Customer choice: Oftel’s review of indirect access for mobile networks

Please note that the timetable for this document has changed. The deadline for responses is now close-of-buisness on 1 April 1999.  Any comments on submissions made by the first deadline should be received no later than close-of-business on 19 April 1999.

To view a list of respondents to this document please click here

Please note this document refers to graphics held in separate files.

Indirect Access is about the choices available to the customers of mobile networks. It could also affect the prices they pay for their calls. It is of key significance to consumers, service providers, and to the mobile network operators.

Indirect access would allow mobile network customers to choose how their calls are delivered to the people they are calling, once the calls leave the mobile network. It would mirror the facility available to BT’s customers to dial access numbers to route calls beyond BT using the services of other operators and service providers. In BT’s case this has contributed to the steady reduction of call prices.

For indirect access operators and service providers, indirect access for mobile networks would open up opportunities to offer their services straight to calling customers – independently of the network operator once the call has left the mobile network. They can package and charge for the services in innovative ways – including potential reductions in prices.

For the mobile network operators, indirect access provides the possibility of enlarging their markets by opening up alternative services from the service providers. However, they would lose some of their control over their customers and could lose some of their revenue.

This document seeks views on what route is in the best long term interest of consumers.

It concludes that indirect access should be obligatory for two of the mobile networks and charged to the indirect access operator at retail prices less any savings for those elements of the retail service which the indirect operator will substitute for those of the network operator. This approach is known as ‘retail-minus’ charging. This form of indirect access will allow other operators to offer alternative services to customers – expanding choices and widening competition.

A final decision will also be influenced by the assessment of the competitiveness of the mobile market discussed in the parallel consultation document Competition in the Mobile Market. Oftel’s initial conclusion is that competition in the mobile market is not fully effective, but there are clear indications of increasing competitiveness. This makes it unnecessary for Oftel to intervene now in the market place with price controls to bring down prices of calls from mobile networks. Reductions in mobile call prices should come from the increasing competitiveness of the mobile market. We will monitor over the next 12 months and publish a full review of the competitiveness of the mobile market in September 2000.

The objective of this consultation document is to gather views on both principle and practice. The consultations will run concurrently to Easter and Oftel expects to make a Statement in June.

1.1 Indirect Access (IA) gives customers of telecoms networks the chance to select, on a call by call basis, which operators carry their calls for them. By dialling a short ‘access code’ they can divert calls as they leave the network to their chosen indirect access operator’s system, by-passing the arrangements made by their network operator for the onward delivery of the calls. At present, the only network operators who are obliged by their licences to provide IA for their customers are BT and Kingston. Through this document Oftel is consulting on whether there should be a similar obligation on some or all of the mobile network operators.

1.2 Oftel has to consider this issue now because a new operator, who has a licence to provide call services to foreign destinations, has asked one of the mobile networks for indirect access and his request has been refused. The new operator asked Oftel to resolve this dispute under the disputes resolution provisions of the EU Interconnection Directive (ICD). Oftel has examined the case, seeking to assess where the best interests of consumers lie over the longer term and taking account of its most up-to-date analysis of the mobile market. Requiring mobile operators to offer Indirect Access on their networks would be a change to the UK regulatory framework, with implications for the customers and service providers of mobile networks on the one hand and for the network operators on the other. This consultation document sets out Oftel’s initial conclusions on the issue: for public discussion before the Director General makes his determination on the particular dispute referred to him.

1.3 In resolving interconnection disputes, Oftel has to take into consideration a range of criteria set out in the Interconnection Directive (ICD), part of European legislation, which was incorporated into UK law on 1 January 1998. These criteria are quoted in full in Annex A and their application in this dispute on IA is discussed in Chapter 2.

1.4 This document discusses the form of indirect access which is the subject of the dispute: that is – IA provided by means of a short access code. It does not deal with other means of providing IA such as carrier pre-selection (where no access code is needed since calls are automatically routed to the IA operator) or via freefone services (for instance chargecard services accessed by dialling 0800 followed by identification codes and the number required).

1.5 It should be read in parallel with Oftel’s separate consultation document, Competition in the Mobile Market, reviewing the state of competition in the mobile market. These consultations will provide inputs for the Statement to be made by the Director General in June on his Review of the Mobile Market. That Statement will set out the Director General’s final conclusions on IA for mobile networks and on the obligation on two of the network operators to supply services to service providers, and his conclusions on other mobile market issues.

1.6 Oftel’s review of the application of the ICD criteria to the dispute over indirect access for mobile networks will be made in the context of seeking only to regulate where the market, left to itself, is unlikely to provide customers with the best possible deal.

1.7 Indirect Access on BT’s fixed network has existed since the opening up of its market to competitor network operators in 1984. It is required by Oftel because competition is not fully effective – in order to give choice and to bear down on prices. This obligation was imposed to allow BT’s competitors to offer alternative call services, without waiting for them to develop their own networks to serve customers directly. Indirect access allows BT customers to chose other operators to handle their calls to chosen destinations in UK or abroad, whilst still remaining customers of BT for exchange line service (and being able to use BT for all their other calls). There is no parallel obligation on mobile networks. Nothing prevents a mobile network operator from agreeing to allow its customers indirect access so that other operators can offer them alternative call services. None has yet done so.

1.8 IA for mobile networks could give their customers a choice of suppliers of call services and possibly a wider choice of value-added services. At present, when a mobile network customer wishes to make a call, for example, to a BT customer at the other end of the country, he or she dials the number and the mobile network operator arranges for the call to be handed over to BT at a convenient exit point from its network. BT will carry the call to the exchange which serves the called customer and deliver the call (‘call termination’). This is shown in Figure 1.

The call will be billed to the caller by the mobile network operator (in the case of most customers of Orange or One2One) – or by the intermediary service provider (for most of the customers of Vodafone and Cellnet).

1.9 Out of the price the caller pays, the mobile network operator will pay BT for the costs of transporting the call through its system and for delivering it. The mobile network operator could decide to use another operator (a carrier operator providing long haul circuits in competition with BT) to convey the call across the country (‘transit conveyance’) until the call reaches a convenient point for this other carrier operator to hand it over to BT (who will in any case have to deliver it, since the called customer, in this example, is a BT customer). This is shown in Figure 2.

1.10 In both Figure 1 and Figure 2 arrangements, the mobile network operator makes all the decisions about how the call is conveyed. The calling customer has no choice and pays the price set by the mobile network operator.

1.11 With indirect access, the calling customer would have choice. He would dial an access code belonging to the indirect access operator (typically of four digits) before dialling the number of the person he was calling in the usual way. The mobile operator’s switch would use these access digits to route the call to the indirect access operator’s system, which at the minimum would include a switch. The indirect operator’s switch would route the call on to the called person, using the best route (in this example BT, since the call is for a BT customer). This arrangement is set out in Figure 3.

1.12 Under this IA arrangement, the calling customer would have a contract with the indirect access operator allowing him to use the IA operator’s four digit access code in this way so that the call’s conveyance and delivery would be organised by the indirect access operator (instead of by the mobile operator). For these diverted calls, the calling customer would be billed for the complete call by the indirect operator, not by the mobile network operator. Out of the price for the call paid by the calling customer, the indirect operator would pay:

• the mobile operator for the use of the mobile network in collecting the call – call origination;
• the charges of any alternative carrier used for conveying the call from the mobile network to the indirect access operator’s facilities (and on from there to the exchange which serves the called customer) – transit conveyance;
• himself for his own costs; and
• BT, in this example, for the final delivery of the call to the called (BT) customer – call termination.

1.13 This is the simplest example of a straightforward call to another UK number. The same basic arrangements would apply if the customer wanted to use an alternative provider of call services for international calls. Alternative suppliers on these calls have greater scope for making attractive offers since there are more links in the chain of communication where they can seek to be more efficient than the mobile network operator. The customer would have a choice from amongst the many UK-based international carriers who advertise extensively their capacity to carry customers’ calls abroad. In the absence of IA, the mobile network customer cannot choose between these alternatives, the choice is made by the network operator – and the charges are set by the network operator or his service provider.

1.14 IA could also offer mobile customers wider choices of value added services in terms of a greater range of choices of service providers offering the services and in terms of the way the services are packaged, especially how they are charged for. At the present mobile customers can only access these services via the mobile network operator and accept whatever packaging the network operator (or his service provider) supplies – and pay whatever price they set. With IA, the customer could be offered alternative packages. The IA operator would be handling the call once it left the mobile network and would be responsible for billing the customer for the call. The operator would therefore be able to offer alternative packages of services, with alternative tariff structures, possibly tailored to the customer’s specific needs. For instance, the IA operator may offer voicemail services as alternatives to those provided by the network operator and charge for them on quite different bases.

1.15 IA can thus provide two types of potential benefits for mobile network customers. The first is lower retail prices to the consumer. How much lower depends on the charge paid by the IA operator for the use of the mobile network in collecting and transferring the call. If the charge is based on costs, the potential reductions could be large. If the charge is based on the retail prices, the reduction will be much smaller. If network operators decided to compensate for lost call revenues, they might raise the monthly subscription charge. The second is choice: IA widens the range of providers of calls and services customers can use and hence the way services are offered, including the ways they are charged for.

1.16 The prices of calls from mobile networks are generally perceived as high. The question Oftel must therefore consider is whether this results from some failure in the market place which is preventing prices’ being driven down towards costs. Oftel expects prices to fall as network operators become established, recover the initial investment costs of the early, loss-making, years and start, increasingly, to compete on prices as well as on other features of their services. Once networks are fully established, Oftel expects retail prices to be driven down by competition towards the cost levels of efficient operators.

1.17 Oftel has been studying the competitiveness of the mobile market over the last year. There have been significant changes in the market in this period. Oftel’s initial conclusion is, however, that at the present the market is not yet effectively competitive. This is discussed in detail in the parallel consultation document Competition in the Mobile Market.

Nevertheless, the analysis suggests that the market is becoming increasingly competitive. The evidence of increasing tariff innovation, of the take-off of pre-payment mobile services and of price competition in that part of the market, and the introduction of number portability from 1 January 1999, support this initial conclusion. This means that Oftel will expect retail prices to move down progressively over the next years.

1.18 As the mobile market is developing so fast, in Oftel’s view there is clear advantage in seeing how it develops over the next year. However, if in the event the rate of increase in competitiveness turns out to be insufficient to reduce excessive prices, Oftel will review its conclusion. As set out in the parallel consultation document, Oftel will be monitoring the mobile market - including assessing pricing trends and behaviour and will review its competitiveness again in 2000. If Oftel concluded that prices remained persistently high in relation to cost and that there was a need for intervention, then Oftel would review the remedies available to it.

1.19 Indirect access could be one way of remedying excessively high prices. To be fully effective, the charge paid by the indirect access operator would have to be based on costs with an appropriate return on capital. This rate is known as ‘cost plus’: it is the basis for the charges BT makes for indirect access from its network. However, Oftel would explore other remedies: in particular the merits of a formal price control using the RPI-X formula.

1.20 Mobile network customers may be disadvantaged by the absence of other choices. At present, as the diagrams in Figures 1 and 2 demonstrate, the calling customer relies without choice on the arrangements made by the network operator for handling calls. The customer buys a complete end-to-end call which is routed and charged for as the network operator decides.

1.21 This absence of choice is particularly apparent in the market for international calls. The only way the mobile network customers can exercise choice in the way they obtain international calls (or any calls) is by changing operators. There is no freedom for the customer to exercise choice on a call by call basis. Even although number portability has now been introduced between mobile networks, there are still costs for customers who want to change networks.

1.22 This restriction of choice is repeated in the market for inland calls. Oftel believes this is damaging to the interests of consumers since if other pressures in the market place drive down the cost of these calls, mobile customers still remain tied to their network operator (or their service provider) and have to buy a fixed package of call services. They cannot by definition exercise choice on a call by call basis in the way open to BT’s fixed network customers. Oftel believes that in a market where competition is not yet fully effective, such choices should be equally available to the customers of the mobile networks which have market power. Oftel has therefore considered if there could be a way of providing indirect access for mobile networks which would not have as strongly interventionist an effect as IA charged on a cost plus basis. This is possible by introducing IA at retail-minus (that is: with the charge for the use of the mobile network set at the retail price less the cost of the elements of the service to be provided by the indirect access operator).

1.23 There is a further reason for widening the choices available to consumers. In the absence of a choice exercised by the consumer, network operators have the power to select, or de-select, the carrier operators who carry their customers’ calls when they leave the mobile network and are conveyed on to the network serving the called customer. This is a significant power, especially when the calls are high value international calls. The mobile market is growing very quickly: future projections are for large increases in the numbers of customers using mobile phones and further growth in the absolute scale of mobile-originated calls. There are only four networks from which this mobile call traffic can be generated. Hence, this growing traffic is of increasing importance to the carrier operators; the loss of a mobile network’s business is of potentially major significance and gives the mobile networks a powerful bargaining position. This power would be reduced if the mobile network customers were free to use IA to choose alternative carriers to carry their calls.

1.24 Oftel’s initial conclusion is that IA to reduce prices is not currently justified. However, Oftel also concludes that without IA (at retail minus) choice is artificially restricted.

1.25 In Oftel’s view there are three Options. These, and the arguments set out briefly above, are discussed in detail in Chapters 3 and 4. They are:

Option 1: The outcome sought in the dispute by the applicant operator: indirect access at interconnection rates (that is: at costs plus a reasonable return on capital employed: ‘cost-plus’). This would be one way of dealing with a sustained failure of the market to reduce prices where there is little prospect of effective competition.

Option 2: Refusal of the application for indirect access. Since Oftel believes that choice is artificially restricted, this is not an appropriate solution. It is also likely to be unsustainable in terms of the obligations on mobile operators to negotiate interconnection, which includes indirect access, under the Interconnection Directive.

Option 3: Oftel’s proposed approach for discussion is the imposition of an obligation to supply indirect access – at retail prices less any cost savings which arise because the network operator is not supplying the whole of the end-to-end connection of the call (‘retail-minus’). Oftel believes this solution would be consistent with the Interconnection Directive.

A detailed assessment of these Options against the ICD criteria is set out in Chapter 2.

1.26 Oftel is putting forward these proposals and conclusions in order to stimulate discussion and contributions from consumers and industry.

2.1 There are four main features to the framework for decisions:

• the requirements of European legislation (and in particular the criteria set out for the resolution of disputes);
• the historic background of how mobile networks and services have developed and been encouraged in the UK;
• the practical structure of a mobile telephone call and the varying potential for the elements required to complete it to be opened to effective competition;
• a brief overview of practice in other countries.

2.2 Under the Interconnection Directive (ICD), IA is one of the services for which in principle mobile network operators are obliged to negotiate with other qualifying operators. The ICD is part of the European legislation designed to promote competition in telecommunications services across the European Union. The ICD recognises that there may be disputes between organisations on the extent of their rights and obligations and includes provision for national regulatory authorities (NRAs: in this context of IA for mobiles, in the UK this is Oftel) to resolve disputes. It provides a set of criteria for the NRAs to use when assessing disputes. These are quoted in full in Annex A. The criteria are not all equally relevant to particular disputes. In this section, Oftel considers those that are most clearly relevant to the dispute on IA for mobiles and sets out its initial conclusions. Oftel welcomes comments on the evaluation of how these criteria apply.

2.3 The first of these ICD criteria is "the user interest." This criterion is of especial relevance in the case of this interconnection dispute since indirect access has, potentially, such immediate impact on the choices and prices available to calling customers. The criterion corresponds to Oftel’s stated goal – to deliver telecommunication services to end users giving the best choice, quality and value for money. In reviewing the IA for mobiles dispute in the light of this criterion, Oftel’s consideration takes account not only of the immediate benefits to consumers but also of the longer-term benefits. IA for mobile networks at cost plus rates could lead the way to reduced prices for calls from mobile networks. Oftel has to consider, however, whether there is any need to intervene in the market place to achieve such reductions; and, if there should be a need, whether IA is the best way of meeting it. Oftel also has to consider what would be the impact of reductions in retail prices derived from mandating IA in the future and to assess the risk that this might reduce the scope and strength of existing and future network competition, to the longer term disadvantage of consumers.

2.4 In the context of the dispute on IA for mobiles, possibly the next most significant of the ICD criteria in Oftel’s view is "the promotion of competition." This is also one of the duties placed on the Director General by the Telecommunications Act 1984 – and is one of Oftel’s key objectives for achieving its goal of choice, quality and value for money. Oftel has set promoting competition as the prime route to ensuring that consumer interests are best

served: trusting to market forces rather than regulation wherever possible. Oftel will wish to be sure that the longer-term future of competition is secured.

2.5 A third ICD criterion focuses on "the desirability of stimulating innovative market offerings and of providing users with a wide range of telecommunications services at a national and Community level." This again corresponds with Oftel’s established goal of delivering choice. As has been set out in the summary of the Options, Oftel is concerned that a straight refusal of the request that mobile networks should be under an obligation to supply IA could have the effect of seriously restricting choice. This concern is the driving force behind Oftel’s interest in pursuing the approach of Option 3.

2.6 The fourth of the ICD criteria to be considered in this context of IA for mobiles requires the NRA to take account of the "relative market positions of the parties." The current dispute appears to be between a small newly-founded operation seeking a service from a well-established and powerful major operator. However, the principle of non-discrimination (or no undue discrimination) means that if the mobile network operator involved in this dispute (who in this case has market power) is required to supply IA to one other operator, IA must be supplied to all other operators who qualify under the ICD as Annex II operators. Some of these are much more powerful organisations than the operator registering this dispute.

2.7 In reaching its decision on IA for mobiles, Oftel has to consider the framework of regulation against which the mobile market has developed in the UK. In particular Oftel has to consider the expectations of those who have invested in building up networks under a given set of conditions which Oftel’s decision may change. The investors in the mobile networks will have built their plans in a context that did not include indirect access. Regulators have to consider what impact changes in the regulatory framework may have on security of investments undertaken in the context of an existing framework and whether that impact may introduce uncertainties that will discourage investment in new services, and new or expanded networks.

2.8 Conversely, the mobile networks do have access to scarce resources – the radio spectrum. This restricts the extent to which they face further competition for customers from rival mobile network operators. The first two to be licensed – nearly 15 years ago – enjoyed a duopoly for a number of years and have strong market positions: as a consequence Vodafone and Cellnet have been determined as having significant market power under the ICD.

2.9 In assessing the benefits that IA may bring for consumers, Oftel has identified three distinct parts to a mobile call – each presents different opportunities for competitive supply and hence for extending consumer choice through IA. These are:

a)  The mobile network itself – the elements used in the transmission of the call that can only be provided by the network operator and which cannot be substituted by the IA operator’s own resources.

b)  The remaining elements of the call’s transmission and conveyance between caller and called when the call has left the mobile network – these are the elements where the IA operator is able to use its own resources, or other carriers’ facilities, in place of those used by the mobile network operator.

c)  On some calls, the value added service which the caller wishes to reach at the end of the call’s transmission through the networks.

Annex C considers each of these elements in turn.

2.10 Oftel has taken soundings in Europe and from other key telecommunications countries on how far and under what conditions IA for mobile networks is already mandatory. The pattern is very mixed – particularly across Europe and the Members of the EU. In some countries, mobile network operators are already required to provide IA to other operators. In some cases at present the IA obligation for mobile networks applies only to international calls. In some countries – probably the largest category – the issue is currently under active review: in some cases, as in UK, as a result of requests to the NRA to determine the issue. Others have registered IA for mobiles as an important issue to be addressed as soon as priorities permit. NRAs have signalled their strong interest in this consultation document and its outcome.

3.1 This chapter reviews the arguments for and against the Option requiring mobile network operators to negotiate indirect access at cost plus terms.

3.2 The chief immediate benefit of IA for mobiles anticipated if this service becomes mandatory is the assumption that the service would be available at cost plus charges covering only those elements of the calls which have to be supplied by the network operator and cannot be substituted by the IA operator. These are, primarily, the collection and conveyance of the call over the mobile network operator=s system. There would be considerable scope for undercutting the mobile network operator’s retail prices if IA operators were able to buy the use of the mobile network itself at charges that reflect only the direct costs of call origination.

3.3 Potential IA operators contend that cost plus IA would open up the market to wider choice and lower prices for consumers of mobile services. Access to cost plus charges for IA for mobile networks (and hence to a margin – known as the arbitrage margin – between these charges and retail mobile call prices) would be an important factor in the future development of their businesses and their future ability to serve customers. IA at cost plus would provide the cash flow and profits which could fund the expansion of their systems and their achieving marketing mass. They expect these new services to be self-sustaining and capable of holding their own in the market place once they have been allowed to develop, without needing a permanent prop from the arbitrage opportunity.

3.4 Arguably, the network operators would resist IA operators’ taking over the provision of call services to their customers – by reducing retail call prices. Thus the reductions in call prices from competitive pressure for one set of consumers would be extended to all mobile call makers, including those with no intention of or opportunity for using IA operators’ services.

3.5 This reduction of call prices would not only be retaliation against the indirect access operator’s price reductions. At the same time it would impact the other network operators, by attracting their customers. To protect their market shares, therefore, all the other mobile network operators would also have to take account of the reductions in their competitor’s retail call prices. Thus reductions of retail prices on one network could be reflected across the entire market and by all the network operators. This would hold whether or not any other network operators were obliged to provide IA services.

3.6 There are two points in the value chain of mobile calls where the IA operator will replace the network operator’s services with his own (see Annex C paragraph 2 for details). On the first, retailing costs, the IA operator will seek to provide (or buy in from others) the ancillary services needed for any call – such as marketing and billing – more cheaply than the mobile network operator or its service providers. The scale of the reductions in cost (and hence potentially in prices) can only be put to the test if IA is required of some of the mobile networks.

3.7 The IA operator can also seek to compete on efficiency of provision of the transmission path for the calls (once they have left the mobile network). It will hope that in substituting its own facilities (or obtaining the use of other operators’ facilities more economically) for those used by the mobile network operator, it will have lower costs: and a margin to pass on to the customers who join its service. The opportunities are identified in Figure 3 for inland calls. They are greater for international calls (see paragraph 1.13). Here again, only experience can test how real may be the advantages that can be obtained by the IA operator over the network operator. The indirect operator would have to be that much more successful in that for some – possibly most – calls it has to fund the additional switching and transmission required to divert the call to its facilities (see the different topographies of Figures 1, 2 and 3).

3.8 It cannot be proved that IA operators will be able to create a lower cost base by virtue of substituting their own elements of call conveyance for those of the network operator that are substitutable. Only experience will demonstrate this. It would however provide a challenge to network operators and a further incentive for them to achieve greater efficiency and improved quality, with consequent reductions in costs that can be passed on to customers.

3.9 Potential IA operators assume that they will be able to put together packages of services using mobile calls that are cheaper or more attractive than those calling customers can obtain for themselves or via their network operator or service provider. As in the other cases of potential reductions in costs, the fact that IA increases the range of choices of services and of suppliers of services should itself generate more intense competition in the provision of services. IA will allow those service providers who qualify as operators to market their services directly to the mobile network’s customers. There may be only limited scope for IA operators to innovate in terms of the services which they provide (see Annex C, paragraph 3 for discussion). However, they would have one advantage over the network’s service providers: greater scope for innovation in the way services are packaged. This applies particularly to the setting of prices as part of the package. They decide their own prices and thus have greater flexibility than is available to the network service provider whose tariffs are set by the network.

3.10 Indirect access for mobile networks would introduce a new dimension to competition in services not available under the present regime. The mobile service providers, whether tied or independent, cannot do more than resell the end-to-end call services supplied by the network operator. For instance, on an international call the mobile network operator has decided which UK carrier to use to take the call from the mobile network to the international switching centre and which international UK operator to use to take the call abroad. In making a choice of international operator it is able to choose on the basis of the charges for particular types of call as offered by the international operator. The service provider has no hand in this selection. The customer has no influence on these choices, either. If the customer is dissatisfied with the network operator=s selection, the recourse is to transfer all his custom to another mobile network operator: but, once transferred, there is no further ability to choose, call by call.

3.11 IA for mobiles would empower the customer. Once having established a contract with one or more IA operators, the customer decides, on a call by call basis, whether to leave the call to be routed by the network operator or to hand it to the IA operator. Oftel would expect there to be a great deal of competition between IA operators on mobile networks – mirroring the wide range of choices now available to BT's customers for the alternative provision of international services through indirect access. From these choices – for international calls – there would be a reasonable prospect of reductions in total costs and hence of retail prices for mobile calls for IA customers.

3.12 The IA operator would aim to achieve similar savings (if on a smaller scale) on inland calls. Again offering the mobile customer the opportunity to find alternatives to the standard tariffs offered by the network operator, or his service provider, on a call by call basis.

3.13 In addition to allowing customers to pay an alternative network operator to carry some of their calls, IA would also allow independent service providers to include such alternatives within the airtime contracts offered to their customers. At present, service providers are restricted to reselling the end-to-end calls supplied by the network operators; with IA, the service provider could market, supply and invoice for calls originating on the mobile operator’s network and carried on the network of a third party operator. Mobile service providers who have qualified under the ICD to be treated as network operators in their own right could establish the call path themselves. Other mobile service providers who do not qualify in this way could establish co-operative ventures with those who do qualify as network operators; the customer relationships established by mobile service providers are likely to be attractive to many network operators as a way of marketing IA calls.

3.14 In addition to offering alternative, cheaper calls, mobile service providers may also choose to offer their customers value added information services and call management facilities such as mailboxes. These services are already offered by a large number of independent companies, including mobile service providers. However, the cost of accessing these services is, generally, determined by the mobile operator who supplies the end-to-end call from the mobile handset to the source of the information or facility. With IA, the independent mobile service provider can arrange for calls to such services to be carried by its own network or by an alternative carrier. Oftel believes that that this new freedom may stimulate the development and promotion of new value added services.

3.15 There is clearly a case to be made for IA in terms of an immediate potential benefit to consumers; but this is not the only way of achieving these benefits. Oftel must also take account of how a substantial change to the regulatory framework might affect the industry and the prospects for future investment. This includes taking account of legitimate expectations and their readiness to continue to invest in the systems that underpin the services. Oftel must consider if mandating IA on the existing networks will influence decisions made by investors in new systems and particularly those interested in bidding for the spectrum for 3^rd generation services.

3.16 Retail call prices from mobile are currently high. Competition between networks produces competition across the board – not solely on call services. Oftel believes that such competition is already developing: the evidence for this is set out in the parallel document Competition in the Mobile Market. It also considers that this is the best way longer term of ensuring the continued steady reduction of mobile retail prices of all kinds. IA, by contrast, focuses on the reduction of call tariffs only. Depending on the way charges for IA are to be fixed, it could have powerful short term effects (whilst, for instance, re-seller IA operators capitalise on the short term exploitation of the arbitrage margin between retail prices and the costs and charges they face) which may not last.

3.17 Oftel will set up monitoring systems to measure developments in retail prices and pricing behaviour as one of the major factors in testing the competitiveness of the mobile market. Oftel will revisit the question of what would be appropriate action if the analysis suggests retail prices no longer indicate expanding effectiveness of competition in the mobile market. IA at cost plus would be a possible solution.

3.18 IA concentrates its retail price effects on reducing call tariffs. Calls are one part of the prices paid by consumers. In looking at IA as one of the possible solutions, Oftel must consider the likely network operator response to loss of call traffic and its revenues and profits to IA competitors. The likely response in the call market is that network operators would themselves respond by cutting call prices. However, Oftel should also consider their likely reaction on other prices. Oftel would expect network operators to try to make good any loss of revenue by raising their other tariffs. Nothing, in the absence of continued pressure from the market place, would prevent the network operators from seeking to recoup some of the lost income (and profit) by raising monthly subscription rates.

3.19 The use of such compensating measures might be restrained by the market place. Network operators would fear that the first to raise subscriptions would face serious defections to other network operators. However, since all will be facing pressures to reduce their call prices (see paragraph 3.5), all will have the same incentive to compensate by raising subscriptions. The end effect could be that for customers of all the networks, the apparent benefit from an IA-inspired reduction in call prices would be partially offset by increases in subscriptions.

3.20 Oftel’s conclusion for consultation is that it is inappropriate at present to introduce IA if the sole objective of doing so is to deal with the perceived high retail prices of mobile calls.

3.21 Given the implications of IA at cost plus, Oftel is not convinced that it should introduce IA to reduce the price of calls from mobile networks. If Oftel's preferred approach – allowing the forces of network competition to drive down retail prices of all elements of mobile services – does not prove effective, then Oftel's primary recourse would be to propose an RPI-X price cap. This aims to apply, across the board, the same pressure that should otherwise come from the market place. A price cap has advantages over the use of IA. It leaves the network free to respond by accepting a squeeze on its profits from reduction in revenue – or by finding ways of improving efficiency to maintain the margin between costs and revenues. The RPI-X approach has the further advantage over IA that it can be designed to provide reductions in all retail tariffs – for instance to cover subscription charges as well as call prices.

3.22 In addition, a price control also guarantees that end-users will benefit to the full extent of the RPI-X control. There is no guarantee with IA. IA leaves the industry to decide how far and fast the arbitrage margin is transferred to the customer rather than retained by the IA operator. In addition, IA introduces an extra stage in the path the call travels to reach its destination (see Figure 3 compared with Figure 1). This has to be paid for and is an in-built inefficiency.

3.23 Whilst IA can pave the way for increased choice for consumers in terms of value added services, it cannot guarantee the extent to which the potential for innovation and new opportunities will be realised. If the network charge is set at cost plus rates – significantly below retail prices – then many IA operators may enter the market in order solely to resell the basic service, with no commitment to investment in more than minimal systems and services, and with no long term commitment to the development of the services or market. There is a risk that the revenues lost to such cut price operators will be reflected in investment lost from the improvement of the system and the development, through the network, of new services.

3.24 It is also arguable that if there is a viable market for the additional services, then customers will take the services up even without the short-term attraction of reduced call prices. On this basis – that there is demonstrable customer demand – it should be equally arguable that the network operators would also have a commercial interest in meeting this demand – and hence in offering these independent service providers IA (but not necessarily at cost plus charges). However this argument discounts the possibility that network operators might have corporate reasons for wishing to avoid helping such independent service providers. Without IA this would mean that their services would have to win their market at prices which included access at full retail tariffs, without any reduction for elements of the service where that IA operator substituted his own arrangements for those of the network operator.

3.25 For the network operators, the immediate effect of IA at interconnect rates would clearly be a loss of revenue and profit. For each IA call, the income received would no longer be the retail price but the charge for the use of the mobile network set, in this Option 1 context, on the basis of the direct cost. The network operator would save on some costs. It would have reduced expenditure on retailing and would not have to pay other carriers and operators for the conveyance and delivery of the call beyond its network. These costs would now be incurred by the IA operator. However, the network operator would also lose the profit opportunity of the retail calls. The charge for the use of the network would include all relevant costs and a return on the relevant capital employed at an appropriate rate specified by Oftel (as proposed by the MMC in its report on the Calls to Mobile reference this is as 16.5%.) The network operator is not therefore penalised – it makes a reasonable return on its capital involved in handling the call, but this is the limit of the profit.

3.26 There would be a further effect related to the response the network operator makes to the new challenge. If the network operator reduces its retail call tariffs to counteract the lower prices offered by the IA operator, the volume of lost traffic reduces and some of the retail profit on calls is preserved. But this will be at the cost of reducing revenue and profit on all calls where it seeks to counter loss of traffic. (As noted in para 3.19, the network operator may be able to offset some of this loss of revenue and profit by raising the subscription charges).

3.27 The scale of the effect on the finances of the network operators depends on two factors – the traffic lost and the income given up by reductions in prices on the retained traffic. External forecasters are broadly optimistic about the future of the newer mobile operators in the absence of IA. Oftel has investigated the effects on the newer networks of mandatory IA at cost plus on one of the other networks, on the assumption that competitive pressure forces the prices of all operators down to this level. It is clear that the effect is potentially significant, particularly on the two newer networks, and could delay those networks’ profitability for several years.

3.28 Oftel sees network competition as one of the key factors in delivering choice, quality and value for money to consumers. It has therefore to take into consideration how far the introduction of IA at particular rates of charge (or any direct regulatory intervention to reduce call prices) may affect investment plans and lead to a slowing down in the rate of development of network competition. It has to be particularly concerned to avoid action that may mean that the newer networks do not have the resources to develop their networks in depth or their services to provide effective competition at both levels. However, the conclusion from the analysis of the mobile market is that direct intervention is not currently necessary since network competition is expected to deliver reducing prices.

3.29 Oftel also needs to take into account the effect of any diminishing of expectations for the four existing mobile network operators on the readiness of investors to back the 3^rd generation mobile system (‘3G’). This applies both in terms of bidding in the auction for spectrum in 1999 and in terms of investing in 3G systems by those that are successful. This longer term view is particularly important for customers since 3G will provide the opportunity for the launch over mobile networks of services at present only available on fixed networks:

• video telephony and video conferencing;
• high speed Internet access and electronic mailing,
• interactive user services such as on-line banking and shopping,
• entertainment, such as audio or video on demand and video games.

3.30 These potential new or enhanced services are likely to be important not only to consumers but also to UK commerce and industry. The first commitments by investors will be when they bid in the auction for spectrum. Further committed investment will follow as soon as the auction is held. The target date for the rollout of the networks is 2002/3. A clear understanding of the policy on IA for mobiles – and the charge for it – is evidently an important input for those who have to make these financial commitments.

3.31 Oftel's preliminary conclusion is that the balance of the arguments is against

Option 1. Oftel believes that the need for IA at cost plus as the best way of advancing consumer interests is not demonstrated. Oftel’s present view is that there is likely to be more benefit to consumers if the present competition pressures between network operators are allowed to develop. IA at cost plus would clearly also have implications for investment in present and future networks. Oftel will continue to monitor the competitiveness of the mobile market. If, contrary to Oftel’s expectation, the result of a future review suggests that tariffs for retail calls from mobile are persistently too high, or any other retail mobile service tariffs, then Oftel will consider appropriate action.

3.32 Expanding competition is already in evidence in latest market developments. Oftel believes that customers longer-term interests would not be well served by slowing these developments by introduction of IA at cost plus rates. There may be immediate consumer advantages that will be foregone if IA is not available at cost plus rates – but they cannot be guaranteed and may be only short term. Nevertheless, Oftel has not come to a final view on the balance of advantages and welcomes views from interested parties on the arguments set out above and the balance of longer-term consumer benefit. The rest of this document investigates the arguments for maintaining the existing situation (where IA could be agreed between operators but in practice is not (Option 2) and explores a third way (Option 3), designed to capture some of the benefits of IA whilst avoiding the problems.

4.1 This Chapter reviews the arguments for and against Option 2 – the continuation of the present situation – where it is possible for mobile network operators and other operators to negotiate indirect access but in practice no network operator has yet agreed to provide this service. It notes that no change would mean denying consumers the opportunity of further choices and concludes that if a way can be found around the difficulties of Option 1, then some form of indirect access could be desirable. The chapter therefore explores Oftel’s Option 3 concept and seeks views on whether it can be developed into a workable solution.

4.2 The prime argument in favour of Option 2 is that it would be premature to intervene with new regulation at the point where competition appears to be emerging – and could be counter-productive. There is the further argument that not intervening avoids the risk of jeopardising continuing investment in networks. The underlying justification is that continued investment is the best way of ensuring healthy competition between networks in the future – which is one of the fundamental pre-requisites of service competition and hence of future benefits to customers. This is backed by the argument that under Option 1 the potential benefits of IA are not guaranteed (see paragraphs 3.23 and 3.24) and that if some of the benefits are required – such as lower retail prices – and competition is insufficient to deliver them, then there are better ways of securing them than IA.

4.3 The prime difficulty with Option 2 is that it has the effect of leaving further development of choice for consumers and innovation in services and in charges largely to the network operators and their service providers. The service providers are governed by the conditions under which they are able to secure airtime and re-sell it to the end user customers. These restraints limit the range of services and innovations they can initiate. Service providers believe that there are choices and packages that could be offered to customers if they could expand the relationships they have with customers to form the same direct relationship with them that the IA operators on BT's network can form with their customers.

4.4 There is a risk, which Oftel must consider, in the light of the ICD and the criteria to be used in resolving disputes, that the absence of IA will foreclose opportunities to enlarge competition yet further at the service level. The essential need is therefore to find a way of allowing these opportunities to be developed whilst avoiding the disadvantages that are outlined above.

4.5 Oftel believes there is a solution which will allows indirect access but avoids inhibiting investment. The key problem with Option 1 lies in the expectation that the IA charge would be set at cost-plus rates, as it is for BT's fixed network. This could damage network competition, and encourage the entry of IA operators who have no serious intention of developing new services and are unlikely to have a long term commitment to customers. Conversely, Option 2 shuts the door on promising possibilities of alternative choices for customers.

4.6 The resolution of both these problems lies in finding a rate for IA which allows the development of choice, but is neutral in terms of its effects on the revenues of the networks on which IA operators, service providers and customers depend. This would allow IA to be made obligatory but without damaging network competition, whilst opening up opportunities for genuine new service providers who have more to offer customers than cut-price calls.

4.7 Oftel believes that such a rate for IA can be devised by starting from the premise that the charge for IA should not be based on adding up the direct costs of call origination but on subtracting from the retail price the cost elements that the mobile network will not incur on IA calls. This is the ‘retail-minus’ approach. On IA calls, the network operator will not have incurred any retail costs; the selling and billing expenses will fall on the IA operator. Similarly, the network operator will no longer have to pay for the cost of conveyance and delivery of the call beyond the mobile network. These will be arranged and paid for by the IA operator. These are the main elements of cost that would need to be subtracted from the retail price to arrive at the retail minus charge for IA. There may be others examples: Oftel would welcome views on what other costs might be deducted under this approach.

4.8 This approach removes the barrier to entry caused by the current absence of IA for mobiles - whilst allowing the network operators to retain their retail price structures, without their being undercut by re-selling operators. Obliging network operators to provide IA would open up for consumers the range of alternatives that the IA operators believe they can offer. This would test the claim that they will be able to offer lower prices based on more efficient operations than the network operators and their mobile service providers: more efficient marketing and billing, keener purchasing of conveyance and delivery of calls beyond the mobile network. It would also test whether there are packages of further services that the IA operators can add to the basic conveyance that will be attractive to customers – enlarging the range of choices available to them beyond the offerings of the mobile network operators and their service providers. This would be a true market test in that these new services would stand or fall in the market place on their own merits – without any artificial support from the arbitrage margin between the network operator's retail price and an IA charge based on cost plus.

4.9 Oftel seeks views on the appropriate retail charge from which the costs should be deducted. Retail minus has to be translated into practical implementation. Oftel has identified three possible solutions out of the range of possible ways in which the base retail price could be fixed. These are discussed in greater detail in Annex B.

4.10 In brief, the first possibility – Alternative A – is for a single representative retail minus charge. This would be selected after consideration of proposals put forward in consultation as to which single price would be best selected. Alternative B considers selecting a number of representative retail call prices and striking an average to provide, again, a single IA charge.

4.11 Whilst Alternative B addresses some of the problems of over-simplification of Alternative A, it still requires selection of the prices to be averaged and a method for calculating the average. Both Alternatives A and B also present the problem that they may distort the market. For some types of call they will discourage IA operators from entering the market because (even although the true combination of costs and charges on these calls should be lower that the costs to the network operator), the single, averaged, charge overrides the true costs and raises the IA operator’s total costs to a level which means it cannot compete. Conversely, on other types of call, the true combination of costs and charges to the IA operator ought to be higher than the costs to the network operator but the single charge makes them lower – so that the IA operator is able to complete where it is not in fact more efficient.

4.12 Oftel’s proposal tackles this problem of the distortion that arises from seeking to apply a single network charge which covers all service when the retail prices vary according to the type of call. This is Alternative C – which is based on each type of call having its own IA charge, which varies in line with the variation in the retail price. This is explained in Annex B. It means that the IA charge for the use of the mobile network reflects the value of the call to the caller. Each type of call will have its own pattern of costs for elements which are no longer provided by the network, these are deducted from the retail price for that type of call. What is left is what the IA operator pays as the charge for the use of the network. He adds his own costs for the elements he supplies in place of the network operator. The resulting total cost is the basis of his own retail price. This is now directly and fairly comparable with the network operator’s price for the same service. If the IA operator is more efficient his price will be the lower. The resulting charge thus gives the right signals to the IA operator as to the types of call where he can compete effectively and fairly with the network operator, directly reflecting his skill in providing those parts of the call which he now substitutes for those formerly provided by the network operator.

4.13 Oftel welcomes opinions and suggestions on how the questions posed by the design of a retail minus charge – especially one that varies by type of call, can be resolved.

5.1 The discussion above has concerned the principles of applying IA to mobile networks. This Chapter reviews the questions: which networks should have the obligation if there is to be one? Who should have rights to IA? And what numbers are to be used to set up IA calls?

5.2 The dispute which Oftel has to address concerns one of the two networks determined by the Director General as having SMP in the mobile network markets. Any determination made in response to the dispute will be specific to that network; it would not automatically apply to the other SMP network. However, in the event that the Director General determined one network should be required to negotiate agreements that included provision of IA services, then Oftel would expect the other SMP network to take account of this determination in dealing with any requests it may receive for IA – although it would have no formal obligation until the Director General had made a determination.

5.3 The further question is: should the same obligation apply to the two newer networks whilst they have not reached a position of market power? As set out in paragraph 3.5, the effects on these networks financially will be substantially the same whether they have an obligation to supply IA or not. The scale of the financial effect will depend on the terms of any obligation. In either case, the two newer operators would have to react to the market prices, even without an obligation applying to them.

5.4 For this reason, there is unlikely to be any significantly different effect on prices paid by mobile customers from giving IA operators the right to have IA from the newer operators as well as the two longer established networks. This would have the effect of extending to the customers of the newer operators the wider choices that would be available to customers of the other two networks (without having to changing networks to secure them); and would give the independent service providers who qualified for IA the widest possible combinations of network and call services to offer to customers. On the other hand, whilst the financial effects may not be much different, there would be marketing and customer relations effects that Oftel would have to consider. One of the key results of IA is that the IA operator has a direct relationship with the mobile operator’s customer for the provision of call services. This relationship is much akin to the relationship of the service provider with the customer – although the IA operator will have greater flexibility in packaging his services. Where the customer is a direct customer of the mobile network, however, the introduction of IA would bring a major change in that the customer would be able to develop a relationship with an intermediary – independent of the network operator. Most if not all of the customers of the two newer networks are direct customers, their preferred route to market.

5.5 Oftel has taken the view that whilst the newer networks do not have market power, it is unnecessary for them to be obliged to provide access to their networks to other providers. This is the essence of the decision taken by Oftel to remove the obligation on them to supply service providers with airtime. In Oftel=s view, if there is a need for IA on these networks, then the same competitive forces of the market place will require IA of them, without need for an obligation. Conversely, during this period of establishment when they do not have market power, these networks should be free to adopt such commercial policies as they believe best meet their corporate objectives. They should not therefore be required to provide IA but should be able to retain the direct control of their customers if this is their commercial and strategic choice. The introduction of number portability on mobile networks will of course remove one, but not all, of the barriers to customers’ transferring to other networks if they find they need to take advantage of the choices IA offers.

5.6 If Oftel=s eventual conclusion at the end of this consultation is that IA should be provided by some of the network operators, then all operators who have rights to interconnection will be able to seek IA. The approach Oftel intends to take in deciding who has these rights – who is a Schedule 2 operator in term of the Regulations implementing the ICD (Annex II operator in terms of the ICD) – were set out in earlier consultation document on implementation of the ICD. A Statement on this will be issued shortly.

5.7 The original request for dispute resolution included not only determination of IA provided by means of short code access digits but access via 0800 numbers owned by the IA operator. This request for dispute resolution has been withdrawn. In the event that the Director General finds in favour of short code access IA for mobiles, where indirect access is via 0800 numbers, Oftel would expect the same terms and conditions, as to charges in particular, should to be applied as appropriate to such 0800 calls.

6.1 Oftel would welcome comments on any of the issues discussed in this consultative document. Specifically, it is looking for views on the following:

• Oftel’s evaluation of how the ICD criteria should be applied in resolving this dispute over IA for mobile networks.
• Oftel’s conclusions on Options 1 and 2.
• Oftel’s initial view that Option 3 should provide the solution.
• The definition of possible ways of implementing IA for mobile networks – and in particular the three alternative approaches identified under Option 3 (set out in greater detail in Annex B).

Alternative A – a single representative charge.

Alternative B – a single charge derived as an average from a number of representative charges

Alternative C – individual charges for each type of indirect access call.

• Proposals on what other costs might be deducted under the retail-minus approach.
• Practical solutions which can be devised to develop a workable system for setting IA charges that differentiate according to the type of call on the lines of Alternative C.
• Whether all mobile operators should be obliged to supply IA, or whether this should be restricted to those with some form of market power – in which case, what should be the definition of market power that triggers the obligation.

6.2 National Regulatory Authorities abroad have signalled their strong interest in this consultation document and its outcome. Oftel is grateful for their input into this UK debate, and welcomes their additional input or interim views on this document.

Oftel seeks the views of consumers and industry on the proposals contained in this consultation document by 18 March 1999. There will then be a 2-week further period, as usual, during which comments on the representations made during the first period of this consultation are invited; this will end on 1 April 1999.

Views and comments should be made in writing and should be sent to:

John Bean
Policy Directorate
Oftel
50 Ludgate Hill
London, EC4M 7JJ

Tel: 0171-634 8821
Fax: 0171-634 8924
or E-mail

Written comments will be made publicly available in Oftel’s Research and Intelligence Unit except where respondents indicate that their response, or parts of it, are confidential. Respondents are therefore asked to separate out any confidential material into a confidential annex which is clearly identified as containing confidential material. In the interests of transparency, respondents are requested to avoid confidentiality markings wherever possible. Appointments to view written comments in Oftel’s Research and Intelligence Unit, which must be made in advance, can be arranged by ringing: 0171 634 8761 (fax: 0171 634 8946).

Oftel would like to set up a link between this Consultation Document on Oftel's web site and any responses placed on respondents own Internet pages. Please contact Lauren Ryner at Oftel on 0171 634 8753 or by e-mail to arrange this. Confidential responses should not be sent via the Internet.

Oftel has a free e-mail based mailing list to help people stay informed about the work that Oftel is doing. Each time an Oftel document is published and placed on Oftel’s web site subscribers to the list receive an e-mail informing them about the document. If you would like to join please click here.

Oftel documents are available in the following formats:

• A large print version of the summary section of this Consultation Document is available.
• Copies of this Consultation Document are available on disk.
• Braille and tape formats of the summary can be provided on request.

Please contact the Oftel Research and Intelligence Unit on 0171 634 8761, or by e-mail, or call textphone 0171 634 8769 for more information.

"In the event of an interconnection dispute between organisations in a Member State, the national regulatory authority of that Member State shall, at the request of either party, take steps to resolve the dispute within six months of this request. The resolution of the dispute shall represent a fair balance between the legitimate interests of both parties.

In so doing, the national regulatory authority shall take into account, inter alia:

• the user interest,
• regulatory obligations or constraints imposed on any of the parties,
• the desirability of stimulating innovative market offerings, and of providing users with a wide range of telecommunications services at a national and at a Community level,
• the availability of technically and commercially viable alternatives to the interconnection requested,
• the desirability of ensuring equal access arrangements,
• the need to maintain the integrity of the public telecommunications network and the interoperability of services,
• the nature of the request in relation to the resources available to meet the request,
• the relative market positions of the parties,
• the public interest (for example the protection of the environment),
• the promotion of competition,
• the need to maintain the universal service.

A decision on the matter by a national regulatory authority shall be made available to the public in accordance with national procedures. The parties concerned shall be given a full statement of the reasons on which it is based."

1 Oftel recognises that there may be several ways of implementing a retail-minus basis for indirect access charges for mobile networks. A brief description of three of the possible approaches was given in the body of the consultation document with an outline consideration of the principle points in favour of and against them. This annex expands that discussion.

2 Oftel considered the merits of having a single charge for IA – for ‘retail call origination’ on a mobile network. Such a charge would be comparatively easy to apply and matches the pattern of interconnect charges the industry is used accustomed to on fixed networks. On the BT network, interconnect charges are derived from costs and are largely, and necessarily, independent of the purpose or type of the call: the same call origination charge applies whether the call it is part of is a local call, or national, or international. This simplicity comes however from the very fact that the charge is derived from costs which are unaffected by the end purpose. It is much more difficult to apply when the charge is to be derived from retail prices – especially since there is a very wide range of retail mobile call prices, including variation according to the purpose and type of call.

3. A straight forward if simplistic approach to establish a single IA charge for mobiles would be to select one representative retail price, subtract the ‘avoidable’ costs and apply the result as a standard indirect access charge on all IA calls. This is Alternative A. However a single rate poses the question of how to select a single type of call which would be representative of all retail mobile call origination

4 The choice is important because the relationship of the standard charge (retail minus avoidable costs) to the actual costs and the retail prices for other calls will determine whether IA operators can enter a market and if they would do so with any additional advantages, beyond superior efficiency derived from the effect of selecting a single standard charge. As far as the selected representative calls are concerned, the effect on the network operator would be ‘profit neutral’ – for this representative call, by construction, the avoidable costs would be exactly determined; their deduction would leave the network operator making no greater and no smaller profit on the call than he would make if the call had remained his responsibility from end to end rather than being diverted to the IA operator.

5 However applying this now standardised IA charge to all IA calls would have different effects, for all other calls than the representative calls which had been chosen as the standard. Where the representative charge and the IA operator’s own costs combined are less than the network operator’s retail price, there is an opportunity for the IA operator to take advantage of this margin and to undercut the network operator. Conversely where the combination of its costs and the standard charge comes to more than the network operator’s retail price, it will keep clear of offering a service unless it has some strategic motive for doing so, such as offering a full range of services. This is a simplified summary of the effects which would be complicated by the relative efficiencies of the two operators in supplying or acquiring the ‘avoidable cost’ services where the IA operator substitutes his own arrangements for those of the network operator. But the end result of such further analysis would simply demonstrate that, on such a call, standardisation would give the IA operator some possibility of an arbitrage opportunity (parallel with, but on a smaller scale, the margin available under Option 1 - the cost plus basis). Conversely however, there would be other calls for which the position was reversed. Here the combination of standard charge an its own costs would put the IA operator at a disadvantage to the network operator. However, IA operator would be in the advantageous position that he could simply not offer to compete on those calls where the regime worked against him; whereas, it could choose to compete where it did have the advantage from the regime – and the network operator could not avoid this challenge since IA would be mandatory.

6 Given this asymmetric outcome, the network operator would seek to insist that the selection of the representative price should be designed to minimise the number of calls which gave the IA operator the arbitrage opportunity. Conversely, the IA operator would press to maximise the calls on which it had a prospect of using the arbitrage margin to win customers. However, even the IA operator would not be fully content with such a way of setting the IA standard charge - there would still likely be an area of the market where it faced a combination of costs and charges which would rule out offering services to customers even where it was the more efficient operator: a restriction of its product range which would hamper its marketing.

7 Oftel would, inevitably, be involved in the definition of the representative standard charge in a situation where it would be clear that neither IA operators nor network operators would be satisfied. Definition would be difficult and, in the end arbitrary. It would not provide a stable solution. There would be constant representations from both sides that the results were unfair. It would also be the case that the results would be distorting in that this approach would concentrate competition on the calls where the standard charge presented an arbitrage opportunity. And would effectively bar competition on those calls where the arbitrage opportunity did not exist. Indeed on some of these calls the ‘negative arbitrage’ resulting from the standardisation might outweigh an actual competitive advantage an IA operator might have on the ‘avoidable cost’ elements of the service. This would be a further source of complaint and representations that the representative price was wrongly chosen.

8 Oftel has considered one way of addressing some of the difficulties that arise from a single representative standard charge. There are two key problems: that of selecting a single representative rate that would not be unstable under the constant pressure from both IA operators and network operators to redefine what should be considered ‘representative’; and the problem that any standard rate will tend to concentrate competition on some calls and effectively bar it on others (as outlined in paragraphs 5 and 6)

9 The first problem could be tackled through the design of an average so that, over the whole market, the advantages and disadvantages might even out. This is Alternative B. It would have the merit that the basis for the selection of the single standard representative charge could be transparent and it results predictable: characteristics which, once accepted, should remove one element of discussion and instability. However, whilst this might be the outcome, the route to arrive at it would not be simple. The calculation of an average would not be a straightforward task. There are many variations of call tariffs offered by mobile networks – designed to package the tariffs to meet a range of consumer situations. There would need to be a full debate with the industry on the selection of tariffs that would go into the average and how the average would be derived from them, probably with some form of weighting. Oftel does not doubt that some basis could be established; but is equally in no doubt that the process would not be easy and that it could not be fixed for all time - there would have to be provision for the average to be re-calculated from time to time. And this would present opportunities for re-opening the process.

10 Whilst calculating an average, whatever the difficulties, would always be open to solution by robust decisions, even an average standard charge would still leave unresolved the second difficulty that applies to any single standard charge, however arrived at. This is the difficulty that any standard charge applied for this purpose will have the asymmetric effects set out in paragraphs 5 and 6. Even with an average, there would still be some types of call on which IA operators could have an arbitrage margin to exploit – correspondingly other calls on which they could lose (but they can avoid the losses simply by not offering those types of call). Equally they could still find that they were able to compete on some types of call where they had no true underlying advantage: and others which they were forced to decline where they did have an advantage, but this was neutralised by the standard charge. Consequently there would be continuing pressure by the interested parties for revision of the method of calculation – and hence there could not be total confidence in the stability of the charging regime.

11 Whether a single representative standard IA charge or an average single standard IA charge can be devised on a basis acceptable to the industry, there will remain one issue. This runs parallel with Oftel’s concern over the potential effects of Option 1, in reduced but still significant degree. As discussed in Chapter 3, Oftel must consider the potential damage such arbitrage opportunities cause – even if on a lesser scale than that which could be caused by Option 1 – to the development of network competition and the longer term choices available to customers.

12 In the light of this analysis of Alternatives A and B, Oftel has concluded that a standard charge may not be acceptable – because oversimplification produces distortions that encourage competition in some markets and discourage it in others, against economic efficiency. Oftel has therefore analysed the possibility of having different IA charges for different types of call. The two major difficulty with a single charge derived by working down from retail prices, not up from costs, is that the retail price base includes additional factors – profits and the contributions assigned to cover common costs shared with more than one type of call. This would not be a problem if profits and the contributions to common costs were constant across all products. If the profit were constant then once the avoidable costs had been deducted what would be left would be the cost of the network (including the contributions to common intra network costs) and the standard profit – a single charge. But in fact profits at the retail level typically do vary according to the type of service. On international calls for instance they tend to be higher than on national. When the avoidable costs on a national call are deducted from its retail price, the balance covers the cost of the conveyance over the mobile network and the profit on a national call. When the avoidable costs of an international call are taken away from its retail price, then what is left also covers the cost of conveyance over the mobile network and the profit on an international call. But the international call profit is usually larger – and hence what is left is greater than for a national call. That is the IA charge for an international call would be greater than for an inland call although the use of the mobile network might be no different. Reflecting the differentiation of retail prices according to types of call through into the IA charge would thus also allow the contribution to the recovery of common costs to vary by type of call as well. This is likely to be more economically efficient.

13 From this analysis Oftel has derived a possible solution. It lies in recognising that the variation of profits by type of call is a market factor that the IA charging system, in a market moving towards effective competition should reflect, not seek to obliterate. It would maintain the principle of retail price differentiation according to the market. This leads Oftel to consider the merits of Alternative C: that the retail-minus charge be different for each type of calls (eg national, international etc). For each type, the starting point would be that type of call’s typical retail price. The relevant avoidable costs would be deducted, and the resulting residual charge would cover the (standard) costs of the mobile network conveyance and the relevant profit. This approach to setting indirect access charges would remove the possibility, inherent with any standard single IA charge derived from a retail price, that on some calls the IA operator would have a margin that was not the product of any efficiency advantage over the network operator but solely the effect of applying a standard charge. It would thus remove this form of arbitrage opportunity and any impact this might have, through the reduction of revenues and profits, on investment in networks.

14 This approach would also remove the opposite distortion that arises with a standard charge: that, on some types of call, the charge may exclude IA operators from competing even on calls where they would otherwise have an advantage. IA charges based on types of calls rather than a single standard charge would thus open up the entire range of calls to further competitive choice of supply by IA operators, where they can compete in efficiency. It would ensure that the attractions of the IA services were based on true competition – from superior packaging or superior management of the avoidable costs – not on their securing, through a reseller’s arbitrage margin, part of the network operators profit in excess of the cost of capital.

15 The particular attraction (and particular difficulty) of this Alternative C is that it leaves the network operator in charge of the pricing strategy on his own calls. It should therefore produce a more stable market and avoid the inherent pressure, derived from the artificial margins created by a single charge, for some IA charges to be driven down towards cost plus levels. Given that the going rate of retail prices applies to all networks (not just those required to supply IA), the removal of the arbitrage opportunity would avoid the risk of impeding investment in and development of networks.

16 Nevertheless, Oftel is aware that it would not be practical for every type of call to have its own IA charge. There would have to be some form of grouping to make the numbers manageable. It would also, clearly be important for all operators to be able to know for every IA call what type of call it was – and therefore the appropriate charge. Oftel is looking to the industry for contributions on how practical solutions can be devised to develop a workable system for setting differentiated IA charges.

This annex takes each of the elements of a mobile call identified in paragraph 2.9 of the main document in turn to identify what scope they offer for reductions of costs, and hence potentially of charges to end-user customers, as a result of the introduction of IA for mobile networks.

1 By definition, there is no scope for alternative supply by the IA operator for the first element of a call from a mobile handset – the use of the mobile network itself. For these elements therefore, the IA operator will need to pay the mobile operator for the use of its system for the origination of the call. In the dispute before it, Oftel has been asked to determine what should be the appropriate rate of charge and, hence, the principles on which the charge should be based. Given the principle established for IA on BT’s fixed system, the general expectation of intending IA operators is that the basis of the charge should be cost-plus (Option 1). However, this is not a necessary conclusion. In this consultation, Oftel is seeking views on alternative bases using the concept of a ‘retail-minus’ charge set by deducting from the retail price the costs of those elements of the service which are no longer incurred by the mobile network operator, because the elements are supplied by the IA operator (Option 3).

2 As explained in paragraphs 1.11 to 1.13, and Figure 3 of the main document, there are elements of a total end-to-end call that the IA operator will supply instead of the network operator. Under the Option 1 (cost plus) approach favoured by intending IA operators (as with the call origination charge paid to BT by IA operators) the mobile network operator’s costs for these elements would, naturally, never appear in the charge paid by the IA operator to the mobile network operator. It has not supplied them and hence should not charge for them when charges are based on cost. The same logic applies under Option 3 (retail-minus). Here too the network operator should not be allowed to charge the cost of elements it is no longer supplying. However, if the starting base for the retail minus charge is the full retail price, then the base already includes the cost of these substituted elements. So these cost have to be deducted from the retail price. Hence the description of this form of charge as ‘retail (price) minus (costs of elements not used).’ The substitutable elements whose costs are to be deducted are: on the one hand, call retailing costs (marketing, selling, billing); and, on the other, transmission costs for conveyance and delivery of the call once it has left the mobile network. For the IA operator to be successful it has to be able to supply these elements more effectively or more efficiently than the network operator. It will then have a total retail price (the sum of the retail-minus network charge and his own costs) lower than the network operator’s retail price and will be able to provide efficient competition.

3 Not all mobile calls are basic telephony. Increasingly calls are made to link the caller with services that provide him with added value. This may be in the form of information (like Stock Market prices) or of transactions (like remote banking) or entertainment (like group discussions). They may be message answering services or simple data processing services or services that give comparatively low speed access to the Internet. There are many ways such services can be accessed. Both mobile network operators and their service providers will provide means of accessing these services and packaging them for callers. IA operators are unlikely to be able to offer any new services that service providers and other network operators cannot replicate. However, their arrival in this market will add to the range of those making offers to customers for value added services. In addition, they should be able to offer innovative packaging because they will have more scope for innovation (especially on tariffing). This special capacity derives from the fact that the IA operator will supply part of the end-to-end transmission itself and has control over how the whole call is billed to the customer making the call – whereas the service provider has to buy the complete call from the network operator and has to pay for all of it to the network operator, which constrains its ability to package the tariff for the customer.

Access code – short numbers beginning with 1 which enable callers to reach the network of another operator or to reach services provided on telecommunications networks (for example 192 for directory enquiries).

Annex II (of the ICD) – Annex II operators are those who have rights and obligations to interconnect with each other under Article 4(1) of the Interconnection Directive for the purpose of providing publicly available telecommunication services.

Arbitrage – the ability to buy for one price and sell on for a higher price.

Bundling – the tying of one service or product to the supply of others including some situations where the supply of services is linked through the use of discounts.

Call origination – see originating operator.

Call termination – see terminating operator.

Carrier Pre-Selection (CPS) – the facility offered to customers which allows them to opt for certain defined classes of call to be carried by an operator selected in advance (and having a contract with the customer), without having to dial an access code or follow any other different procedure to route calls to the selected operator.

Carrier selection – see easy access.

DGIV – Directorate General IV of the European Commission which is responsible for enforcing the competition provisions of the Treaty of Rome.

Direct access – the situation where a customer is directly connected to a telecommunications operator by a wire (for example copper), fibre-optic or radio link to connect that customer to the public telecommunication network.

Easy access – arrangement to provide indirect access where there is a caller charge and access code to reach a chosen service provider. Outgoing calls use BT’s lines and network to the first point of interconnection, and then are switched to the chosen operator. Also called carrier selection.

Fixed/mobile integration – (also known as fixed mobile convergence) the merging of fixed and mobile services into an integrated service whereby the customer will be offered both fixed and mobile services, and will receive one bill and/or receive and make calls using one terminal, and possibly one number for incoming calls.

ICD – see Interconnection Directive.

Independent Service Provider (ISP) – entities which provide telecommunications services over fixed or mobile networks, or services with a telecommunication service component, to the public at large but do not own or operate telecommunications networks. Some independent service providers may not use telecommunication networks, for example they may be publishers of printed directories.

Indirect Access – a situation where a customer contracts to buy a telecommunication service from an operator to which the customer is not directly connected, and where the second operator pays the first operator for the use of that connection.

Interconnection – interconnection means the physical and logical connection of two operators’ networks thereby allowing customers of one system to connect with customers of the other, or to access services provided from the other system.

Interconnection Directive (ICD) – to European Union Directive which came into effect from 31 December 1997, setting rules for, amongst other things, who has rights and obligations for interconnection and the terms on which it should take place.

Interoperability – interoperability means the technical features of a group of interconnected systems (‘systems’ includes equipment owned and operated by the customer which is attached to the public telecommunication network) which ensure end-to-end provision of a given service in a consistent and predictable way.

Market power – 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.

Network operator – the operator of a telecommunication network with a PTO licence which provides, amongst other things, network services.

Network Services – Network Services are services that can only be technically and economically provided by those who build their own telecommunications network infrastructure. BT Network Services (including the elements of these services which are necessarily incidental to the provision of them, like billing customers for the provision of the service) are provided from its Systems Business, whereas Enhanced Services are provided from the Supplemental Services Business. It should be recognised that, notwithstanding the juxtaposition with Enhanced Services, Network Service does not necessarily mean 'simple,' or 'plain old telephone services (POTS).’ Network Services may be extremely complex.

Originating operator – operator on whose network the call originates, i.e. the operator with the line to the customer.

Other Licensed Operators (OLO) – companies, other than BT, which operate telecommunications systems.

Public Telecommunications Operator (PTO) – network operators providing services to the public with powers granted by the Secretary of State for Trade and Industry, under the Telecommunications Act 1984, to enable them to install their systems on public and private land, property etc.

Radio spectrum – the range of frequencies used for broadcasting fixed and mobile telephony for radio, terrestrial television and satellite television. For fixed telephony the frequencies available in the UK are 2.4, 3.4 and 10 GHz ranges. For mobile telephony the frequencies are 900MHz, 1800MHz, and for UMTS there is a 2GHz range.

Revised Voice Telephony Directive (RVTD) – the European Parliament and Council Directive of 26 February 1998 on the Application of Open Network Provision (ONP) to Voice Telephony and on Universal Service for Telecommunications in a competitive Environment (98/10/EC) implemented in UK by the Telecommunications (Open Network Provision) (Voice Telephony) regulations, 1998 (1998, No.1580). This Directive concerns the universal provision of voice telephony services. The Directive leads to a number of additional obligations on operators as well as setting out various rights for consumers.

RPI-X – the system of price control where average annual price changes for the price-controlled services are limited to the increase in inflation (as measured by the Retail Price Index), less a specified number (X).

Service provider – provider of telecommunication services, or services with a telecommunication service component, to third parties whether over its own network or otherwise.

Significant Market Power (SMP) – the SMP test is set out in various European Directives, notably the Interconnection directives. It is used by the National Regulatory Authority (in UK: Oftel), to identify those operators who must meet additional obligations under the relevant directive. It is not an economic test; rather it requires a consideration of the factors set out in the test within a specified market – much is left to the NRA’s discretion.

Terminating operator – the operator on whose network a call terminates.

Third Generation (3G) mobile system – see UMTS

Tied Service Provider (TSP) – service providers which are owned by or in common ownership with the network operator’s Group.

Transit service – a conveyance service provided by a network between two points of interconnection. It is, therefore, a service that links two networks that are not themselves directly interconnected.

Universal Mobile Telecommunications System (UMTS) – European 3rd generation mobile communications system which will provide an enhanced range of multimedia services (for example video, high speed Internet access). Part of global concept called IMT-2000 implemented in individual countries under condition specified under UMTS Decision. UMTS Networks are expected to enter service in 2002/3, using Radio Spectrum in the 2GHz bands. The UK spectrum is planned currently to be auctioned in Summer 1999. The Prospectus for the auction will be issued (by DTI) in early 1999.