Competition in International Markets

Chapter 1  Introduction

Chapter 2  BT’s Requests

Chapter 3  Methodological Approach

Chapter 4  Retail IDD – Market Analysis

Chapter 5  Wholesale IDD – Market Analysis

Chapter 6  IPLCs – Market Analysis

Chapter 7  The Legal Framework

Chapter 8  Operators’ Initial Comments

Chapter 9  Conclusions and Proposals

Consultation

Annex A  The Routes Considered

Annex B  NOP Attitudinal Survey: Key Findings

Annex C  Draft Determination

Annex D  Proposed Licence Modifications

Glossary Key Definitions

At present, BT is subject to greater regulatory obligations than its competitors in the international markets. In particular, BT is required to provide 28 days notice of price changes, is subject to non-discrimination requirements, must comply with the basic principles of cost-orientation and must seek the Director General’s consent to any proposed reduction of retail international prices to below cost.

These regulatory obligations on BT were required at a time when BT had a very strong position in the international markets and they were designed to ensure that BT could not abuse this position to the detriment of its competitors and hence consumers. However, Oftel’s approach is that regulation should be proportionate to the level of competition, with lighter regulation where greater competition exists. Maintaining regulation when it is no longer needed can be detrimental to competition and, as a result, consumers’ interests.

This approach to the regulatory framework has provided the background against which BT’s requests for relaxation of its regulatory obligations in international markets have been considered. These requests focus on the extent of competition on certain retail and wholesale international call routes and certain international private leased circuit (IPLC) routes.

Oftel has identified the following relevant markets for the purpose of this review:

• The market for international retail services;

• The market for international services to other operators; and

• The market for IPLCs.

Oftel considers that these markets can be reviewed on a route by route basis.

Within the market for international retail services, Oftel has further defined services to business and residential customers as forming two separate markets.

Oftel has now reviewed the state of competition in these markets on the routes identified by BT. The review has involved consideration of factors such as market shares, trends in market shares, the number of competitors, potential barriers to entry, the ease of entry to and exit from the markets and evidence of collusion or price leadership.

In conducting this review, Oftel has taken account of BT’s Significant Market Power (SMP) status under EU Directives which restrict Oftel’s ability to allow certain of BT’s requests. However, EU Directives do give the Director General a degree of discretion in the application of some SMP obligations.

Oftel has drawn the following conclusions from its review:

• Retail international calls         – In the business market, all 23 routes considered are effectively competitive.

• Wholesale international calls  – All 26 routes considered are effectively competitive

• IPLCs – All 22 routes considered are increasingly competitive.

As a result of these conclusions, Oftel proposes the following changes to BT’s regulatory obligations in international markets:

• Reduction of BT’s price publication notice period from 28 days to one day for 23 retail international routes and 22 IPLC routes;

• BT need no longer provide Oftel with breakdown of costs for changes to retail international prices on 23 retail international routes prior to publication of those prices and need no longer seek the Director General’s consent to prices which are below cost on those routes;

• 26 wholesale international routes determined as being Competitive Standard Services, enabling BT to offer charges for those routes outside the Network Charge Control’s ceiling control;

• Reduction of BT’s network charge publication notice period from 28 days to one day for all Competitive Standard Services (including the 26 wholesale international routes);

• Increased flexibility in Oftel’s interpretation of undue discrimination and undue preference by BT on the international routes covered by this investigation.

Oftel considers that the current obligations are preventing BT from competing effectively and are potentially acting as constraints to the development of full competition in these markets. Oftel is confident that its proposals will encourage the continued development of competition in international markets. Such heightened competition should lead to further price reductions on international calls and therefore benefit customers.

In terms of Oftel’s regulatory approach, the findings of this analysis are consistent with the principle of minimising regulation and focussing it only where it is strictly necessary.

1.1 Over the past 5 years international traffic has been one of the fastest growing areas of telephony. In the United Kingdom the volume of outgoing international call minutes has grown from 3,230 million minutes in 1993/4 to 5,821 million minutes in 1998/9. This represents a growth of 80%, considerably more rapid than that for local or national calls (35% and 50% growth respectively). Worldwide growth in international calls has been even more pronounced with global international traffic having quadrupled in the last ten years.

1.2 Despite the large growth in international call volumes, international calls still account for less than 5% of all traffic carried on the UK network. It is also the case that the growth in volumes has not been matched by growth in revenues. Over the last 5 years UK telecoms operators’ revenues from international calls have remained fairly stable, growing just 7% to £1,449 million in 1998/9. The failure of revenues to grow as rapidly as volumes is a result of the falling prices of international calls. However, international calls contribute over 15% of UK operators’ total call revenues. So, although retail prices have fallen, they are still relatively high, making international calls an attractive market for new entrants.

1.3 One of the reasons for the continuation of relatively high retail prices is that international operators charge each other high amounts to terminate incoming international traffic. Since these charges (known as settlement rates) are usually well in excess of cost, it has been in the interests of international operators with net inflows of traffic to maintain these arrangements because of the large profit they make on terminating incoming calls. Even operators with net outflows of traffic have not entirely objected to high accounting rates because they have enabled them to justify higher retail prices for international calls. It was expected that the 1998 EU liberalisation and the February 1997 WTO Basic Telecoms Agreement would bring about a rapid reduction in settlement rates as new operators in newly liberalised regimes put competitive pressure on prices by access to alternative, cheaper methods of terminating calls by self-termination, international simple voice resale (ISVR) and cross-border interconnection. However, whilst there has been some progress in reducing settlement rates (particularly in Europe) the average rates are not falling as rapidly as had been hoped.

1.4 Since the BT/CWC duopoly in the international market was ended with the introduction of ISVR licences in 1992, the number of operators competing in the UK market has grown dramatically. Under ISVR, new operators could deliver traffic to overseas operators on competitive routes using international private circuits leased from BT and CWC. In 1997, the full liberalisation of the UK international market with the introduction of the International Facilities Licences (IFL) allowed operators to own and use their own international facilities, attracting further new entrants to the market. At present, it is estimated that around 50 ISVR operators and 20 to 30 IFL operators are active in the international market.

1.5 The increasing number of competitors over recent years has had a large effect on the former duopolists’ market shares. This effect has been particularly noticeable in the market for international calls made by business users, worth about £770 million in 1998/9. BT’s share of this market fell by approximately one-third to 37% from 1993 to 1999, while CWC’s share fell from around 35% to 18% in the same period. Competition in the residential international market appears to be less intense, but over the last 5 years BT’s share of this market has fallen steadily by about 12% to just over 70%. ISVR operators and other resellers are beginning to generate additional demand by conducting extensive advertising campaigns, targeting specific market niches, such as immigrants and tourists. The current trends in market shares suggest that resellers’ shares will continue to grow.

1.6 In addition, in a survey conducted in July 1999 by NOP in conjunction with Oftel, it was revealed that more than a third of residential consumers and two thirds of business consumers now use more than one telecommunications supplier for making international calls. The survey also showed that 63 per cent of new residential accounts for international calls were with companies other than BT, whilst commercial customers were even quicker to use the available competition. A more detailed overview of this survey’s findings is set out in Annex B.

1.7 In February 1997, the Director General determined that CWC was a Well Established Operator (WEO) in international markets. A WEO is defined as an operator with market power, and designation as a WEO brings certain obligations in relation to price publication and non-discrimination. However, in February 1999 Oftel reviewed the designation and found that, as a result of growing competition in international markets, CWC’s market position had altered considerably. As a result, CWC was released from its WEO obligations in both the retail and wholesale international direct dial (IDD) markets on 157 routes. Oftel is separately reviewing CWC’s remaining obligations following the replacement of the WEO test by a Market Influence test in the revised PTO licences issued in September 1999.

1.8 Oftel has received requests from BT to investigate the degree of competition in certain international markets with a view to reducing regulatory controls on BT on international routes determined as being competitive. Consideration of these requests forms the basis of this consultative document. The exact nature of BT’s requests is discussed in detail in Chapter Two.

1.9 In response to BT’s requests, Oftel has conducted a review of competition on certain routes in the retail and wholesale IDD markets and the IPLC market. The methodological approach used in conducting this review is set out in Chapter Three. The review itself is set out in Chapters Four, Five and Six, with each of BT’s three requests being covered in a separate chapter. Chapter Seven discusses the legal framework.

1.10 In April 1999, Oftel notified operators of BT’s requests and gave them the opportunity to provide initial comments. Chapter Eight outlines the main initial comments and sets out Oftel’s responses to these points.

1.11 Finally, the conclusions Oftel has drawn from its analysis of BT’s position in international markets and the proposals stemming from those conclusions are set out in Chapter Nine.

1.12 In October 1998, BT entered into a framework agreement with AT&T to establish an international joint venture, combining their international gateway-to-gateway network facilities, assets and operations.

1.13 When the joint venture comes into being, it will operate using a licence granted to Concert Communications Company in 1996. Oftel has proposed that the joint venture will be subject to a number of the same regulatory controls currently applied to BT. Licence modifications to this effect are currently under consideration for inclusion in the Concert licence.

1.14 For the purposes of this review and the conclusions, Oftel considers that any relaxations of controls which apply to BT should similarly apply to the joint venture.

1.15 Further consideration is given to the impact of the joint venture on international markets at paragraph 8.4 of this paper.

2.1 As a consequence of the market developments outlined in Chapter One, BT has requested that Oftel conduct a review of the extent of competition in international markets. In total, BT have made three separate requests regarding international markets: one concerning retail IDD, one concerning wholesale IDD and one concerning IPLCs. Each of these submissions requests that Oftel assess the competitiveness of specified international routes with a view to withdrawing or reducing regulatory controls on any routes determined as being competitive. The details of these requests are outlined in further detail below.

2.2 BT’s request concerning retail IDD is restricted to the 23 routes set out in Annex A. The request focuses on three areas of regulatory relaxation for those routes deemed to be competitive.

2.3 BT’s price publication requirement is set out in Conditions 58 and 54.5 of its licence. Throughout this document, unless otherwise stated, all references to Conditions in BT’s licence relate to BT’s licence as at 31 October 1999. Under these conditions, BT must publish a notice specifying its charges for its services. Notices of any proposal to amend any charge must be published not less than 28 days before the change is to become effective. In contrast, other operators offering international services are not required to provide prior notice of their price changes, unless they are obliged to provide those services under their licences.

2.4 Condition 58.1 and Condition 54.5 of BT’s licence both give the Director General discretion to vary the price publication requirement by written consent. BT has requested that the Director General exercises this discretion in relation to retail IDD routes which are found competitive so that only one days notice is required. In respect of routes determined as being competitive, BT have further requested relaxation of the application of Condition 58.3 preventing BT from departing from their published prices.

2.5 Condition 57 of BT’s licence sets out the prohibition against exercising undue discrimination and undue preference (included in all Public Telecommunication Operators’ licences). Condition 57 requirements apply to all services which the licensee is obliged to provide under its licence, all markets in which the licensee has been determined as having market influence, and all markets where the licensee has been determined as having Significant Market Power for the purposes of the ONP Directives. The requirements therefore apply to all international services offered by BT, including retail IDD, wholesale IDD and IPLCs.

2.6 BT has requested that for retail IDD routes determined as being competitive, any differential pricing by BT which might be considered to be discriminatory be deemed to be not unduly so.

2.7 Condition 71 of BT’s licence requires BT to obtain the Director General’s prior consent to proposed retail prices which are below cost (see paragraphs 7.11 and 7.12 for a more detailed explanation of how Condition 71 works). This Condition applies to proposed below cost retail IDD prices.

2.8 BT has requested that Condition 71 be amended to contain a new provision such that where the Director General has determined a market as being competitive, Condition 71 should not be applied. Such a licence amendment would enable BT to offer below cost prices on retail IDD routes determined as competitive without the need to first seek the Director General’s consent, although any such prices would be subject to normal competition rules.

2.9 In addition to the above requests for regulatory relaxation, BT also requested that Oftel reconsider the nature of BT’s obligations under the Revised Voice Telephony Directive. In particular, BT has asked whether it is possible to define a relevant market which is a subset of the voice telephony market (eg retail IDD) and conclude that BT does not have Significant Market Power within that subset market.

2.10 BT has made representations under Condition 13.37(a) of its old licence (now Condition 47.10(a)) for the Director to determine that the market for 26 wholesale IDD routes be determined as competitive (see Annex A for routes). Wholesale (or Interconnect) IDD is currently classified by Oftel as a Prospectively Competitive Standard Service. BT’s request focuses on the relaxation of two regulatory restraints on those routes found to be competitive.

2.11 Condition 69.4 of BT’s licence requires that at least 28 days’ notice be given (both to the Director and to all other operators) of network charge changes to all Competitive or Prospectively Competitive interconnect Standard Services. BT has requested a modification to these conditions so as to reduce the notice period for changes to charges on wholesale IDD routes determined as being competitive from 28 days to 1 day.

2.12 BT’s obligations for wholesale IDD as regards undue preference and undue discrimination are set out in Condition 57 – see paragraph 2.5 above.

2.13 BT has requested that for wholesale IDD routes found to be competitive, any differential pricing by BT which might be considered to be discriminatory be deemed to be not unduly so.

2.14 BT’s request concerning IPLCs is restricted to 22 routes (see Annex A). BT has requested that on routes where it is found to have no market influence it should have no more obligations in respect of determining and publishing its prices than its competitors. This would involve relaxation of BT’s price publication requirements but not its Condition 57 undue preference and discrimination obligations since equivalent obligations are already included in all PTO licences.

2.15 BT’s requirements in relation to publication of IPLC prices are set out in Condition 55 of its licence. Under this Condition BT must publish their IPLC prices no later than 28 days before the implementation of the offering. This requirement applies both to changes to existing offerings and information on new offerings. Allowing BT’s request to have no more obligations than its competitors for routes found to be competitive would result in BT only having to give one days notice rather than 28 days’ notice of price changes on such routes.

2.16 Under Condition 55.15 of its licence BT is required to ensure that its tariffs for "Relevant Private Circuits" (in effect, intra-EU IPLCs) follow the basic principles of cost orientation and transparency. As regards other IPLCs, Condition 73 of BT’s licence requires that BT’s IPLC prices are subject to a price control of RPI+0%. BT’s competitors do not have to comply with similar requirements and BT has therefore effectively asked for these restraints to be removed.

3.1 Reviewing the competitiveness of specified international routes and BT’s relative position on those routes involves two stages:

• First, there is a need to define the relevant markets in which the review is to be made. This is done by reference to Oftel's standard approach to market definition, which focuses on the existence of constraints to the price setting behaviour of firms that are provided by the possibility of demand-side or supply-side substitution. This follows the approach of the European Commission as set out in its Notice on the definition of the relevant market for the purposes of Community competition law (97/C 372/03) and is also consistent with the approach set out in the Office of Fair Trading’s Competition Act 1998: Market Definition Guidelines (OFT 403).

• Second, it is necessary to review BT’s position in the relevant market in order to establish whether it has market influence (defined as the ability to raise prices above the competitive level for a non-transitory period without losing sales to such a degree as to make this unprofitable).

This chapter sets out the first stage of the review. Chapters Four, Five and Six cover the second stage of the review considering each of BT’s requests in turn.

3.2 By applying Oftel's standard methodology for market definition, three main markets in relation to international telecommunications have been identified. These markets are set out below.

3.3 This market generally consists of international retail calls (retail IDD and retail calls delivered via ISVR) only. However, in instances where it is appropriate to look at markets by customer type, IPLCs (normally considered as part of the market for international services to other operators, see below) may also be included in this market insofar as they represent a substitute for international retail calls for large corporate customers.

3.4 Oftel has considered whether it would be appropriate to define separate markets for business and residential customers. It has considered the extent to which supplies to one group of customers are subject to the same competitive constraints as supplies to another. Are suppliers able to identify separate customer groups and then to sustain a policy of price discrimination between the customer groups involved? This will largely depend on whether the suppliers can prevent resale between the customer groups that would cancel out the effects of the price discrimination.

3.5 Oftel’s conclusion is that it is certainly possible for suppliers of international retail services to identify and distinguish between residential and business customers, and that the characteristics of international retail calls are such that resale between different customer groups is not possible. Further, BT and other operators do in practice price discriminate between residential and business customers by offering separate prices and discount packages to the two groups of customer.

3.6 Oftel has also regulated the retail business and residential markets separately in the past, for example, in setting the retail price controls, and considered them to be separate markets. Oftel therefore considers that a divide can be made between residential and business customers, and has therefore viewed these two groups as forming separate markets. The competitive conditions facing these different customer groups are set out in Chapter Four.

3.7 This market encompasses the supply of underlying capacity for conveying international retail services which can be viewed as potentially substitutable for each other. The alternative ways of conveying international retail services are:

1. Wholesale IDD (ie where one operator supplies IDD services through an interconnect arrangement to other operators for onward supply to retail customers);
2. Backhaul plus cable station access plus IRU/MIU plus correspondent agreement (if not self-corresponding). This method is often referred to as ‘the facilities based method of conveying international retail services’; or
3. IPLC plus ISVR authorisation plus cost based call termination.

It should be noted that for some of the individual elements identified under (ii) and (iii) above (for example, backhaul and IPLCs), distinct markets have now developed. Competitive conditions in these markets are considered further in Chapter Five.

3.8 An operator's degree of control over the market for international services to other operators will be amongst the factors that may contribute to market influence in the market for international retail services, given that the former market represents a vital upstream input into the latter market. A review of BT’s position in the market for international retail services will, therefore, inevitably involve reviewing its position in the market for international services to other operators.

3.9 The relationship between the upstream wholesale market(s) and the downstream retail market is not necessarily just one way. It is conceivable that market influence in the downstream market could feed back to the upstream markets. Oftel has considered this inter-relationship in some detail in considering the appropriate definition of the wholesale international market.

3.10 Previously in assessing the extent of competition in the wholesale IDD market, Oftel has focused only on the addressable market. This considers sales to third parties only and does not take account of any in-house sales to an operator’s own retail operations. However, Oftel is aware that it is BT’s current practice to source all its wholesale inputs in-house, with little, if any, of its requirements being met by third parties. This means that whilst BT’s share of total sales to the addressable wholesale market may be relatively small, once its in-house sales are included, its share of wholesale services becomes significantly higher.

3.11 Using the standard hypothetical monopolist approach to market definition, the question of whether in-house supplies should be included with sales to the addressable market in the definition of the wholesale market, would consider whether both types of supply are subject to a common pricing constraint. Could BT, or any other vertically integrated supplier of IDD services, readily divert its in-house supplies of wholesale IDD services to the addressable part of the market in response to a significant price increase, thereby providing customers of the addressable market with an effective alternative? And is the (transfer) price of in-house supplies constrained by the price of wholesale IDD services available from third parties? If such a common pricing constraint exists, then it would suggest that the definition of the wholesale market should include both in-house supplies and sales to the addressable market.

3.12 In considering this question, Oftel has taken into account BT’s current practice of sourcing all its supplies of wholesale services for its retail IDD operations in-house. This is despite the fact that, in general, it can obtain lower absolute prices from third party suppliers of wholesale IDD services. (This issue did not arise in the context of the recent CWC WEO determination because Oftel understands that, in contrast to BT’s position, CWC generally adopt a least-cost routing approach.) This suggests that the price of BT’s in-house wholesale supplies is not being constrained by the price of wholesale supplies available from third parties and is therefore consistent with the argument that in-house supplies should not be included in the definition of the wholesale IDD market.

3.13 This would imply, however, that BT must have some degree of market influence at the retail level. Otherwise, it would not be able to sustain a strategy of buying in-house wholesale inputs at a cost that is higher than could be obtained from third party suppliers of wholesale services. This implies that if BT does not have any market influence at the retail level, then it would be appropriate to include in-house supplies in the definition of the wholesale market.

3.14 IPLCs have been included above as potential substitutes for both international retail services and international services to other operators. A distinct market for IPLCs can be identified and BT has requested that Oftel reviews the state of competition in this market. The market consists of the leasing of international digital circuits for international services and includes supply to retail customers as well as supply to other operators.

3.15 When considering the geographical definition of the markets for international retail services and international services to other operators, including IPLCs, it is usually appropriate to treat paired country routes as separate markets. On the demand side, substitution between different country routes is not possible as a call to one country is not a good alternative for a call to another country.

3.16 On the supply side, the delivery of a call to one country is not generally a good substitute for the delivery of a call to another country. It could be argued, however, that the possibility of ‘hubbing’ (the routing of traffic via an intermediate third country), and other forms of indirect transmission such as ‘transit’, ‘re-origination’ and, more recently, the use of ‘ring’ systems, means that defining geographical markets on a route by route basis may represent too narrow a focus.

3.17 Oftel recognises that it is possible that indirect transmission services may represent effective supply side substitutes. In such cases, it may be more appropriate to treat a group of countries as a single geographical market at one end of the route, rather than looking at routes to each country within that group individually. In the context of this review Oftel has examined all individual routes separately, but, where appropriate, routes have been grouped together in the presentation of results for ease of reference.

3.18 Oftel has identified a range of factors that tend to indicate whether an operator has market influence. In summary, the factors that Oftel takes into account include: entry barriers; extent of vertical integration; market share; fluctuations in market share; number of competitors; the countervailing power of buyers; the degree of effective entry to the market; evidence of collusion or price leadership; and high profits. These factors have been set out in some detail in Draft Guidelines on Market Influence Determinations which was published by Oftel in April 1999.

3.19 In relation to barriers to entry, Oftel has considered a number of potential barriers to entry in international markets, which are set out below:

1. The ability of entrants to obtain correspondent agreements with overseas operators;
2. Possible limitations on cable capacity. New entrants are likely to wish to purchase IRUs on existing cables, but this will only be possible to the extent that capacity is available. In addition, cable consortia may be unwilling to make capacity available to new entrants, or may only do so on discriminatory terms;
3. Limitations on cable station access;
4. Difficulties in laying new cables and constructing cable landing stations. (Cable installation takes up to two years and may be uneconomic for small operators or on thin routes);
5. Availability of alternative backhaul from the cable landing station to new entrants’ existing infrastructure.

The extent to which any of the above factors represent actual, as opposed to potential, barriers to entry on any or all of the routes under consideration, is considered in depth in Chapters Four to Six.

4.1 In assessing the extent of competition on the international routes identified by BT, Oftel has considered a number of different factors, which are set out below.

4.2 Whilst relative market shares are often seen as one of the key factors in assessing the competitiveness of a particular market, they are by no means the only factor. In fact, market shares alone are a very poor indicator of market influence and it is entirely possible for a firm to have a very high market share but no market influence at all (eg if barriers to entry are very low). It is also important to note that high market shares at a particular point in time are not necessarily indicative of market influence and it is usually more informative to consider trends in market share over time.

4.3 With these caveats in mind, the market information that Oftel has on retail IDD shows that, for most of the 23 routes considered, BT’s market share (in volume terms) is relatively high. Table 1 below, which relates to all retail customers taken together (that is, business and residential), summarises BT’s position.

Table 1 – BT’s share of Outbound Retail IDD traffic on 23 routes

4.4 These market shares relate to early 1999 and it is relevant to consider how these compare to previous years. Looking at the equivalent period in 1998, Oftel data shows that on all but 3 of the routes under consideration, BT’s market shares have either fallen or, in a few cases, stayed approximately the same, over the last year. The typical fall in market share is between 5 and 15 percentage points. This is in the context of an expanding market whereby the total volumes of retail IDD traffic have increased over the period.

4.5 As discussed in Chapter Three, Oftel considers it appropriate to define separate markets for business and residential customers. As far as possible, therefore, it has considered the competitive conditions facing these different sets of customers.

4.6 The amount of market information by type of customer is quite limited. In particular, Oftel does not have data on a route by route basis by type of customer, or disaggregated by size of customer. However, it does have data on market shares for all business customers and for all residential customers across all international calls. This data suggest that BT is facing considerably more competition for business customers than it is for residential customers. Oftel considers it appropriate to use BT’s position with respect to all business customers as a proxy for its position on the 23 individual routes under consideration here. (Indeed, this was the approach adopted by the FCC in 1996 when it considered AT&T’s position in international services.)

4.7 BT’s share of retail IDD call revenues to business customers was 37% as at the fourth quarter of 1998/99. Table 2 below compares the position in the fourth quarter of 1998/99 with the position in 1997/98 and this shows a reduction of 2 percentage points in BT’s share. BT has informed Oftel that it considers that its share has fallen further more recently. BT believes its share is now closer to 25%.

Table 2 – Business Market Shares for International Calls (Shares of Call revenue)

4.8 BT appears to be losing most market share at the top end of this market, which consists of the well-informed, high-spending business customers. It is also this set of customers that BT targets for its most favourable discount schemes.

4.9 For the remaining groups of customers, namely residential and small to medium business users, BT seem to be losing only limited market share. BT’s share of international retail IDD call revenues to residential customers for the fourth quarter of 1998/99 was much higher – at about 74% – than its share of revenues to business customers. Whilst this share is declining over time, it is doing so at a slower rate than the rate of decline in BT’s share of business customers. Oftel is unable to publish a similar table to Table 2 for shares of residential call revenues for confidentiality reasons.

4.10 There could be several reasons why BT is maintaining relatively high market shares for residential customers compared to business customers, including inertia on the part of customers (see NOP survey results in Appendix B). A further factor may be that for these customers, international call spend may not constitute a significant proportion of total call spend.

4.11 However, Oftel’s analysis suggests that the degree of competition does vary between the business and residential retail IDD markets and is considerably stronger with respect to business customers, particularly with respect to the largest, high-spending, business customers. This means that any discriminatory offerings to this set of customers would be less likely to be considered undue than an offering to residential customers, or the smaller business customers.

4.12 On almost all of the routes under consideration, CWC tends to be the other main competitor in terms of market share. However, there are now over 100 IFL operators, of which Oftel estimates that at least 20-30 are active. This compares to the position in early 1997, when there were 43 IFLs issued to operators other than BT and CWC (then Mercury), with only a handful active. In addition to IFL operators, there are also now over 160 operators registered under the ISVR licence. It is estimated that over 50 ISVR licencees are active in the market for international retail services.

4.13 Of course, not all the active operators will be active on every route. On the specific routes in question, Oftel’s market information suggests that there are usually at least 7-12 active operators, albeit with BT and CWC combined accounting for the substantial share of the traffic.

4.14 Operators who deliver retail IDD services by buying-in wholesale IDD services, or by the facilities based method of conveyance may have to source the constituent inputs from operators who themselves compete at the retail level. Control over the constituent elements needed to offer retail IDD services could represent a barrier to entry to those operators without such control. Chapter Five considers the various inputs in some depth and concludes that there are no significant barriers to obtaining the necessary wholesale inputs. Similarly, for operators who deliver retail calls by ISVR, there do not appear to be any significant entry barriers.

4.15 There is potentially a barrier to entry at the retail level in the form of customer inertia. The results of the NOP consumer survey (see Appendix B) suggest that for all but the highest spending business customers, customers show reluctance to switch to new suppliers of retail IDD services that have not established a reputation. Such reluctance is particularly noticeable in the residential sector. This could mean that new operators would have to incur substantial and sunk costs of advertising in order to acquire a reputation as a "trusted" supplier of IDD services.

4.16 If a supplier of a product was found to have market power, any concerns about abuse of that market power may be alleviated by the presence of countervailing power on the part of buyers. Countervailing power of buyers may arise from a number of different sources. Countervailing power is likely to be important where the buyer purchases a large volume relative to the producer’s total output. It could also be important where the buyer’s purchases represent a large proportion of the buyer’s total costs, as this will make the buyer more price-sensitive. A third source of buyer power is where the buyer can switch between suppliers easily but the seller has invested in assets specific to that buyer. A buyer may also have countervailing power where it has ready access to alternative sources of supply, perhaps by in-house production.

4.17 Countervailing buyer power can be beneficial if it exerts downward pressure on a supplier’s prices and these lower prices are then passed on to the end customer. However, there are some circumstances when buyer power can have adverse effects. In particular, when the buyer itself possesses market power (as a seller) in the downstream market and so may not be constrained to pass on lower prices. It is important to note that Oftel is not aware of any such circumstances applying to the markets that are the subject of this review.

4.18 In retail IDD, the extent to which buyers will have any countervailing power will be limited to the business market, and in particular to the larger telecommunications users, especially multinational companies. Such customers are likely to be well informed about competitive offerings, including those available from operators in different countries. This results in them increasingly multi-sourcing their telecommunications requirements and switching between operators in response to relative price movements. Telecommunications are also likely to form a significant share of such customers’ own costs. In contrast, residential and smaller business customers will be too small and diffused to have any countervailing buyer power.

4.19 As stated above, the number of operators with either IFLs or ISVR licences has increased substantially since early 1997. Whilst not all operators are active on every international route there is evidence of market entry and growing competition on many routes, including the 23 routes under consideration.

4.20 Oftel has no specific information on any operators that have exited the market. In general, it will be more difficult for an IFL operator to exit the market as it is likely to have incurred certain sunk costs or entered into long-term contracts for IRUs (typically 25 years). Exit by ISVR operators will be easier and less costly, given that they may not have had to make substantial investments, other than a switch, on entry.

4.21 Oftel has no evidence of any collusion between the international operators or of any one operator acting as a price leader in the retail market. However, there are some indications that the current 28 day price publication requirement on BT is encouraging other operators to reduce their prices following BT’s announcements of reductions. This may be stifling the extent of competition in the market. As far as the newer entrants who offer international calls through calling cards are concerned, whilst many make a point of advertising through price comparisons with BT’s headline retail prices, Oftel does not consider this to be evidence of any price leadership on BT’s part.

4.22 Oftel does not have full sight of the profitability of other international operators, especially on a route by route basis. From the information Oftel has, BT’s profit margins have declined over time on all routes considered.

4.23 BT’s combined business and residential market share on the 23 routes considered remains relatively high, typically lying within the range 40-50%. Nevertheless, there has also been substantial entry to these routes and barriers to entry, particularly in relation to the wholesale inputs needed to supply international retail services, are also declining.

4.24 However, the speed at which competition is developing is not evenly spread across the retail market. The benefits of increased competition in retail IDD services are being targeted at certain groups of customers, rather than being made available to all customers. This is evidenced by the structure of BT’s discount schemes, where the most favourable discounts are being offered to high spending, business customers where competition is most intense. This, together with BT’s relatively high market share in the residential market, suggests that for residential customers (and, possibly, the smaller business customers), BT still has a degree of market influence at the retail level. Another factor behind this may be customer inertia to switching suppliers, which may be acting as a barrier to entry.

4.25 Oftel has considered whether it would be appropriate to relax the controls on BT in relation to the largest business customers only, where BT has least market influence. There would be some practical difficulties in doing this. However, Oftel has identified growing competition across all business users, albeit that this is more intense with respect to the larger business customers. Oftel also believes that business customers’ demand for an individual operator’s telecommunications services is far more elastic than that of residential customers, as evidenced by the extent to which such customers (especially the largest) multi-source and switch between operators. Oftel therefore considers it appropriate to treat the business retail market separately from the residential market and to recognise the extent to which there is a greater degree of competition in the business market.

4.26 Oftel therefore concludes that for the business retail IDD market all 23 routes are properly regarded as effectively competitive.

4.27 However, for the residential retail IDD market, due to BT’s residual market influence (discussed at paragraph 4.24 above), Oftel considers that all 23 routes are properly regarded as increasingly competitive but not yet effectively competitive (hereafter referred to as "increasingly competitive" routes).

5.1 As discussed in Chapter Three, there are two possible ways in which the wholesale IDD market may be defined: in terms of sales to third parties only (the so-called addressable market), or in terms of the total of sales to third parties and in-house supplies. For completeness, Oftel has considered BT’s position in the wholesale market on both bases.

5.2 On 20 of the 26 routes considered, including the UK/US route and the other non-EU routes, BT’s share (in volume terms) of the addressable wholesale market is less than 15%.

5.3 For the addressable wholesale market as a whole (ie taking account of all routes, not just the ones under consideration here) there is anecdotal evidence to suggest that BT’s wholesale prices are amongst the highest in the market. For this reason, it is often regarded as the operator of last resort, with BT potentially having market power for these customers. However, representations from OLOs suggest that such a situation exists on the "thinner" routes, rather than on the routes under consideration in this review.

5.4 If the wholesale market is defined in terms of the addressable market plus in-house sales, then on all but 5 routes, BT’s share is less than 60%.

5.5 BT’s position in the wholesale market, in terms of the addressable market only and the addressable market plus in-house sales, is summarised in Table 3 below. The figures relate to BT’s position as at the end of 1998/99.

Table 3 – BT’s share of the wholesale IDD market on 23 routes

5.6 On all of the routes considered, BT’s share of the addressable wholesale market only has fallen compared to its share in 1997/98. BT’s shares have also fallen when the wholesale market is defined to include in-house sales, typically by about 10 percentage points. Its share has stayed more or less the same in 6 cases.

5.7 On all the routes under consideration there are typically between 8 and 12 competitors, including BT. The UK/US route has the largest number for competitors with at least 14 active IFL operators.

5.8 The following represent potential barriers to entry: the need to obtain correspondent agreements with operators at the far end of routes; limitations in cable capacity and/or problems in constructing new cables; restricted cable station access; and the need for backhaul. The degree to which any of these represent actual barriers to entry is considered in turn.

5.9 Facilities operators will need to negotiate a "correspondent relationship" with operators at the far end of any particular route. Since January 1998 all EU states have been required to liberalise international facilities, so there should not be a problem on any of these routes in obtaining such agreements. However, there have been variations in the rate at which liberalisation has taken place and operators may still have difficulties in obtaining correspondent agreements with certain Member States.

5.10 Liberalisation has taken place on most of the other routes considered, all of which are countries that have signed the WTO agreement and therefore have a commitment to provide any-to-any call termination. This should make it increasingly easy for UK licensees to negotiate correspondent agreements with the incumbent or alternative operators in these countries. In addition, ISVR is becoming a viable means of entry into the telecoms markets in these countries. Where difficulties in negotiating correspondent agreements remain, or where resale is still not permitted, the ready availability of refile from operators offering carriers’ carrier services weaken the potential for these to act as barriers to entry.

5.11 Facilities based operators need to gain access to cable capacity, so a new entrant would have to purchase IRUs to existing cable capacity. The extent to which this will be possible will depend on the degree of excess capacity available. In addition, it is conceivable that cable consortia may be unwilling to make capacity available to new entrants or may only be willing to do so on discriminatory terms.

5.12 Oftel has recently undertaken a review of the amount of cable capacity available. On the transatlantic route, there are 10 existing cable systems in service, with BT being a consortium member on 6 of these. Spare capacity is believed to be currently available on 3 of the 10 existing cable systems (namely, the CANTAT-3, Gemini and AC-1 cables) and a number of the existing cables are subject to capacity upgrades, which are expected to become available during 1999/2000. In addition, 4 new cable systems are due to become operational during 2000 or the first quarter of 2001, with the expected capacity of these new cable systems being well in excess of existing cable capacity.

5.13 Similarly, by the year 2000, potential capacity on the pan-European routes will have increased by a factor of over 100 since 1997. A number of different operators in Europe are building large networks over which they intend to provide carriers’ carrier services, whereby they will sell capacity on to other operators. Indeed, some (for example, Hermes) do not provide any services to end-users directly.

5.14 As well as the traditional consortium cables, European cable capacity is increasingly being provided in the form of ring systems that connect a number of European cities and, sometimes, the US as well. Examples include the Worldcom Ulysses system and the Hermes system. In addition, most of the new transatlantic systems are being constructed as self-healing rings with stations in 2 or more European countries which provide additional capacity between the UK and mainland Europe. In addition, alternative infrastructure providers, such as Eurotunnel, are supplying telecoms operators with "dark fibre" (ie they simply supply the "raw" cable and the purchasing operator is responsible for utilising it).

5.15 BT contends that it currently has less than 5% of potential cable capacity to mainland Europe and about 15% of potential capacity to North America. However, its share of allocated cable capacity is closer to 25%. At least as far as the North Atlantic route is concerned, BT’s view of its position was endorsed by the European Commission in its consideration of the BT/AT&T joint venture. The European Commission stated that there was no shortage of transatlantic cable capacity in the foreseeable future and that this position would not be affected by the planned joint venture. It also observed that the unit costs of capacity on the newer cables across the Atlantic were considerably lower than the unit costs of the older cables. This led it to conclude that there were no barriers to entry due to lack of or excessive pricing of capacity on the transatlantic route.

5.16 In addition to cable capacity, a new entrant requires access to cable landing stations, together with backhaul from the landing station to the international switch, which is considered separately below.

5.17 Within the UK, almost all the cable landing stations are owned by either BT or CWC. The main exceptions are the privately built Atlantic Crossing cable (which links the US, the UK, the Netherlands and Germany), where the landing station is owned by Global Crossing, and the Eurotunnel cable landing station. Farland, which is an optical fibre ring system linking key cities in Western Europe also owns some cable stations but Farland is a series of BT joint ventures. There is the potential, then for BT (and indeed, CWC) to deny access to cable landing stations and thereby prevent competition from new entrants.

5.18 However, BT’s licence obliges BT to meet reasonable requests for cable station access on cost-orientated terms. Under Condition 57 of its licence, BT is also under an obligation not to unduly prefer its own business or to unduly discriminate between operators. CWC will also have an obligation to connect other operators with Annex II status.

5.19 Backhaul is a high capacity inland circuit that is required by operators to link the cable landing station to an operator’s existing domestic infrastructure. Before December 1996, only CWC and BT supplied backhaul services in the UK, but now any UK long distance operator can use elements of their existing network to provide backhaul. This has resulted in increasing competition in the provision of backhaul services and a distinct market for this service has developed. The main providers of backhaul services in the UK, apart from BT and CWC, are Energis, Worldcom and ntl. Other providers, such as Unisource and Telia, also offer backhaul, but on a much smaller scale.

5.20 There is also scope for other operators to enter the backhaul market. IFL operators have the right to access BT and CWC cable landing stations to provide backhaul services. From September 1999, and as a result of the DTI’s implementation of the EU Licensing Directive in the UK, this entitlement has been extended to all PTO operators.

5.21 The increased competition in the supply of backhaul services has resulted in significant price reductions. For example, BT has reduced its connection charge by 45% since 1998, with rental charges also falling by over 65%. Further, under the Leased Lines Directive, BT has to ensure that its prices are cost-orientated. The evidence available to Oftel shows that BT prices its backhaul services keenly and there is no evidence that operators experience any difficulties in obtaining backhaul services.

5.22 There is more likely to be buyer power in the wholesale IDD market given that many of the buyers of these services are themselves large telecoms operators. Some of these (for example, CWC) are also large originators of traffic so they will therefore have a high level of knowledge of the costs of the services involved. Operators such as CWC and Worldcom also have the capability to meet their wholesale IDD requirements from in-house supplies.

5.23 Since BT appear to retain some degree of market influence in the retail IDD market, the appropriate market for wholesale IDD is the addressable market only (see paragraphs 3.11 to 3.13 above). In this wholesale addressable market, BT’s share is less than 15% on all but six of the routes (and is less than 5% on 16 routes) and seems to be declining. There are now typically between 8 to 12 competitors on the routes under consideration, most of which have a large, global presence.

5.24 The barriers to entry in the wholesale IDD market are also low, with increased cable capacity already available or due to come on-stream very soon and effective regulation in place for access to other facilities.

5.25 Oftel’s conclusion is that the 26 wholesale IDD routes under consideration are effectively competitive.

5.26 It should be noted that Oftel’s conclusion would not be altered if it were to adopt the wider definition of the wholesale market, i.e. including in-house supplies. Whilst BT’s shares are much higher on this basis, they are continuing to decline. This is probably a reflection of the low barriers to entry, the analysis of which is the same regardless of how the wholesale market is defined.

6.1 IPLCs are international circuits leased from facilities operators in order to provide international services and consist of capacity in an international cable (IRU), cable-head breakout and capacity on an inland backhaul circuit. An IPLC provides a direct, clear bandwidth link between two points and can be viewed as relatively short-term contracts for utilisation of capacity on a wholesale basis. IPLC customers tend to be carriers with high utilisation needs or large corporations wishing to use their own network for their international telecommunications needs. IPLCs are also used for the provision of ISVR where telephone services are provided by interconnecting the ISVR carrier’s circuits to the PSTN, thereby by-passing the accounting rate system

6.2 IPLCs are usually provided and charged for in half circuits. This means that an operator wishing to have end-to-end control on a given route will need to procure matching international half-circuits from the destination country in order to complete the circuit. However, new competitors are increasingly offering end-to-end bandwidth services. These are equivalent to BT’s digital half-circuit IPLC service plus the other end half circuit, but supplied on a PoP to PoP (point of presence) basis plus an access circuit to the customer’s site in each country.

6.3 For the year 1998/99, BT accounted for just over a third of IPLC capacity (measured on the basis of 64kB equivalents) on the 22 routes considered together. In revenue terms, BT’s share is approximately 40%. BT’s main competitors in this market are CWC, Worldcom, COLT and Energis, although not all of these operators cover all the routes under consideration. Some operators may be active on only a few routes but have quite a significant presence on those routes.

6.4 Oftel has had some difficulty in obtaining full market information on a route-by-route basis, but from the information available, some variations in BT’s share can be observed. Measured in capacity terms, BT’s lowest market share within the European routes is just under 20%. This is on the UK-France route where the total volumes are amongst the highest of all the European routes and where CWC and COLT also have significant shares. Within the European routes there are four routes where BT’s share is just below 60% although two of these routes are relatively small in terms of total volumes.

6.5 For the non-EU routes, BT’s highest share (just under 60%) of IPLC capacity is on the Japan route, although this is a relatively small route with CWC being the only other operator with a significant presence. The largest of the non-EU routes in terms of total capacity is the US route, where BT accounts for just under half of all capacity. On the other non-EU routes, BT’s share of capacity is lowest on the Canada route (15%), whilst on the remaining non-EU routes its share falls within the range 35-56%.

6.6 Oftel has not been able to consider BT’s market position in revenue terms on a route-by-route basis, due to the lack of disaggregated data from other operators. It only has information for the European routes in total, where BT accounts for approximately 45% of all IPLC revenues. CWC and Worldcom account for most of the remaining share. Oftel has insufficient disaggregated data for the WTO routes, even taking them as a whole.

6.7 Oftel has also found it difficult to obtain complete market information for previous years, both in terms of volumes and revenues. It does have some limited information for 1996/97 on revenue shares on European routes. This suggests that BT’s share of revenues has fallen slightly on these routes since then (when BT had a share of about half of all revenues), as have those of CWC.

6.8 There are now about 10 IFL operators that provide IPLC services from the UK. In addition, there are a number of operators that provide IPLCs by resale, by subdivision of larger capacity into smaller IPLCs or as capacity in conjunction with other services.

6.9 The main suppliers on the European routes are BT, CWC, Worldcom and COLT. Energis currently has a presence on 7 of the 16 European routes. CWC and Worldcom are also the other main competitors to BT on the non-EU routes, although this is concentrated on the US route. Other operators on the non-EU routes include Telstra, Equant and GlobalOne.

6.10 An operator wishing to enter into the market for the supply of IPLCs would be faced with the same potential barriers to entry as those identified for the wholesale IDD market. As discussed in Chapter Five, none of these represent a significant barrier to entry. There could be a further barrier to entry if the number of contracts available to new entrants is limited by some customers already being committed to contracts with the more established operators.

6.11 Prior to December 1996, only BT and CWC were licensed to supply IPLCs. All the market entry has therefore occurred since then and has been predominantly focused on the European and US routes.

6.12 Oftel does not have any evidence of collusion between the two main suppliers of IPLCs. It is possible, however, that BT is acting as a price leader, which, as with retail IDD, may be partly due to the requirement to publish prices 28 days in advance. Oftel has observed that price reductions by BT tend to be followed by other operators, with prices being adjusted to just below BT’s level.

6.13 BT has submitted data to Oftel that shows that its profitabilty for IPLCs is declining. BT suggests that this is a result of it losing market share to competitors and also having to reduce prices in response to this increased competition.

6.14 BT’s market share of IPLCs remains relatively high on the routes under consideration, in terms of both capacity and revenue. The paucity of detailed information has made it difficult to examine fully trends in BT’s market position. In the light of this Oftel considers it would be premature to conclude that the 22 IPLC routes are effectively competitive. However, BT is losing market share on most of these routes, particularly on the US and European routes. In addition, there do not appear to be any significant barriers to entry to the IPLC market although some customers may already be contractually tied and reluctant to switch to another operator.

6.15 Oftel therefore concludes that all 22 IPLC routes considered are increasingly competitive but not yet effectively competitive.

7.1 This chapter considers the legal obligations on BT in relation to the international services under review and considers the degree of flexibility available to the Director General to vary those obligations.

7.2 BT has been determined as having Significant Market Power (SMP) in respect of the three Open Network Provision Directives – the Revised Voice Telephony Directive (RVTD), the Interconnection Directive (ICD) and the Leased Lines Directive (LLD). SMP is an ONP concept used to decide when an operator should be subject to specific obligations contained in the ONP Directives. As an SMP operator, BT has generally greater obligations with respect to price publication, undue preference and pricing below cost compared with those operators who do not have SMP.

7.3 SMP status must be determined by reference to particular pre-defined markets. There is no flexibility for the Director General to define the market for SMP purposes in any other way. This approach is supported by DGXIII’s explanatory note, Determination of Organisations with SMP for Implementation of the ONP Directives, dated 1 March 1999. For example, in relation to the RVTD, the note states that: "The product/service markets for the purpose of this Directive are the market for the provision of fixed public telephone networks and/or the market for the provision of voice telephony services. The Directive does not foresee that an operator would have SMP obligations for only certain parts of this market (eg only for its local/long distance/international businesses)". Therefore, "sub-markets" such as retail IDD could not be considered as separate markets for SMP purposes. The only flexibility is in the definition of the relevant geographical market which the Director General could deem to be part of the UK (as was the case for Kingston Communications).

7.4 Since there is no flexibility to remove BT’s SMP status in particular sub-markets, BT must continue to comply with all SMP obligations in respect of the pre-defined general markets. Retail IDD, wholesale IDD and intra-EU IPLCs all fall within these pre-defined markets.

7.5 Under Condition 58 of its licence BT is required to provide at least 28 days’ notice of retail IDD price changes, unless the Director General consents otherwise in writing. Condition 58.3 also prevents BT from departing from its published prices, unless the Director General consents otherwise in writing. Condition 54.5, relating to pre-notification periods for operators with SMP under the RVTD, also requires 28 days notice of price changes except where the Director General consents otherwise in writing.

7.6 The RVTD requires that PTOs publish prices, irrespective of whether they have SMP status. For those operators with SMP status, the RVTD states that tariff changes shall be implemented only after an "appropriate notice period" set by the NRA has been observed. Under the UK Regulations which implement the RVTD (SI 1998/1580), the Director General can disapply the requirement for a notice period where he is satisfied that there is effective competition in the fixed public telephony services market in a specific geographical area. The term "specific geographical area" does not include a particular international call route or series of routes. The Director General is therefore not entitled to disapply the requirement for "an appropriate notice period" for specific retail IDD routes.

7.7 However, in deciding what "appropriate notice period" for tariff changes must be observed, the Director General is entitled if he so wishes to set the notice period according to the level of competition prevailing in each international route. If it can be shown that there was a sufficient level of competition on particular routes, then the Director General would therefore be entitled to reduce the 28 days notice period for such routes by the provision of his written consent.

7.8 Under the RVTD, SMP operators are required to adhere to the principles of non-discrimination. Therefore, as an SMP operator BT cannot be released from the undue preference/discrimination requirement on retail IDD routes deemed competitive.

7.9 Furthermore, Condition 57 of BT’s licence does not give the Director General scope to disapply BT’s undue preference obligations in respect of those routes which he believes are competitive. Even though material effect on competition is the principal factor in deciding whether discriminatory pricing is undue, the Director General could not make any general finding of such a kind in advance, but could only deal with the matter on a case by case basis.

7.10 Under the RVTD, SMP operators must follow the basic principles of cost-orientation.

7.11 Condition 71 of BT’s licence requires that the Director General must provide prior written consent to any proposed changes to BT’s General Prices (which include voice telephony messages) which are less than the aggregate cost attributable to the provision of that service irrespective of whether the below-cost price relates to calls on an international route which he believes is competitive. The aggregate cost is defined as including the retail cost, the delivery outpayment cost, the conveyance outpayment cost and the network cost. "Retail Cost" is defined in Part 1 of BT’s licence as the retail cost that is in the opinion of the Director appropriately attributed by the Licensee to the provision of the retail service. At present, Oftel requires BT to seek consent for prices that are below Fully Allocated Costs (FAC). However, it has been accepted that Long Run Incremental Costs (LRIC) is more appropriate for the calculation of telecommunications costs.

7.12 The Condition allows Oftel to scrutinise the introduction of certain retail prices which fall below FAC, but it is not an absolute prohibition on BT pricing below FAC. Such a check was included in BT’s licence because of BT’s vertically integrated structure and its dominance in a number of markets. In particular, BT would otherwise have been able to reduce retail prices whilst leaving wholesale (network) charges unchanged thereby squeezing competitors. Condition 71 was designed to address this concern.

7.13 Condition 47.10(a) provides that if BT represents to the Director the market for a Standard Service is competitive, the Director shall make a determination on the issue. Individual wholesale IDD routes are considered to be separate Standard Services. If a Standard Service is determined as being competitive, BT is allowed to offer prices for that service outside of the Network Charge Control’s ceiling control, but subject to standard competition law and the generally applicable conditions of its licence.

7.14 Under the Interconnection Directive, NRAs must ensure the publication of reference interconnection offers by SMP operators, but no reference is made to the period of prior publication of interconnection charges. However, under Condition 69.4 of its licence BT is required to give at least 28 days notice of price changes to all Competitive and Prospectively Competitive Standard Services. This obligation has been imposed on BT in recognition of the importance of BT’s wholesale IDD prices as an element in many OLOs’ retail IDD prices. By requiring prior notice of BT’s wholesale charges OLOs are able to respond appropriately to the change and alter their retail IDD prices at the same time as BT makes any alterations to its retail prices. This requirement is reflected in Condition 47.6 of all Fixed PTO licences in relation to operators with SMP for the purposes of the Interconnection Directive.

7.15 Condition 69.4 allows no scope for the Director to accept a shorter period of notice. Reduction of BT’s notice period on wholesale IDD routes would therefore require a licence modification.

7.16 Non-discrimination obligations for SMP operators flow directly from the Interconnection Directive and therefore prevent the Director General from allowing BT’s request in relation to undue preference and undue discrimination. The same considerations regarding non-discrimination as in relation to retail IDD also apply to wholesale IDD, ie the Director General can only assess undue discrimination under Condition 57 on a case by case basis (see paragraph 7.9 above).

7.17 The LLD, which only applies to intra-EU leased lines, provides that SMP operators must publish changes to existing leased lines offerings and information on new offerings (including prices) as soon as possible. Under the Directive, NRAs may specify a suitable period of notice for publication of the prices on which leased lines are offered but imposes no obligation on them to do so.

7.18 Condition 55.4 of BT’s licence (and all Fixed PTO Licences) requires the provision of at least 28 days notice of proposed price changes for IPLCs by operators with SMP for the purposes of the Leased Lines Directive. The Director General has no discretion under this Condition to agree to alternative notice periods. Therefore, reduction of the notice period from 28 days to one day for BT would require a licence modification.

7.19 The LLD requires that SMP operators’ leased lines tariffs must follow the basic principles of cost orientation and transparency. This would restrict Oftel’s flexibility to allow BT’s request regarding price determination in respect of intra-EU IPLC routes determined as being competitive.

7.20 Under Condition 55.15 of BT’s licence, BT must ensure that tariffs for "Relevant Private Circuits" (the definition of which includes only intra-EU IPLCs) follow the basic principles of cost-orientation and transparency. The Director General has no scope within Conditions 55.15 to determine that those requirements do not apply on routes which he might determine as competitive. As regards IPLCs generally (ie including non-EU IPLCs), Condition 73 of BT’s licence requires that BT’s IPLC prices are subject to a price control of RPI+0%. However, under Condition 73.5, the Director General has scope to disapply this control upon request by the Licensee if he sees fit.

7.21 In addition, for the same reasons as discussed under paragraph 7.9 above in relation to retail IDD, the Director General must retain his ability to review prices which are not cost-orientated on a case by case basis.

7.22 BT made representations to Oftel suggesting that a rigid application of the ONP Directives would have a distortive effect on competition where an operator does not have dominance in a particular product/service market. In BT’s view such an application of the Directives would be contrary to Articles 5 and 3(g) of the EC Treaty. BT has represented that where a Directive can be interpreted in a number of ways, it must be interpreted in a fashion consistent with the general obligations under the Treaty.

7.23 Oftel rejects BT’s argument and believes that NRAs cannot interpret the ONP Directives so as not to apply the SMP requirements where an SMP operator is not dominant in a particular product market. The Directives expressly state that NRAs must impose these obligations on all operators who have SMP irrespective of whether or not they are dominant in a particular product market. A failure to impose these obligations on a non-dominant operator which has SMP would constitute a breach of the ONP Directives.

7.24 For the reasons set out above, Oftel considers that obligations in the ONP Directives requiring SMP operators to abide by the principles of non-discrimination and cost-orientation prevent the Director General from allowing BT’s requests to remove its obligations regarding undue discrimination and pricing below cost. However, the ONP Directives and the conditions of BT’s licence generally allow Oftel a greater degree of flexibility in considering BT’s requests to reduce notification periods for price changes.

7.25 In Oftel’s opinion any findings of effective or increasing competition should logically result in deregulatory action being taken and greater reliance being placed on competition law. However, given BT’s SMP status and existing conditions in BT’s licence, a complete move towards competition law for competitive markets is not yet possible. Oftel therefore considers that, at present, deregulation can only be brought about through modifications to BT’s licence and through the Director General exercising his discretion where it exists. As effective competition becomes more commonplace, a greater emphasis can be put on competition law.

8.1 By letter dated 23 April 1999, Oftel notified operators of BT’s requests with regard to the retail and wholesale IDD markets. The letter invited operators to make initial comments on BT’s requests and offer market information on a number of matters on a route-by-route basis. It was made clear that this opportunity to provide initial comments would be in addition to the formal consultation process outlined in this document.

8.2 Oftel received written responses from seven operators, namely COLT, Energis, Hermes Europe Railtel, Orange, Vodafone, World Telecom and WorldxChange. In addition to these responses, Oftel met with an OLO sub-group to hear comments on BT’s requests. This sub-group’s response represented the views of Energis, CWC, Racal Telecommunications, Hermes Europe Railtel, Esprit Telecom, GlobalOne and Telia. BT themselves also provided a response to Oftel’s letter. All operators who responded confirmed that their responses were not confidential.

8.3 The main comments are summarised below together with Oftel’s responses. It is hoped that responding to these comments now will prevent identical issues being raised during the formal consultation process.

8.4 The most widespread concern was the impact BT’s joint venture with AT&T would have on the international markets. Several operators expressed the view that through the joint venture BT would effectively be strengthening its market share on international routes. As such, it was suggested that AT&T’s market shares should be factored into Oftel’s investigation. Other operators suggested that it would be inappropriate to conduct this investigation before the joint venture starts operating.

8.5 Oftel response: Oftel considers that it is still valid to conduct a review of the competitiveness of international markets based on existing information given the evidence of increasing competition. It would be unacceptable to wait until the impact of the joint venture could be assessed. However, Oftel has taken account of the potential impact of the joint venture in its conclusions.

8.6 The creation of the joint venture has received clearance to proceed from the European Commission (following an in-depth investigation lasting four months), the US Department of Justice and the FCC. Oftel notes that, while the FCC concluded that the joint venture should be regulated as dominant on the US/UK route because of its affiliation with BT, the European Commission commented that this route is already very competitive and barriers to entry are low. Oftel’s analysis tends to support the European Commission’s view.

8.7 The impact of the joint venture on BT’s international business is discussed in greater detail in the June 1999 consultation document BT/AT&T Proposed Joint Venture (available on Oftel’s web site). Oftel proposes to transfer relevant provisions of the BT licence to the joint venture to ensure continuity in the regulatory regime.

8.8 A number of operators suggested that Oftel’s ability to allow BT’s requests was restricted by BT’s SMP obligations arising from the ONP Directives.

8.9 Oftel response: Oftel agrees. Detailed consideration of this issue is set out in Chapter Seven.

8.10 The issue was raised that it was inappropriate to investigate competition on a route by route basis. Firstly, it has been suggested that markets should only be analysed separately where consumers purchase services separately and that since consumers do not chose their IDD supplier on a route by route basis the market should not be looked at in that way for the purposes of this investigation. Secondly, it has been argued that the ONP Directives prevent NRAs from conducting competition investigations on a route by route basis.

8.11 Oftel response: Oftel’s reasons for using a route by route analysis are discussed in detail in Chapter Three. In response to the first argument, Oftel is of the view that whilst consumers may purchase IDD services across a number of routes, competitive conditions may vary between these routes. It is therefore necessary to start by considering individual routes. In response to the second argument, Oftel accepts that the ONP Directives restrict the way markets can be defined for the purposes of SMP determinations (see Chapter Seven), but they in no way restrict possible market definitions for the purposes of competition investigations.

8.12 Arguments were received that it would be premature to deem international routes to be competitive if there was not a satisfactory degree of liberalisation at the foreign end of the route.

8.13 Oftel response: Oftel agrees in principle but the assessment of competition depends on a number of factors and not just the extent of liberalisation at the far end.

8.14 Some operators requested that Oftel gives consideration to the impact BT’s strength in the wholesale IDD market has on its strength in the retail IDD market. Others suggested that the requirement for BT to give 28 days notice of their wholesale IDD prices was essential for the effective pricing of other operators’ retail IDD calls.

8.15 Oftel response: Oftel acknowledges that an operator’s degree of control over the market for international services to other operators will be amongst the factors which may contribute to market influence in the market for international retail services, given that the former market represents a vital upstream input into the latter market. Oftel has also considered the extent to which this relationship can run the other way, with market influence at the retail level feeding back to the wholesale level. Oftel further recognises the relationship between BT’s wholesale IDD pricing and the retail pricing of other operators. This issue is discussed in greater detail in Chapter Three.

8.16 Concerns were expressed regarding BT’s strength in the market for cable station access and its impact on competitiveness in international markets. Such concerns particularly focussed on BT and CWC’s dominance of the market for access below 155 mbit/s.

8.17 Oftel response: Discussion of how cable station access may act as a potential barrier to entry is dealt with in the analysis of BT’s requests (see Chapter Five).

8.18 It was suggested that since outbound and inbound traffic streams are not linked markets, BT should not be able to use its profits from inbound traffic (arising from the non-cost-orientation of accounting rates) to cross subsidise its outbound business on the same route.

8.19 Oftel response: It is standard practice for international facilities operators to take account of profits on incoming calls in setting retail prices for outgoing calls. In relation to BT, this is provided for in Condition 71 of BT's licence. When the joint venture is established, it is proposed that it will take over BT's international facilities and be responsible for correspondent agreements. It is not yet clear what the arrangements will be between BT and the joint venture for charging for conveyance of incoming and outgoing international traffic. However, given the peculiarities of international traffic accounting arrangements and developments in international markets, Oftel considers the application of Condition 71 to international traffic may need to be reviewed in the near future.

9.1 Oftel’s analysis of the international markets (Chapters Four, Five and Six) has revealed that BT is now facing heightened competition in the retail IDD, wholesale IDD and IPLC markets. In general, on the routes considered, BT’s market shares have fallen as more and more operators become active in the markets for international services.

9.2 Oftel has drawn the following conclusions about the state of competition in the three international markets reviewed:

• Retail IDD         – In the business market, all 23 routes considered are effectively competitive.

• Wholesale IDD – All 26 routes considered are effectively competitive.

• IPLCs                  – All 22 routes considered are increasingly competitive.

9.3 The consequences of these findings are discussed below in relation to each of the markets in turn. In reaching its proposals, Oftel has considered these conclusions alongside the principle that regulation should be proportionate to the level of competition existing in a market. Oftel is confident that its proposals will encourage further development of competition in the markets considered and therefore benefit the consumer. The proposals are also consistent with the principle of minimising regulation and focussing it only where it is strictly necessary.

9.4 In view of the finding that the 23 retail IDD routes considered are effectively competitive in the business market and increasingly competitive in the residential market, Oftel proposes the following with regard to BT’s retail IDD obligations:

9.5 Oftel considers that BT’s obligation to publish retail prices 28 days in advance is unnecessarily burdensome given the increased levels of competition in the retail IDD market. Furthermore, the obligation could be acting as a constraint on competition by enabling other operators to follow BT’s prices.

9.6 Oftel believes that the price publication period limits the ability of BT to compete and is capable of being manipulated by competitors to the detriment of consumers. Once BT announces a price reduction this gives competitors an opportunity to alter their prices so as to match or better the prices announced by BT. This reduces the incentive on BT to reduce its prices by as much as may be possible as it knows that any competitive advantage will accrue to its competitors. It also encourages the price reductions of other operators to take the form of reactive rather than proactive competitive responses.

9.7 Oftel believes that reducing the notice period will help to remove these incentives and should result in fiercer price competition between operators, to the benefit of customers. BT will have an incentive to compete more aggressively on price and other competitors will also be encouraged to initiate price reductions.

9.8 Therefore, Oftel proposes to reduce BT’s price notification period to one day on the 23 routes considered for both business and residential retail IDD. BT will still be prohibited from varying from these published prices under Condition 58.3 of its licence.

9.9 As discussed in Chapter Seven, even if its analysis had shown full competition on the 23 routes considered, Oftel would not be able to release BT from its undue preference and undue discrimination obligations. However, the fact that these routes are effectively or increasingly competitive will be an important factor for consideration in deciding whether any preference/discrimination on such routes is ‘undue’ under Condition 57.

9.10 Chapter Four has discussed Oftel’s finding that competition is at a considerably more developed stage for large business customers than for residential customers and SMEs. There is some evidence that BT is losing more significant market share for large businesses, while retaining a degree of market influence in the rest of the market. Customer inertia may be a factor inhibiting the development of full competition towards these customers.

9.11 As a result of the differences in the degree of competition across the retail IDD market, Oftel has considered it appropriate to treat the business and residential markets separately. There is clearly a greater degree of competition in the business market, especially at the upper end. Therefore, in considering what might constitute undue preference or undue discrimination under Condition 57, Oftel will give regard to the level of competition in the area of the retail IDD market at which the preferential or discriminatory offering is targeted.

9.12 In particular, a discriminatory offering to large, high-spending business customers (where competition is more developed) would be less likely to be considered undue than a discriminatory offering to residential customers. It would be for BT to ensure that any such tariffs are compliant before launch. Oftel would, of course, investigate the tariff fully in the event of any non-spurious complaints that the tariff had anti-competitive effects.

9.13 Oftel would also require BT to publish the details of all such offerings (under the notification procedure outlined above), which would need to show the criteria that would have to be satisfied to qualify for the prices. This would enable all customers that met the criteria to apply for the same price, thus ensuring that such prices were reasonably broad and available to a wide class of customers.

9.14 Oftel believes that allowing BT more scope to offer flexible prices in this way will benefit consumers, who will be able to purchase services in a way that best meets their particular needs, but without increasing the risk of anti-competitive behaviour by BT. It also expects that it will encourage further competition between operators. In reaching these views, Oftel has taken account of the approach adopted by the US authorities towards Tariff 12 contract prices.

9.15 As far as discriminatory offerings to groups of customers in respect of whom BT faces less competition are concerned (such as residential customers and, possibly, smaller business customers), Oftel will make no presumption that any such offerings would be undue. Oftel is aware that properly constructed volume-based discounts could have positive welfare effects, whereby some groups of customers could be made better off by paying lower prices, but no other groups of customer would be made worse off as they would still face the same prices as before.

9.16 Whilst Oftel would be prepared to consider such offerings on their own merits, however, they would have to be considered on a case by case basis given that BT faces less competition in respect of these customers. Oftel would therefore continue to subject any such offerings to more detailed scrutiny in advance of their launch.

9.17 Oftel considers that the increased level of competition in both the residential and business retail IDD markets make it appropriate to reduce BT’s obligations under Condition 71 for the routes considered. As discussed in Chapter Seven, BT’s Condition 71 obligations exist as a result of BT’s vertically integrated structure and its dominance in a number of markets. In particular, the control was designed to prevent BT ‘price-squeezing’ its competitors by reducing retail prices whilst leaving wholesale charges unchanged. However, Oftel’s finding of a reduction in BT’s influence in the retail IDD market together with the finding of effective competition on the wholesale IDD routes considered suggests that the risk of such margin squeezes is limited.

9.18 Oftel therefore proposes that, on the routes considered, BT should be able to alter its retail IDD prices without first having to provide Oftel with cost information for the proposed revised prices and without having to first seek the Director General’s consent to proposed prices which are below cost. Oftel would, however, retain the ability to call for cost information from BT after revised price changes have been introduced if it considers that such prices may have an anti-competitive effect. This proposal would require a licence modification to Condition 71 whereby the Director General is granted the discretion to remove BT’s obligations under the Condition where he sees fit by means of the provision of written consent. It is proposed that such consent would be granted in relation to markets which are considered to be competitive.

9.19 Since all 26 wholesale IDD routes considered were found to be effectively competitive, Oftel considers it appropriate to reduce BT’s regulatory constraints with respect to these routes.

9.20 Oftel propose that all 26 wholesale IDD routes considered should be determined as being Competitive Standard Services in accordance with Condition 47.10(a) of its licence. BT would therefore be able to offer prices for these routes outside the Network Charge Control’s ceiling control, but subject to standard competition law and the generally applicable conditions of its licence.

9.21 In view of the finding that the 26 routes considered are effectively competitive, Oftel considers that BT’s obligations in respect of price publication should be reduced. In the past, prior notice of BT’s wholesale IDD charges was justified because they were an important input in OLOs’ retail IDD prices. However, on routes found to be competitive this justification is no longer applicable.

9.22 Under Condition 69.4 of its licence, BT is required to give at least 28 days notice of price changes to all Competitive and Prospectively Competitive Standard Services. Oftel therefore proposes a licence modification so that for Competitive Standard Services only one days notice of price changes would be required. Such a modification would reduce the notification period for all Competitive Standard Services. At present, the only other Competitive Standard Service is the value-added element of operator assistance. Oftel considers that for Standard Services that have been determined as Competitive Standard Services, BT should not be under any greater obligations with regard to price publication than its competitors.

9.23 Although the 26 routes have been found to be effectively competitive, BT’s SMP status under the Interconnection Directive prevents Oftel from removing BT’s obligations with regard to undue preference and undue discrimination. Furthermore, the Director General must continue to look at such questions on a case by case basis.

9.24 However, Oftel considers that only operators who retain some degree of market influence in the relevant market would be capable of undue discrimination or preference. Therefore, the fact that these 26 routes have been determined as effectively competitive will mean that it is less likely that preferential or discriminatory price offerings by BT on those routes will be considered undue. Such offerings will be treated in the same way as offerings for the business retail IDD market – see paragraphs 9.12 and 9.13 above.

9.25 In view of the finding that the 22 IPLC routes considered are increasingly competitive, Oftel considers it appropriate to relax BT’s existing IPLC obligations. Oftel proposes the following:

9.26 Oftel considers that BT’s obligation to publish IPLC prices 28 days in advance is unnecessarily burdensome given the increased levels of competition in the IPLC market. As with retail IDD, the obligation could be acting as a c