscribers will change network because the new network offers a lower tariff, and this typically means that the cost of calling the new network will also fall. (For instance, from BT’s network at present the cost of calling subscribers on DCS networks is lower than on GSM networks, although the differential has recently fallen.) However it is unlikely that these benefits will materialise in reality because the fixed network will require a capability to recognise calls to ported numbers for billing purposes. If a mobile customer moves from a GSM network to a DCS network, it will retain its GSM number. The fixed network will have to analyse the called number down to the last digit, and we understand that this is not feasible. Hence the caller is likely to be charged at the rate relevant to the original network. We therefore ignore this potential benefit.

However callers to ported mobile numbers will gain from not having to change their databases, autodiallers or diaries or address books because the number has not changed. For callers who are not notified of number changes, they will save time in having to search for the new mobile number. This is important because mobile numbers are rarely advertised in telephone directories, or available from directory enquiry services. Most people will have to discover the new mobile number by using the called party's fixed network number (if this is known), and hence the costs may be significant. In the user surveys we asked respondents, as callers to mobile numbers, about their experience and costs in making calls to numbers that had changed.

Change in industry profits

This is made up of:

(i) the change in revenue received from type B subscribers in the industry;

(ii) any changes in the cost of providing the services such as that caused by loss of economies of scale or by subscribers moving to a more efficient network;

(iii) the cost of providing NP by donor networks.

Effect (ii) deserves some discussion. For instance, if an operator attracts new subscribers because of low tariffs in turn made possible by a more efficient technology, say, then if that operator obtains a greater market share due to NP, average costs in the industry will fall. There are efficiency differences across operators, and we carried out some analysis of this (see Appendix).

Migration from analogue to GSM, and from GSM to DCS may produce some benefits in clearing congested radio frequencies. The sooner that the analogue frequencies can be vacated, the more GSM customers can be accommodated. The more GSM customers move to DCS frequencies, the more the problems of GSM congestion are also reduced. A benefit is therefore the greater efficiency with which scarce spectrum can be allocated to users who value the GSM service the most (for example, the international roaming facilities). However the industry view is that this effect will be minimal, and so we have not analysed this in any depth.

In addition, to the extent that there are economies of scale in mobile network operation, it is possible (depending on the shape of a firm’s cost function) that total industry costs will rise or fall as smaller operators gain market share at the expense of established firms. However, if mobile network operation costs take the form whereby there is

(a) a fixed cost of setting up a network,

(b) a fixed cost per subscriber;

(c) a constant marginal cost per call,

and given that all four operators will remain in the market regardless of policy towards NP, then the effect of changing market shares on economies of scale is neutral. (The fixed cost of network operation is incurred in any event.) Because we have no strong prior view on how market shares will effect economies of scale, we propose to ignore such effects. However, as described below, we have included efficiency gains which are not attributable to the economies of scale argument. So only efficiency gains due to the improvements in the differential costs of networks are included.

One important factor to include under the heading of per-subscriber fixed costs is the cost of additional handsets or SIM cards for Type B subscribers. (Figure 3.2 shows when these are needed.) If a subscriber moves from one network to another, she may need a new handset (costing about £150 or more) which is a real resource cost to the nation. (Her previous handset will then have little or no value.) This cost does not need to be included in the benefits associated with Type A subscribers since such subscribers would need a new handset with or without NP. However, when taking account of the incremental cost of handsets caused by NP, we should take care to allow for the fact that, even if a subscriber remains with her current operator she may well get a new handset before the old handset has come to the end of its useful life. (For instance, new network features may require the use of new handsets.) In this case the move to another, incompatible network will merely accelerate the need for a new handset.

A related factor that does not seem appropriate to include in the analysis is any other payments made by operators (or other participants in the industry) in order to attract or retain subscribers. Thus, hypothetically, if an operator pays £100 in cash to any new subscriber then that payment is a pure transfer between the industry and subscribers, and should play no role in the aggregate economic analysis.

To quantify the effect of a porting subscriber on total industry profits we make the following simplifying assumptions on costs. There is a fixed cost per subscriber of Si on network i, measured in flow terms (per month, say), where this includes the cost of a handset. (Note that we adopt the convention that a network buys and supplies a handset and recovers the cost through its tariff to subscribers.) Thus if network 2 is the recipient network, S2 includes any additional costs of providing a new handset. Each network has associated marginal cost ci per call for outgoing calls (where this figure is averaged over the various destination networks), and Ci for incoming calls. Finally, the donor network incurs a per-subscriber cost of offering NP of Sp and a per-call cost of NP of cp. Thus the marginal cost for making a call to a type B subscriber who has ported is (C2 + cp) rather than just C2. (For simplicity we assume that the portability costs Sp and cp are the same for both networks.)

Figure 3.4: Change in industry profits per porting subscriber

In Figure 3.4 the total industry profit includes that of fixed operators (who will deliver and originate calls from and to mobile networks); call termination charges, which are important costs for individual operators, cancel out in aggregate and so do not appear above. In Figure 3.5 we can see the network profits from outgoing calls, (pi - ci)qi, is the area c1p1BE for the donor network and c2p2DF for the recipient (and similarly for incoming calls).

Aggregate net benefit of a subscriber porting with NP

Using Figures 3.3 and 3.4 we see that the net benefit for all parties of a subscriber changing operator with NP is

(Of course, the fixed monthly fees Fi cancel out as they are pure transfers.) Using the expressions (*) and (**) we obtain bounds on the welfare change:

and

In both of the above expressions, the term in-between the brackets {.} can be thought of as the total reduction in costs (including the "other costs" b and cost due to NP) caused by the change in operator. In each case the other term in-between the brackets [.] is closely related to the familiar "welfare triangle" gains due to price reductions. For instance, in Figure 3.5 (which is a repeat of Figure 3.1), the welfare triangle corresponding to the market for outgoing calls is the area BDH and when demand is linear (as in the diagram) this area is precisely the average of the two terms p2(q2 - q1) and p1(q2 - q1). Notice that if demand, both for outgoing and incoming calls, is highly inelastic, then each term between the brackets [.] is approximately zero, so there are no significant welfare triangle gains and the only effect is the effect on cost reduction. (This case may be more relevant for the fixed than the mobile sector.)

Figure 3.5: Effect of a change in the marginal price of outgoing calls on customer welfare and industry profits

3.6 Indirect, Long-run Benefits of NP in Stimulating Competition

It seems plausible that by reducing the barriers to switching operator, and requiring NP will certainly do this, the strength of competition is increased and barriers to entry are reduced, with the result that both prices and cost are brought down. Thus over time NP will have benefits not just in terms of facilitating movement from high-price/high-cost to low-price/low-cost networks, but also by bringing all tariffs and costs down. However, such benefits, which have been termed "type 2" benefits in earlier studies of NP, are notoriously hard to quantify.

As discussed in Section 2.5, there are reasons for thinking that these benefits may be less pronounced in the mobile sector than in the PSTN:

• Competition is more effective in the mobile sector, with no one firm having a dominant role. (The current rates of churn, without NP, are already so high that operators cannot be expected to rely on their current subscribers remaining "captive".)

• Similarly, in the PSTN there was a dominant firm with a history of state-ownership sector and which might have been expected therefore to be inefficient; no such history applies to the mobile sector.

• Introducing NP will not remove the main barrier to entry to the sector, namely the need to obtain a licence. (There are no plans to issue further mobile licences until the introduction of UMTS, the third generation mobile service, in about five years' time.)

Nevertheless, it seems likely that NP will accelerate the reduction of price differentials between GSM and DCS networks. (In our base case assumptions of the evolution of the market without NP we assume that there will be only a gradual decline in GSM prices as the DCS networks match them in coverage, functionality, and access to international roaming.) .

In addition, the fact that prices in the mobile sector are unregulated implies that competition is the only source of pressure keeping prices and costs down. In the PSTN the main operator has its prices controlled, which to some extent acts as a substitute for competition. Therefore, any increase in the effectiveness of competition is especially important in the mobile sector.

A further benefit of NP may lie in its impact on the fixed network. If NP will bring lower prices to mobile telephony then one effect of this will be to make mobile telephony a closer substitute for fixed telephony, putting additional pressure on the fixed network operators for greater efficiency. However, we believe that it would undermine the authority of the study if we tried to place a value on this: the timing and effects cannot be predicted with any confidence. We would also have to estimate the costs of providing the additional mobile resources, and the additional benefits of mobility enjoyed by customers.

Similarly, another benefit of NP may lie in its beneficial impact on the manufacturers of handsets and other inputs to the mobile sector due to increased demand. Again, though, we will not be able to estimate this effect with any accuracy and do not include it in the quantified economic evaluation.

Earlier experiences of trying to quantify the overall long-run, indirect benefits of NP in the PSTN show the task to be extremely difficult and controversial. Fortunately the economic evaluation has shown that we do not need to estimate these benefits in order to demonstrate a positive benefit for mobile NP. We recognise that these wider benefits are important, if difficult to estimate. We therefore used some data provided by Oftel to demonstrate the potential for efficiency gains from the introduction of NP (see Section 6.7 and the Appendix on 'Benefits of greater economic efficiency').

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4 Market research on mobile customers

4.1 Introduction

A detailed study was undertaken of mobile customers. There were three main sectors researched - the personal, SME and corporate subscribers. The research objectives were to determine;

• how the different types of subscribers were switching between networks

• the costs of switching networks

• how many subscribers would switch if NP were available

• the benefits subscribers would enjoy when switching with NP

This section outlines the main findings from the surveys and how the benefits of NP were quantified for use in the economic framework which has been developed. The survey of the corporate sector is presented separately to the personal and SME survey in Section 4.9. This is because a slightly different research methodology was used for the corporate survey

4.2 Methodology for personal and SME subscribers

The methodology for the study was a random telephone survey of mobile subscribers which was undertaken by Harris Market Research`. Each subscriber was classified as either a SME or personal user depending on their calling pattern. Subscribers who used their phone for business purposes for over 50% of calls were classified as SMEs, the remainder were classified as personal subscribers. In total 250 SME and 250 personal subscribers were surveyed.

All subscribers were asked a series of questions which established:

• their history of using mobile phones

• which network was being subscribed to, and how the service was paid for

• the pattern of calls to and from them

• whether they were considering switching networks, and their rationale for doing so

• what kind of problems they expected to incur when switching networks

• what level of costs were incurred by those who had already switched networks due to a number change. For those who were considering switching, the potential costs of changing number was also determined

• how the introduction of NP would change their attitudes towards switching, and how they would expect to benefit from it

The questionnaire is detailed in the Appendix.

4.3 Key trends for personal and SME subscribers

Most respondents used their mobile phone for both business and personal use. However Figure 4.1 also shows business users make a higher ratio of personal calls than vice versa.

Figure 4.1: Use of mobile phones

Most respondents had been mobile subscribers for over 2 years. Figure 4.2 indicates how the length of use varied by type of subscriber. It shows that within the sample:

• many SMEs subscribers in the sample began using mobile phones 7 years ago

• up to 5 years ago, SMEs had a higher uptake of mobile phones than personal subscribers

• the uptake of mobile phones peaked 3 years ago, coinciding with the entry of two new mobile operators in the UK

• over the past four years there has been a close relationship between the uptake of mobile phones by SMEs and personal users

Figure 4.2: Number of years respondent has used mobile phones

The choice of network varied strongly across the personal and SME market as described by Figure 4.3. It showed that within the sample:

• Vodafone had the largest market share

• high levels of SMEs and personal subscribers were on the well established networks (Vodafone and Cellnet)

• Cellnet's user base is more oriented to personal subscribers than Vodafone's

• Orange is slightly more successful at attracting SME subscribers than personal subscribers

• One2One's user base is oriented towards personal subscribers

Figure 4.3: Network choice

The survey indicates that both Vodafone and Cellnet each have over 40% of the market share amongst the subscribers surveyed, whilst Orange had 13% with One-2-One at 7%. As these market share statistics are close to the actual market share figures, we have confidence in the representativeness of the survey results.

4.4 Current switching pattern of the sample

The respondents were asked a series of questions to determine if they had switched networks, and if so why they had switched.

The main finding was the scale of switching currently taking place in the UK mobile industry. Figure 4.4 indicates the percentage of subscribers who have switched given the number of years they have been using mobile phones.

It shows that:

• switching begins to take place 2 years after a user has joined a mobile network

• business users have a higher tendency to switch than personal subscribers. This does not contradict the general perception that personal subscribers have a higher churn rate than SMEs. Since a low percentage of personal subscribers rejoin networks compared to SMEs, the overall number of personal subscribers switching networks could be low.

• after 4 years of use, around 50% of subscribers have switched networks

• over 50% of the sample had switched networks

Figure 4.4: Current switching patterns

The number of subscribers willing to switch networks is also high as indicated in Figure 4.5. These were subscribers who would consider switching networks in the future. It includes subscribers who already intend to switch.

Figure 4.5: % of subscribers willing to switch

The number of subscribers who actually switch will be less than 10% of this, and is calculated by comparing the willingness to switching with the real rate of switching in the industry. This is illustrated in Figure 4.6.

Figure 4.6: level of actual switching

The considerable difference between willingness to switch and actual subscribers switching indicate the complexities of consumer behaviour in this sector.

The willingness to switch is motivated by the perceived benefits of alternative networks. The main benefits of switching according to these subscribers are described in Figure 4.7. It shows coverage and tariffs to be important drivers in the decision. Innovation in tariffing packages with the UK is high, and mobile subscribers seem sensitive to them.

Figure 4.7: Reasons to switch

At a basic level, the cost reduction required for mobile subscribers to switch without NP is described in Figure 4.8. This represents a threshold benefit which motivates a subscriber to switch. This benefit is simply estimated from the tariff reductions a subscriber would enjoy. Benefits such as improved coverage or enhanced services are bundled into this value.

This value equates to b-a -b , derived in Section 3. The benefit measures the static gain for customers who switch ( or the gain if their calling pattern does not change. In reality most customers will change their calling pattern due to the new prices, and this gain is accounted for separately in Section 4.17).

Figure 4.8: Cost reduction required to switch without NP

The network preference for subscribers who indicated they were willing to switch are profiled in Figure 4.9 and 4.10. It shows that:

• there is a demand for intra-network switching ( such as subscribers who are currently on Vodafone analogue networks but wish to switch to Vodafone digital networks. These figures are not explictly presented in Figure 4.9 and 4.10)

• most of the demand to switch is generated by subscriber who are currently on digital networks and wish to switch to another digital network

• some of the demand to switch comes from current DCS subscribers wishing to move to GSM networks. Given the higher tariffs of the GSM networks, we assume these subscribers are motivated by the coverage or quality of service issues.

Figure 4.9: Network choice for SME subscribers willing to switch

Figure 4.10: Network choice for personal subscriber willing to switch

4.5 Benefits for personal and SME subscribers - Type A

The Type A benefit is the cost faced by subscribers who are currently switching networks and have to change number. The cost incurred by switching networks for a subscriber in the sample is described in Figure 4.11. The cost is composed of several elements:

• a cost incurred for informing friends and customers of a number change. Most respondents felt that there were no costs involved even though they spent time calling their friends or customers. Hence the cost derived in the Figure is likely to underestimate the actual cost

• a cost incurred because stationery had to be updated with the new mobile number. A lower percentage of subscribers faced this cost

• a cost incurred by SMEs due to loss of customers because of a number change. This cost is not the loss of revenue they face (since any loss of business will go elsewhere in the UK economy), but the extra marketing and sales cost they incur in trying to replace any business. This is an additional cost to the economy

Within the economic model these costs relate to a . This is a fixed value, and cannot be compared directly with the ongoing benefits of switching networks derived earlier.

Figure 4.11: Cost of changing numbers - Type 1A

These are one-off costs incurred by the average personal and business subscriber when switching. In the economic framework, they relate to Type 1A benefits.

4.6 Type 3 costs for personal and SME subscribers

In addition, there are costs to their callers when updating diaries or diallers due to the number change. The cost to callers are described in Figure 4.12 and were based on responses given in the survey. The cost is composed of two elements:

• a cost for changing number entries. Again most respondents felt they incurred no cost when taking note of a number change. This leads to an underestimate of the actual cost

• a cost for locating subscribers who may have changed, but have not informed a caller. This cost could be composed of directory enquiry charges or multiple phone calls required to locate the new number. The percentage of callers who faced this problem was much lower

These costs can be incorporated in a straight forward way into the economic analysis. These benefits are not explicitly formulated in Section 3 since they are relatively easy to measure (see section 4.13).

Figure 4.12: Cost to callers - Type 3

The total costs to callers were quite low. This cost is the Type 3 benefit and is incurred only once per number change.

4.7 Effect of NP on switching pattern

With NP, the percentage of subscriber willing to switch increased substantially. Figure 4.13 describes the increase.

Figure 4.13: Impact of NP on switching tendencies

To calculate the actual number of subscribers who switch when NP is available, we have assumed the proportion of 'actual switchers' to 'willingness to switch' derived in Figure 4.6 will apply. This could be an underestimate for two reasons:

• the subscribers who indicate they are willing to switch with NP could be more motivated to change hence switch in higher proportions

• NP could decrease the barriers faced by those wishing to switch without NP, increasing the overall switching rate.

None-the-less by making this assumption about market behaviour we provide a firm basis for the benefit calculations derived in the switching model, although it means our benefit calculations could be an underestimate. Subscribers who indicated they would switch due to NP had very different reasons for switching. Figure 4.14 indicates that:

• most respondents did not have a clear idea of why they would switch. This probably reflects their lack of market awareness because they have not seriously considered moving networks. With NP, their awareness can be expected to rise

• the price and coverage issues are still important

• some subscribers require no tangible benefits to change and personal subscriber in particular score highly here. This could be due to dissatisfaction with a network or service provider, or other non-tangible reasons

Figure 4.14: Reason for subscribers switching only with NP

4.8 Type B benefits

The benefits enjoyed by subscribers switching with NP is estimated by subtracting the threshold savings required to switch with NP from the threshold savings required to switch without NP. This is could be an over-estimate due to the reasons mentioned in Section 3.5, where other unforeseen costs associated with changing numbers are ignored.

In the absence of knowledge about how the net benefits of switching are distributed over the interval between the with-NP and the without-NP switching thresholds, it is not possible to say how significant this overestimate might be. On the other hand, the bounded rationality argument suggests that the difference between the thresholds seems a reasonable approximation.

None the less we derive values for b-b of £1.60 and £1.16 respectively for personal and SMEs.

Figure 4.15: Cost reduction required to switch with NP - Type B

Customers are rationally bounded when making switching decisions based on perceived savings. We have assumed that subscribers are bounded by a two year time frame when making investment decisions into mobile phones. However benefits may be acquired over a longer period than they initially anticipate.

By assuming that the slight over estimate of the benefits of NP are compensated by the underestimates of the perceived savings, we can use the values derived in Figure 4.15 in a meaningful way to calculate the net benefits of NP. We calculate the net benefit to subscribers assuming:

• 50% of the benefits of NP are gained for only 2 years as they gain one-off savings through avoiding higher tariff costs - relating to the bounded rationality of their expectations

• 50% of the savings are gained over 10 years. This represents the ongoing benefits which were unforeseen.

4.9 Methodology for corporate survey

Given the significantly different route by which corporate decisions were made on mobile subscription, a shorter questionnaire was used. A telephone survey was conducted with 50 large firms, these were firms defined as having 50 or more employees. These firms were randomly selected from the 'Key British Enterprises' (Dunn & Bradstreet). All the firms interviewed had employees who were partly responsible for managing their mobile phone needs. From them, the survey ascertained:

• the company's history of using mobile phones

• the networks which were currently being used by the company, and if they were on multiple networks

• the number of employees with company mobile phones, and the monthly cost of having mobile phones

• the extent to which they publicised company mobile phone numbers

• how many of them were considering switching networks, their rationale for switching and the potential problems they could experience by switching. For those who had already switched, the total cost of switching was ascertained

• how NP would change switching behaviour

In certain cases the respondent did not have access to all the information required by the survey, such as when asked to quantify the cost incurred if the company had changed networks. Low response rates are indicated for the appropriate questions in the Sections.

The questionnaire used in the survey is included in the Appendix.

4.10 Key findings

Most firms who took part in the survey were large corporates. Figure 4.16 describes the distribution of firm size, and the level of company mobile phone penetration into the workforce. The survey indicated:

• 40% of the firms had between 50 and 250 employees

• mobile phone penetration in companies with a large workforce ( 250 to 5000 employees), was surprisingly high.

Figure 4.16: Survey Sample

(1) A very high penetration rate was calculated in this sector due to one large company with almost 100% penetration

Figure 4.17 shows most firms had mobile subscriptions to several network operators.

Figure 4.17: Network preferences

The time corporates use a network before switching is similar to the SME and personal sector. Figure 4.18 indicates most respondents have only used their current network for between 3 to 4 years.

Figure 4.18: Length of subscription period with current operator

Figure 4.18 suggests corporates are willing to change networks. However their subscription to multiple networks from Figure 4.17 also indicates they are unwilling to terminate existing contracts as they change. This could be due to:

• a need for multiple subscriptions to cater for their different mobile phone requirements (e.g. European use versus UK use only )

• provide a backup mobile phone system

• allow slow migration to another network because of the sheer scale of changing phone networks

• avoid extra costs incurred by a sudden change of phones and phone numbers (i.e. informing clients/ changing stationery)

The survey indicated the change of number was the biggest concern to corporates, with the disruption of changing networks having a much lower significance.

Figure 4.19: Perceived problems

A change of number would require 54% of the companies surveyed to change stationery in some way. Figure 4.20 indicates how corporates publicise mobile numbers currently.

Figure 4.20: Sources for mobile numbers

This underlines the importance of a number change for them.

4.11 Current switching Patterns

The main reason for changing numbers is if lower tariffs could be gained. This is the primary driver for switching.

Figure 4.21: Rationale for switching

42% of companies were willing to change networks. Figure 4.22 indicates their preference for a new network . Most of them ranked GSM networks highly.

Figure 4.22: Preference for network

Possible reasons for this are:

• the growth of value added services such as SMS. Nearly all companies with value added services on their current network felt they would not switch if the same services were unavailable on another network. The most important service in this respect were voice boxes

• the importance of quality and coverage to corporate users

The level of saving corporate users required before switching is described in Figure 4.23. It shows most corporates are willing to switch if offered between 10% to 17% savings on their monthly bill. This is used to calculate b-a -b again.

Figure 4.23: Savings required by corporates before switching

4.12 Type A costs

Corporates who had switched networks found it hard to quantify any costs they incurred when changing number. Only 15 respondents could give a value, the average of which was £1,514 (=a ), for the entire company ( an average of around £107 per corporate mobile phone compared to £99 per SME phone). This cost is equal to the Type 1A costs incurred by switching corporates. This is an average value which could be an underestimate due to the costs caused by any disruption to the company

None-the-less it is an accurate value to use since these costs are directly attributable to number changes.

4.13 Type 3 costs

The cost to corporate callers due to a number change could not be quantified. Hence an estimate was made based on the SME and personal survey. It is based on the finding that a company will inform 400 people in total each time they switch their mobile phones, at a total cost of 90 pence to the caller for updating their information. The 90 pence is derived from the cost an SME caller incurs for the same activity. This gives a total cost of £360 incurred by callers to corporate mobiles.

Figure 4.24: Costs incurred by callers -Type 3

It is likely this is an underestimate because the number of callers who need to alter their directories could be much larger.

4.14 Impact of NP

With NP the number of corporates who were willing to switch increased dramatically. In total 96% responded positively. The threshold saving required for them to switch also decreased. Figure 4.25 indicates the change in the threshold.

Figure 4.25: Savings required to switch with NP

The most dramatic change is the number of firms who require savings of less than 9% to switch. The total number of firms in this category almost doubles. The overall change is a lowering of the required threshold saving by 2%. This is used to calculate b-b .

4.15 Type B benefits

The benefit for these firms switching with NP is calculated using the same procedure as with the SME and personal subscribers. This is described in Figure 4.26.

Figure 4.26: Benefits of NP to corporates - Type B

The number of subscribers who switch due to NP is estimated in the same way as for the SME and personal subscribers. That is the number who switch network is less than the those who indicate they will, but this proportion stays constant as NP is introduced. This may lead to an underestimate of the actual number of subscribers switching due to the same reasons as mentioned in section 4.7.

4.16 Change in Industry profits

There is a cost to the UK economy because NP allows subscribers to migrate to cheaper alternatives, decreasing the profit experienced by the industry. This is because the operator who attracts the switching subscriber will have an arguably smaller profit margin. The difference between the two profit