1. On 27 April 1995, the Director General of Telecommunications asked the Monopolies and Mergers Commission to examine the issue of telephone number portability, following BT's refusal to accept a modification to its licence which would have granted the Director General the power to determine that BT should not recover in full the costs it would incur in providing portability to other operators. The MMC has now reported back on its findings. This statement sets out those findings, the Director General's response to them and the further steps it is now proposed to take in the light of the outcome of the inquiry.
2. In referring this matter to the MMC, the Director General asked it to consider the following questions:
3. The Director General is pleased to say that the MMC has concluded that the existing situation does operate against the public interest, and that this situation could be remedied by means of a modification to BT's operating licence. The MMC, as it is obliged to do when it makes a finding of an adverse effect in these circumstances, has proposed a licence modification which could remedy or prevent the adverse effect. Their proposal would allow for the allocation of BT's costs between BT and other operators, with BT bearing the greater share.
4. The Director General commends the MMC for the quality and clarity of their analysis. He is convinced that the MMC's overall findings are correct. He also welcomes the specific recommendations, which he believes will serve very well as the basis for a modification to BT's licence. The Director General intends shortly to launch statutory public consultation on a modification based on the recommendations. In doing so, he would welcome views from BT, from other operators, and from other organisations as to whether his proposed approach will remedy the adverse effects which the MMC found. The Director General is convinced that having taken this issue to this stage, his proposals will enable portability to be introduced quickly, efficiently and fairly. The Director General will need in due course to make a determination of the actual costs incurred and charges to be made in providing portability. Detailed issues of timing are dealt with at the end of this statement.
5. Number portability is a customer's ability to keep their existing number when they change operator. The Director General and his predecessors have long been convinced that the absence of number portability is a major barrier to customers changing operator, and hence to the development of effective competition here in the UK. Oftel has been working to introduce portability since the Government's review of the duopoly policy in 1991. At that time, a modification to BT's operating licence was introduced which would enable the Director General of Telecommunications to direct BT to provide portability to other operators if it were technically feasible, and if it were clear that the benefits of portability outweighed the costs.
6. Consultation with the industry has demonstrated that portability is indeed technically feasible. In the summer of 1994, an industry working group produced detailed recommendations on how portable numbers could be recognised and routed within networks. Their report was endorsed by all major operators, including BT. A cost-benefit analysis conducted by NERA in 1993 demonstrated that the net benefits to the UK of introducing portability would be considerable under nearly all the scenarios examined. In the central case, it was estimated that benefits between 1995/96 and 2004/5 would be some £1,851m at 1993 prices.
7. Despite clearing these hurdles, the introduction of portability was delayed. When the Director General directed BT to supply Videotron with portability by October 1994, it became apparent that there was a gulf between the parties' positions as to how the costs of portability should be shared between them. BT argued that all the costs which it incurred in providing portability to Videotron should be paid by Videotron, whereas Videotron's position was that each operator should bear their own costs.
8. This dispute reflected a wider dispute between BT on the one hand, and Oftel and other operators on the other, as to the appropriate basis for the recovery of portability costs. Oftel's position was between BT's and Videotron's. On the basis of the evidence available to the Director General, he was of the view that there were significant external benefits deriving from the introduction of portability. The existence of such benefits suggested that BT should be able to recover some, but not all, of its costs from the other operators - and the same should apply to other operators in recovering their costs.
9. However, the Director General's existing powers, as set out in condition 34B of BT's licence, give him no power to require BT to bear any proportion of its own costs. The licence provides only that its reasonable costs are to be recovered in full from other operators to whom it provides portability. The Director General concluded that portability was unlikely to happen on this basis for two reasons. Charging the full cost to BT's competitors would result in an inequitable loading of costs onto BT's competitors given the broader benefits associated with portability, and BT would have had no incentive to make a reasonable commercial offer which would promote the early introduction of portability.
10. In February of this year, the Director General therefore proposed a modification to BT's licence which would enable him to determine that BT should not recover all of the costs which it incurs in providing portability. BT rejected this proposal. Under the provisions of the Telecommunications Act 1984, the Director General can refer to the Monopolies and Mergers Commission issues where he believes a particular situation operates against the public interest. If the MMC concludes that the situation does operate against the public interest, it must specify the adverse effects resulting from the situation and, if a licence modification could remedy those effects, it must specify such a modification.
11. In making its finding that the absence of portability does operate against the public interest, the MMC has noted that BT retains a strong position in the telecoms market and there are considerable obstacles to the growth of competition. The absence of portability constitutes one of the most important of these obstacles, and its introduction is necessary to promote effective competition between operators, which will benefit customers and promote efficiency. They also noted that the main short-term effect of portability will be to accelerate BT's loss of customers, and that BT therefore has every incentive to delay agreement with other operators on portability . It has consistently quoted high costs for portability to those operators.
12. Furthermore, the MMC noted that portability needs to be introduced more rapidly and effectively than is likely if the licence remains unchanged. They agreed that the economic arguments pointed to BT not recovering its costs in full from other operators. And they agreed that the licence needed to be modified to provide that BT would meet the greater part of the costs and that the Director General should have addtional elements of discretion in determining and allocating these costs.
13. In order to understand the recommendations, it is necessary to distinguish between the different categories of costs arising from portability. All operators who wish to provide portability will incur what are termed ''System set-up costs'. These are the basic costs of establishing the ability to port numbers from one network to another. Under the existing licence, BT could recover these in full. Oftel's view prior to the making of the reference was that each operator should bear its own costs in this category. This would contribute towards an appropriate balance of cost-recovery between BT and other operators, and would also be the most practicable method of apportionment. The MMC concurred with this view, noting that BT had also made clear that it was prepared to bear these costs itself.
14. Each time a customer ports his or her number, the 'donor operator' incurs an administrative cost in undertaking the transaction and updating their records. This has been termed the 'Per-Line Set-up Cost'. Prior to the reference, Oftel took the view that it would be economically appropriate for the donor operator to recover this cost from the recipient operator - because such a charge would reflect the costs directly-attributable to the decision taken by the customer to change network. However, there were very real concerns about BT's claimed costs for this process- first, BT's estimates fluctuated wildly; second, it was apparent that BT's claimed costs were greatly in excess of the costs which other operators expected to incur to provide the same service to BT - £30 to £40, compared with less than £5 quoted by some of the other operators. This suggested that BT might well be intending to use inefficient procedures, which if recovered would raise other operators' costs unnecessarily and unfairly.
15. The MMC shares the view that it would be appropriate to allow recovery of a reasonable per-line set-up cost, but also shares the concern that BT should not be able to recover in full claimed costs if these result from use of inefficient processes. Whilst allowing that BT should be able to recover its reasonable costs in this area, it has therefore recommended that the Director General should have the following discretionary powers:
- the power to review whether BT's costs are in fact the result of inefficient processes, and to disallow the amount of the costs which stems from that inefficiency. The MMC has made two specific recommendations as to how this power might be applied:
Finally, the MMC suggests that the Director General should have the discretion to decide that it is no longer appropriate to recover per-line set-up costs, for instance where porting in both directions between BT and other operators is well-established, or where the costs have fallen to such a low level that it would not be sensible to try to recover them.
16. The final category of costs is the 'Additional Conveyance Costs'. The currently agreed method of providing portability uses the number decoding capability of existing network switches. In BT's network, this process takes place at the local switch (Digital Local Exchange - or the DLE) where the number was originally held. So an incoming call to a ported number goes to the BT DLE which recognises that number, and from there the call is re-routed to the new location on the other operator's exchange.
17. However, BT mainly interconnects with other operators at its main exchanges (Digital Main Switching Unit). This means that when an incoming call is decoded, it has to be routed back to the DMSU, from where it is passed to the operator to whom the number has been ported. A call path therefore has to be held open for the duration of the call down to the DLE and back up to the DMSU. BT argues that it will incur costs in providing for this extra segment of conveyance - which many people have referred to as the 'tromboning' segment of the call . For want of a better term, we call this method of providing portability the 'tromboning' method. This additional cost can be largely removed, however, through a relatively minor addition to the computer software which controls the DMSU. This enables the DMSU, on receipt of a call to a ported number, to send a signalling message to the DLE which recognises that number, ascertain which network now as it were "owns" the number , and route the call accordingly. A call path has to held open only for a split-second. The cost of establishing such a process, and the cost incurred each time a call is made to a ported number using this process, are both likely to be relatively small. This approach is known as the 'Call Dropback' method.
18. Oftel's original proposal was that BT should bear all its additional conveyance costs itself, basing this approach on a number of important principles. First, that it was economically appropriate for a large proportion of these costs to be borne by BT. The cost-benefit analysis had highlighted general benefits resulting from the introduction of portability - in other words, benefits to society at large, rather than simply to the customers who port their numbers. Oftel had sought, for the purposes of the cost-benefit analysis, to quantify some of these benefits - the cost reductions which operators would be likely to achieve, and hence be in a position to pass on to customers, in the event that competition was intensified. There were other benefits which although difficult to quantify were nevertheless potentially significant - for instance the way in which additional competition resulting from number portability would be likely to encourage innovation and improve quality of service. These benefits would be shared amongst all telecoms users - not just those who port their numbers . And Oftel therefore concluded that it would be wrong in economic terms not to recognise these external benefits and to load all of the costs onto porting customers.
19. The Director General also seriously doubted that BT would, in fact, incur significant additional conveyance costs for any length of time. He was aware that it would be possible to introduce the 'dropback' solution within a relatively short space of time and indeed that BT could have started work on the necessary modifications to its switches at that stage. BT has subsequently said to the MMC that, having begun serious examination of the call-dropback option, it believes it will be possible to implement call-dropback by October 1997. This will reduce additional conveyance costs to a much lower level.
20. The MMC's findings largely endorse the Oftel views in respect of the cost-allocation issue. The MMC has concluded that there are indeed likely to be significant external benefits flowing from the introduction of number portability, and it would therefore not be right to allow BT to recover these costs in full from other operators. The Director General had suggested that BT should not recover any costs which it did incur through a specific charge. Instead, the costs would be recognised as cost to BT Network - one of the internal BT business units - and recovered by BT Network both from other BT business units and from interconnecting operators through small additions to standard charges for services. The MMC agrees that such an approach should be used from October 1997 onwards - the date when BT has said the 'dropback' solution would be possible.
21. For the period up to October 1997, however, the MMC has concluded that BT should be able to recover a proportion of its costs. The MMC has taken the view that BT will incur some costs in this period; that these costs are largely unavoidable; and that it would be equitable for operators who wish to undertake portability in this interim period to make a contribution to these costs. It does not agree with the Oftel view that the costs to BT in this short period prior to the introduction of dropback are likely to be negligible. The Director General understands why the MMC has reached that view, and is prepared to respect this finding, although clearly Oftel will look closely at any costs that BT does claim.
22. The MMC's proposal is therefore that BT should be able to recover half the difference between its 'mature' additional conveyance costs under dropback, and its additional conveyance costs in the interim period where only 'tromboning' is available. This is the only MMC finding that differs from Oftel's position as of March 1995, and then only for the period to October 1997.
23. Where, as in this case, the MMC concludes that the matter specified in the reference to them does operate against the public interest and that this could be remedied by means of a licence modification, it must recommend a form of modification. The Director General is required by section 15 of the Telecommunications Act 1984 to make any modification to the licence as he considers necessary to rectify the adverse effect identified by the MMC. In doing so, he must have regard to the modification specified by the MMC. However, as BT has pointed out, he is not bound by the MMC's recommendation. He can conclude that a different approach is requisite for the purpose of rectifying the adverse effect. In this instance, the Director General, having given full regard to the MMC's findings, proposes to put forward licence modifications which closely follow the MMC's recommendations. He will shortly commence statutory consultation under the terms of section 15(3) of the Telecommunications Act 1984 on a licence modification based on the MMC's findings.
24. The Director General will make a small number of substantive additions to the recommendations put to him by the MMC. In particular, the licence modification has been drafted to permit the Director General to determine and allocate costs which do not fit into the described categories. This addition to the Director General's discretion has been made in order to deal with the possibility that changing technology will result in entirely new categories of portability costs. The addition will therefore avoid the need to seek future licence modifications as technology evolves.
25. The licence modification also refers to a supporting document - termed a 'Functional Specification' - which would address the practical issues arising from the provision of number portability. There is general agreement within the industry for the need for such a document to ensure consistency and commonality in the approach to providing portability. The modification includes a requirement that BT and the operator to whom it is providing portability should abide by the terms of this specification. A draft of the functional specification is currently out for consultation with the industry.
26. The licence modification would provide that BT be required to provide portability to a Qualifying Operator. A Qualifying Operator is one who is prepared to provide reciprocal portability of its numbers to BT, and who is prepared to undertake portability in accordance with the terms of the Functional Specification. BT has expressed its concern that other operators may not face equivalent obligations to BT in providing portability. This provision would address this concern. The other significant aspect to the 'Qualifying Operator' concept is that it removes the need for individual directions to BT to supply different operators at different times. Provided an operator fulfils the criteria described above, BT will be obliged to provide portability to them by virtue of a single direction by the Director General.
27. Because a fundamental cause of the delay in introducing portability rested on the inability of BT and Videotron to come to an agreement, a situation which is common in the interconnect regime, the Director General regards it as a vital element of his proposals to remedy the adverse effects found by the MMC that standard charges are payable across the board by operators to BT. He proposes, therefore, to determine costs and standard charges (based on the cost-allocation principles laid down by the MMC) when he makes the initial direction to BT to provide portability. As with Standard Services specified in condition 16B of BT's licence, for the purpose of his determination the Director General will use the most up-to-date cost data available, including forecast data supplied by BT. The licence modification allows for annual re-determination by the Director General on 31st March of each year after the original determination is made, such subsequent determinations allowing for adjustments of the payments made by other operators to BT for the forthcoming year in the light of updated information as to BT's costs for the preceding year. This is similar though not identical to provisions which operate in respect of Standard Services.
28. The modification takes account of an implicit conclusion of the MMC which is that when a customer ports his or her number, he or she should continue to retain the rights to relocate their number to a new address which they would have had if they had stayed with BT. BT should, however, be able to recover the costs that it incurs in providing this service to a ported customer. This requirement is applied by virtue of a wider definition of portability than was included in the existing licence condition.
29. Finally, the licence modification is also intended to cover portability of non-geographic numbers such as 0800 numbers. Oftel intend to present specific proposals as regards 0800 numbers to the industry in the course of next year.
30. Much has recently been made of the issue of regulatory discretion. The Director General has been criticised by BT for seeking an excessive degree of regulatory discretion in a number of areas, the suggestion being that the discretion he has sought is wholly disproportionate to the exercise of the functions he is obliged to perform. In the context of the number portability inquiry, BT sought to characterise the licence modification proposed earlier this year as containing disproportionate discretion. Oftel's view was that the Director General was seeking discretion sufficient to the effective discharge of the Director General's functions under the Telecommunications Act in order to bring about portability on reasonable terms. Against this background, Oftel views the MMC findings as a helpful confirmation of its policy objective of securing proportionate discretion.
31. There are a number of areas touched upon by the inquiry where the degree of discretion required was an issue. First, BT argued that the power to allocate costs, rather than simply allowing BT to recover them in full, was an inappropriate and unnecessary discretion. On this, the finding of the MMC is quite clear: an element of discretion is essential to bring about portability on appropriate terms and deliver benefits to customers. Second, there was the question of how discretion should be framed in a licence modification; should it be closely defined, leaving little or no room for the exercise of judgement, or should it be more widely framed. The MMC consider that the principal elements of the allocation of costs should be incorporated in a revised licence condition rather than left entirely to the Director General's discretion. At the same the MMC has confirmed the need for a significant degree of discretion and indeed has suggested specific instances where discretion should be exercised that go beyond that which was envisaged under the original licence modification put forward by Oftel earlier this year.
32. For example, the MMC has confirmed that the Director General needs the existing discretion to determine what are reasonable costs, and it has added that the Director General should be able to exercise discretion as to the categorisation of costs in each of the separate identified categories when operators dispute where costs lie. The MMC has also suggested that when the market circumstances are such (ie when there is cross-charging) the Director General should have discretion to disallow recovery of Per Line Set-Up Costs altogether .
33. Perhaps the most important discretion which the MMC has suggested would be proportionate for number portability is the "efficient operator" principle. This responds to arguments put to the MMC during the inquiry about the importance of ensuring that BT has the right kind of incentives not to pass inefficiently-incurred costs onto its customers. In essence, it means that BT will not be able to pass the costs of its technical solution to number portability to other operators unless the solution adopted is the most efficient available. The MMC has suggested that the appropriate licence modification would give the Director General discretion to disallow any of BT's costs which are unreasonable. As regards the costs of Per Line Set-Up, the MMC have specifically stated that if BT has not completed the replacement of its older, TXE4 exchanges - which entail much higher per-line set-up costs - by October 1997, the higher costs resulting from the continued existence of those exchanges should be disallowed from that date. This type of incentive regulation could be a highly effective tool, and Oftel will now be looking at whether a similar approach should be adopted elsewhere in the regulation of the telecommunications market.
34. In concluding that it would be appropriate to follow closely the MMC's recommendations as the basis for a licence modification, the Director General has looked carefully at the likely effects of implementing the MMC's recommendations, and sought to draw a comparison between the material impact on BT and other operators of a cost allocation based on the MMC's recommendations compared with BT's position at the time of its rejection of the licence modification in March 1995, as amplified in its commercial offer to other operators of May 1995.
35. The MMC estimates that BT's total portability costs between 1996 and 2000 (including System Set-Up costs of some £37m) could be in the region of £220m. It further estimates that its cost-allocation proposals could result in other operators paying about one third of the total of per-line set-up and additional conveyance costs - perhaps £60m - over that period. Whilst this would impose a slightly higher bill on other operators than my original proposal, in which their costs in this period would have been some £55m, there is clearly, a significant material improvement for other operators in not being required, as they would have been under BT's original proposal, to bear all of these costs expect for the System Set-Up costs - some £183m.
36. Furthermore, BT's estimates of its costs - perhaps partly as a result of the close scrutiny to which they have been subjected during this inquiry - have fallen over the last few months. The commercial offer which BT made to other operators in May of this year was based on an additional conveyance cost of 1.23 pence per minute, with a per-line set-up charge of some £36.61. Assuming that the 1.23ppm figure, which is based on a determination of 1991/92 conveyance charges, would have been adjusted to reflect the latest figures for costs, Oftel estimates that the bill to other licensed operators if BT could recover its costs in full, would have been some £520m. On the basis of Oftel's March 1995 proposal, if these costs had remained at this level, the bill to other operators would have been about £200m.
37. In contrast, the MMC's figures are based on reduced cost estimates as follows: for tromboning, 0.54ppm for the financial year 1995/6, for dropback 0.2ppm for the same financial year implying a charge to other licensed operators of 0.17ppm in the tromboning period , and £12 for per line set-up, set to fall to £8 after October 1997. Oftel will want to look very carefully at these costs in making any determination. For instance, on the basis of work which has been done elsewhere by Oftel on BT's component prices, the conveyance rate could be 0.44ppm. On the same basis, drop-back costs could fall to some 0.17ppm, with the result that OLOs would pay only 0.14ppm in the 'tromboning' period. This would further reduce their overall costs over the four year period to some £55m.
38. In summary, Oftel believes that the combination of BT's reduced cost estimates, cost-allocation along the lines suggested by the MMC, and other safeguards which the MMC has recommended, will reduce the bill to other operators to the point where number portability will be a viable commercial option. Most importantly, customers' exercise of choice will be substantially easier, something research has shown is of great value to them.
Table 1: Estimated impact of various cost-allocation proposals
Proposal: Total cost BT bears: OLOs bear:
£m
Oftel - March 557(1) 65% 35%
1995
BT May 1995 557 7% 93%
MMC November 220 70% 30%
1995
Notes: 1 This figure is based upon the quoted costs set out by BT in its commercial offer to other operators in May. If the reduced cost estimates used by the MMC were applied to the cost-allocation proposals made by Oftel and BT, the split between BT and OLOs would be 75-25 and 15-85 respectively.
The figures in the first two lines are also based on estimates of the number of ported lines and the volume of calls to ported customers. The MMC has used recent, unpublished estimates from BT of these variables. The Oftel estimates rely on earlier estimates to which an adjustment factor has been added to make them broadly comparable with the BT figures.
39. The timetable for further action by Oftel is now as follows:
Monday 18 December 1995 - Statutory consultation period for consideration of the licence modification begins. Oftel welcomes comments from interested parties. Copy of the licence modification available in Oftel library.
Monday 15 January 1995 - Statutory consultation period ends. Two week period during which comments made are available for inspection in the Oftel library.
Monday 29 January 1995 - Licence to be amended and initial determination to be made by the Director General as soon as possible thereafter.
DON CRUICKSHANK
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