Contents

Summary
Chapter 1 Introduction
Chapter 2 Market Definition
Chapter 3 Assessment of market power
Chapter 4 Implications of Oftel findings
Chapter 5 Consultation

Annex A Notification
Annex B Market definition
Annex C Collective dominance criteria
Annex D Further criteria for assessing dominance
Annex E Market shares
Annex F Assessment of technological advantages
Annex G List of consultation questions
Annex H Glossary

  Summary

A new regulatory regime

S.1 A new regulatory framework for electronic communications networks and services will enter into force in the UK on 25 July 2003. The basis for the new regulatory framework is five new EU Communications Directives that are designed to create harmonised regulation across Europe and aimed at reducing entry barriers and fostering prospects for effective competition to the benefit of consumers.

S.2 The new Directives require National Regulatory Authorities (NRAs), such as Oftel, to carry out reviews of competition in communications markets, to ensure that regulation remains appropriate in the light of changing market conditions.

Market considered in this review

S.3 The market considered in this review relates to wholesale services provided over mobile public telephone networks. Wholesale services are services sold and purchased by communications providers rather than end-customers. Oftel is reviewing the wholesale market, as required by the European Commission's Recommendation on relevant product and service markets, but retail market issues are covered where they inform the analysis of wholesale market competition. Chapter 2 covers Oftel’s proposed approach to market definition and that of the European Commission’s Recommendation on relevant product and service markets.

Initial conclusions on Significant Market Power

S.4 Oftel has considered whether Significant Market Power (SMP) is held by any mobile network operators in the market, taking into account the guidance from the European Commission(Commission Guidelines on market analysis and the assessment of significant market power under the Community regulatory framework for electronic communications networks and services) and Oftel SMP Guidelines(Oftel's market review guidelines: criteria for the assessment of significant market power).

S.5 The Director’s initial view is that, in the current market conditions, no mobile network operator, either by itself or jointly, has SMP in the wholesale mobile access and call origination market in the UK.

Removal of regulation

S.6 Therefore the Director considers it appropriate to remove the remaining SMP-based regulatory controls in this market, which currently apply to Vodafone and O2 only. Among other things, this would entail the lifting of requirements to meet requests for interconnection and not to show undue preference or discrimination in the provision of such services in this market.

S.7 The Director considers that the proposals in this review represent a proportionate and appropriate response to the market analysis carried out. The removal of regulatory obligations will free the mobile network operators to compete further and in so doing to help deliver benefits to consumers.

S.8 The Director considers that general competition law and non-SMP-related powers in the new EU Communications Directives should provide adequate safeguards for the promotion of competition and the protection of consumers in this market. The Director will also retain the ability to carry out a further market review at any time under the EU Communications Directives.

Consultation

S.9 The Director is seeking comments on his proposals by 20 June 2003. Once he has considered all responses, he will publish his final proposals and these will take effect from 25 July 2003. Comments should be sent to Nic Green, Oftel, 50 Ludgate Hill, London EC4M 7JJ. e-mail: nic.green@oftel.gov.uk. A full list of the questions to which Oftel is seeking responses is in Chapter 5 below.

S.10 The formal notification of the proposed market definition, as required by Regulation 6(1) of the Electronic Communications (Market Analysis) Regulations 2003 (s.2. 2003 No. 330), can be found in Annex A.

  Chapter 1

Introduction

A new regulatory regime

1.1 A new regulatory framework for electronic communications networks and services will enter into force in the UK on 25 July 2003. The basis for the new regulatory framework is five new EU Communications Directives as follows:

• the Framework Directive – Directive 2002/21/EC on a common regulatory framework for electronic communications networks and services;
• the Access Directive – Directive 2002/19/EC on access to, and interconnection of, electronic communications networks and associated facilities;
• the Authorisation Directive – Directive 2002/20/EC on the authorisation of electronic communications networks and services;
• the Universal Service Directive – Directive 2002/22/EC on universal service and users' rights relating to electronic communications networks and services; and
• the Privacy Directive – Directive 2002/58/EC concerning the processing of personal data and the protection of privacy in the electronic communications sector.

1.2 The new regulatory framework is designed to create harmonised regulation across Europe and aimed at reducing entry barriers and fostering prospects for effective competition to the benefit of consumers.

1.3 The Framework Directive provides the overall structure for the new regulatory regime and sets out fundamental rules and objectives which read across all the new directives. Article 8 of the Framework Directive sets out three key policy objectives which have been taken into account as relevant in the preparation of this consultation document, namely promotion of competition, development of the internal market and the promotion of the interests of the citizens of the European Union. The Authorisation Directive establishes a new system whereby any person will be generally authorised to provide electronic communications services and/or networks without prior approval. The general authorisation replaces the existing licensing regime. The Universal Service Directive defines a basic set of services that must be provided to end users. The Access and Interconnection Directive sets out the terms on which providers may access each others’ networks and services with a view to providing publicly available electronic communications services. These four Directives must be implemented in the UK and in other EU Member States on 25 July 2003. The fifth Directive on Privacy establishes users’ rights with regard to the privacy of their communications. This Directive was adopted slightly later than the other four Directives and has an implementation date of 31 October 2003.

Implementation

1.4 In the UK, it is intended to implement the four main directives through a new Communications Act. The Communications Bill was introduced into the House of Commons on 19 November 2002 and is available at www.parliament.the-stationery-office.co.uk/pa/ld200203/ldbills/041/2003041.htm. The latest version of the Communications Bill is that which was amended in the House of Commons, published on 5 March 2003. References to the Communications Bill in this document are references to that version of the Bill. The Bill may continue to be subject to change as it proceeds through Parliament.

1.5 It is intended that the Communications Bill will receive Royal Assent by 25 July 2003. However, in the event that the Communications Bill does not receive Royal Assent by 25 July 2003, the government has acknowledged that implementation will need to occur by Statutory Instruments made under the European Communities Act 1972 for an interim period until the Bill enters into force. Further, if the Communications Bill does receive Royal Assent by 25 July 2003, it is expected that Ofcom will not be ready by the summer to assume all of its duties foreseen by the Communications Bill. Should that be the case, the Communications Bill makes specific provision to enable Ofcom’s functions to be carried out by the Director or the Secretary of State for a transitional period. For these reasons, this document refers to the Director rather than Ofcom.

1.6 Article 16 of the Framework Directive provides that analysis of the relevant markets for the purpose of the new regime should be carried out as soon as possible after the adoption of the European Commission’s Recommendation on markets. The Recommendation was adopted on 11 February 2003. This market review is the preparatory work required as to the analysis of markets required by the new regime. In the UK, the Electronic Communications (Market Analysis) Regulations 2003 (SI 2003/330) ('the Regulations') confirm the Director’s ability to carry out this preparatory work. Pursuant to the Regulations, Oftel is consulting on the market identification, designation of SMP (or not) and the SMP conditions proposed to be adopted on or after 25 July 2003. Regulation 8 of the Regulations enables the Director to confirm his proposals before 25 July 2003. They will then be given effect on 25 July 2003 by the new Communications Act or the interim regime introduced by Statutory Instruments.

Market reviews

1.7 The new Directives include the requirement that National Regulatory Authorities (NRAs) such as Oftel should carry out reviews of competition in communications markets, to ensure that regulation remains appropriate and proportionate in the light of changing market conditions. Oftel already carries out market reviews as part of its long term strategy, focusing on effective competition as the best means to deliver a good deal for consumers.

1.8 Oftel is now conducting a series of market reviews under the Regulations. The reviews need to be completed as soon as possible to ensure that any appropriate and proportionate regulation flowing from them is in place for the commencement of the new regime on 25 July 2003 or as soon as possible thereafter. If a market review is not completed by 25 July 2003, Oftel will rely on the transitional provisions of the Communications Bill or the relevant statutory instruments to ensure there is no gap in the regulatory regime.

1.9 Each market review has three stages:

• definition of the relevant market or markets;
• assessment of competition in each market, in particular whether any companies have Significant Market Power (SMP) in a given market, and;
• assessment of the options for regulation and proposal of appropriate regulatory obligations where there has been a finding of SMP.

1.10 More detailed requirements and guidance concerning the conduct of market reviews are provided in the Directives, the Communications Bill, and the Regulations and in additional documents issued by the European Commission and Oftel. As required by the new regime, Oftel will take the utmost account of the two European Commission documents discussed below in this market review.

Recommendation on relevant product and service markets

1.11 The European Commission has identified in its Recommendation on markets, adopted on 11 February 2003 ('the EU Recommendation'), a set of product and service markets within the electronic communications sector, which are to be reviewed by NRAs. The Recommendation seeks to promote harmonisation across the European Community by ensuring that the same product and service markets are subject to a market analysis in all Member States. However, NRAs are able to regulate markets that differ from those identified in the Recommendation where this is justified by national circumstances and where the Commission does not raise any objections. Accordingly, NRAs are to define relevant markets appropriate to national circumstances, taking the utmost account of the product markets listed in the Recommendation.

SMP Guidelines

1.12 The European Commission has also issued guidelines on market analysis and the assessment of significant market power ('the SMP Guidelines'). Oftel has produced additional guidelines on the criteria to assess effective competition. These supplement the SMP Guidelines and replace Oftel’s effective competition guidelines issued in August 2000.

Regulatory option appraisal

1.13 When considering the appropriate level of regulation if a finding of SMP is made, Oftel will also give consideration to its regulatory option appraisal guidelines published in June 2002.

Background

1.14 The market covered by this review is:

• wholesale access and call origination on public mobile telephone networks in the UK.

1.15 The following markets are being covered in separate Oftel reviews as the Commission's Recommendation places them in separate markets:

• the wholesale market for voice termination of calls on individual mobile networks;
• the wholesale national market for international roaming on mobile networks, provided to foreign mobile network operators, ie, the service that allows foreign mobile customers to use their mobiles whilst in the UK.

1.16 There is currently little regulation applying to mobile network operators in the market for access and call origination. In September 2001 Oftel published a statement following its last review of competition in the broad outgoing mobile market. Oftel decided then to consult on lifting the Market Influence designations on Vodafone and BT Cellnet (now O2). This led to the withdrawal of certain obligations in April 2002:

1.17 However, the last broad mobile sector review kept the designations on Vodafone and BT Cellnet (now O2) of Significant Market Power (SMP) under the EC Interconnection Directive. The current formal regulations in the mobile sector which relate to the SMP designations on Vodafone and O2 include the following:

• a requirement to not unduly discriminate in the terms of interconnection offered to other networks; and
• a requirement to provide wholesale indirect access (IA) services on request to interconnected networks, enabling the provision of retail services on a call-by-call basis.

1.18 There is also a current condition for 'national roaming' in the licences of Vodafone and O2. This gives regulatory backing for the new entrant mobile network operator, '3', to provide its customers with 2G services in parts of the UK where it has not yet built its 3G network, by 'roaming' on another mobile network in those areas. This licence condition was not based on a designation of SMP status but was voluntarily accepted by Vodafone and O2. The condition has not had to be used because a commercial roaming agreement was reached between '3' and O2. As the licences will end in July 2003 the licence condition will fall. Oftel is to consult separately on what should happen to the national roaming obligation.

The structure of this document

1.19 This document is split into three main sections:

• a definition of the market to be reviewed;
• an assessment of whether any of the mobile network operators has a dominant position in that market; and
• an outline of what Oftel's conclusion would imply for existing regulation and Oftel scrutiny of market developments.

Notification

1.20 Annex A contains the formal notification of the proposals made by the Director as a result of the review, including the market(s) defined and the decision on SMP made as a result of the market analysis. This implements the provisions of Regulation 5 and 6 of the Regulations.

1.21 This document, including the formal notification in Annex A has been made accessible to the European Commission and to the National Regulatory Authorities in other Member States in accordance with the scheme of the Directives.

Chapter 2

Market definition

2.1 This chapter provides a brief summary of the market definition covered in this review. The official notification of a proposal for identifying the market is included at Annex A. A full analysis of the market definition is provided in Annex B.

2.2 The market is defined as wholesale access and call origination on public mobile telephone networks in the UK. The chief features of the market definition are:

• access and call origination (outgoing markets) are part of a single market due to similar competitive conditions and a common pricing constraint;
• for the same reason, all outgoing calls (call origination) and SMS are also likely to form a single market;
• at the wholesale and retail level, fixed and mobile calls form separate markets due to limited demand side substitutability and a lack of supply side substitutability;
• the geographic scope of the market is national due to a uniform pricing policy and a lack of demand and supply side substitutability from markets outside the UK; and
• the precise market definition regarding 3G services is unclear at present.

2.3 Call termination services are not in this market since they face differing competitive conditions to other mobile services. Specifically, due to the calling party pays arrangement and the level of current technology, Oftel has identified network-specific markets for call termination services.

2.4 Oftel is specifically obliged to investigate the wholesale market, as defined by the European Commission in its Recommendation. In order to undertake this analysis, it is necessary to examine the market definition and SMP criteria that relate to the retail level in addition to the wholesale level. This is because competitive conditions at the retail level are relevant to the existence of market power at the wholesale level.

Forward look

2.5 The market definition for outgoing 3G services is not yet clear. It is also unclear as to when the existing 2G mobile network operators will begin to offer 3G services. The precise definition of the market is likely to revolve around the exact nature of the new services, and the competitive conditions surrounding them. Note that the conclusions on the forward look in the access and call origination market are not affected by the forward look in the separate call termination market.

2.6 First, considering voice services, in principle on the demand side, voice services are likely to be considered to be demand side substitutes, because consumers are likely to be indifferent to making voice calls on a 2G or 3G network, and are not likely to know the difference. The effectiveness of demand side substitution between 2G and 3G data services is likely to be more limited given the higher costs and the additional services available in 3G. On the supply side all 2G mobile network operators are expected to provide 3G services, so the potential entry of 2G mobile network operators into the 3G market is not relevant to the analysis.

2.7 The market definition of 3G is also complicated by the fact that voice services may be sold as a bundle with data services. Consumers may be offered bundles including voice and basic (2G) data or voice and enhanced (3G) data. Oftel’s view is that services within a bundle are likely to be subject to a common pricing constraint. But it is less clear that 2G and 3G bundles will be subject to a single pricing constraint. This would suggest that a separate market consisting of 3G voice and data may be definable. However, it is too soon to reach a definitive view on this, so Oftel has left this issue open. This does not affect the proposed conclusions of this review.

Relationship between this market definition and the Commission’s Recommendation

2.8 Clause 76(1) of the Communications Bill provides that, before a market power determination is made, markets must be identified and analysed. Clause 76(2) provides that due account must be taken of the European Commission’s SMP Guidelines and the Commission’s Recommendation on markets.

2.9 Oftel has given careful consideration to the markets listed in the Commission’s Recommendation and has defined this market largely in line with that of the Commission’s Recommendation. It is unclear whether the market defined by the Commission also includes SMS. Oftel has taken the view that SMS should be included in the outgoing calls market at the retail and wholesale level. Oftel has concluded that the assessment of SMP is not significantly different due to the inclusion of SMS in the market definition.

Questions

Q2.1 Do you agree with the market definition outlined in Chapter 2 and Annex B?

Chapter 3

Assessment of market power

Introduction

3.1 Under the new Directives Significant Market Power (SMP) has been newly defined so that it is equivalent to the competition law concept of dominance. Article 14 of the Framework Directive states:

3.2 SMP may be held by only one company in the market (single dominance) or by more than one company jointly (collective dominance). In assessing whether SMP exists, this review takes account of the European Commission and Oftel SMP Guidelines set out in Chapter 1.

3.3 The remainder of this chapter firstly considers whether single dominance is likely to exist in this market. It then assesses whether collective dominance exists against the criteria set out in the relevant guidelines and the conditions set out in the Court of First Instance's Airtours judgment.

3.4 Oftel is specifically obliged to investigate whether single or joint dominance exists in the wholesale market, as defined by the European Commission in its Recommendation. In order to undertake this analysis, it is necessary to examine certain criteria that relate to the retail level. This is because competitive conditions at the retail level are relevant to the existence of market power at the wholesale level. For example, it does not follow from the fact that operators are vertically integrated and may not supply wholesale services to third parties that they have market power at the wholesale level. Any such power could be constrained by competition between vertically integrated operators at the retail level. Moreover, if vertical integration is efficient, the adoption by a number of firms of a vertically integrated structure could not then be construed as evidence of co-ordinated conduct.

Single dominance

3.5 The following provides an analysis of whether there is a case for single dominance in this market. Single dominance can be assessed using a large number of criteria, as described in the Commission's and Oftel's guidelines on SMP assessment. Some of the most important ones are market shares, technological advantages, and entry barriers such as economies of scale.

3.6 Market share is a major indicator of the existence of single dominance. The Commission guidelines on market analysis and the assessment of significant market power state that 'single dominance concerns normally arise in the case of undertakings with market shares of over 40 per cent' (paragraph 75). The European Commission has only once decided that there was single dominance below 40 per cent market share, and the market share was still 39.7 per cent in that case. This suggests that any firm with a market share below 40 per cent would need to have significant advantages on a range of other criteria in order to have single dominance.

3.7 The most relevant market share measure in this market is of revenue. Table 3.1 below provides details of current market shares. The only mobile network operator with a current share of retail revenue over even 30 per cent is Vodafone, which had a 34.4 per cent share in financial year 2001-2. This share was slightly lower (33.1 per cent) in Oftel's most recent published quarterly statistics (October-December 2002). Vodafone's revenue lead has declined significantly from a 46.2 per cent share in 1996-7, and the decline has accelerated since 1999-2000. Vodafone's subscriber and traffic volume shares are much lower, and Orange now has the most subscribers (see table 3.1 below). It can therefore be concluded that Vodafone's market share is significantly below the 40 per cent threshold, and on current trends, particularly given the entry of a fifth mobile network operator, there is no reason to think this situation will change in the period covered by this review.

3.8 Given the revenue market shares, an assessment of the other single dominance criteria would therefore need to show that conditions existed for Vodafone to be able to act independently of its competitors. For example it would need to be shown that Vodafone has significant advantages in areas such as technology and economies of scale. These criteria have been considered as part of the assessment of collective dominance, in this chapter and in Annex D. Based on the analysis set out there, the Director's initial view is that Vodafone does not have the inherent advantages on a range of these criteria necessary to change the presumption against single dominance indicated by market shares only. Vodafone is not considered to hold any first mover advantage over other existing mobile network operators since there has been sufficient time for Orange and T Mobile to become fully established.

3.9 Oftel's last mobile market review found that Vodafone did not have any significant cost advantages that were unmatchable by other mobile network operators, such as technological or efficiency innovations, nor was there any evidence to suggest that Vodafone possessed inherent advantages that would allow it always to remain one step ahead of its competitors through innovation. Oftel has not found any evidence in this market review to suggest that this situation has changed.

3.10 Paragraphs 3.56 to 3.72 below discuss the profitability and pricing of mobile network operators. The figures show that Vodafone's profits remain high, although its lead has been reduced. It is likely that Vodafone's continuing lead on profitability derives from a range of factors, including greater efficiency and a more favourable mix of customers and traffic. Vodafone's pricing lead over other mobile network operators has however fallen substantially. The pricing and profitability data do not provide sufficient evidence to change the conclusion that Vodafone does not have single dominance in this market.

Collective dominance

3.11 Given that the evidence above does not suggest single dominance, this document now assesses whether collective dominance exists in this market. The relevant dominance criteria derive from the Commission's and from Oftel's guidelines. Further details of the basis for the assessment are given at Annex C.

3.12 In assessing collective dominance, Oftel has to consider whether there are features in this market that tend to facilitate or support concerted behaviour. This need not require explicit agreements, but rather may be based upon interdependencies between firms which, taken with other factors, sustain enduring parallel behaviour in areas such as product range, pricing, and strategies towards service providers.

3.13 Collective dominance could in theory exist between two or more mobile network operators. Within the assessment against each criterion below, where Oftel considers there to be clear advantages for specific providers this is noted.

3.14 The criteria that Oftel considers to be most relevant to this review comprise the following:

• barriers to entry;
• market shares;
• maturity of the market;
• maturity of technology;
• pricing and profitability;
• elasticity of demand, awareness and switching;
• countervailing buyer power;
• similar cost structures;
• transparency; and
• retaliation.

3.15 Other criteria that are less heavily weighted are analysed in Annex D. These are:

• links between the undertakings;
• non-price competition;
• excess capacity; and
• the size of assets and integration of operations.

Barriers to entry

3.16 The wholesale market for mobile access and call origination is characterised by significant barriers to entry at the network level. The current constraints on spectrum availability mean that only licensed mobile network operators have an allocation of spectrum. In addition there are significant sunk costs involved in building a mobile network with national coverage.

3.17 Despite this some new entry has occurred or is in prospect. The entry of a new mobile network operator ('3') might be expected to increase competition in the provision of basic voice and data services, which are likely to be provided along with advanced (3G) data services. Note that, although '3' will initially rely on 'roamed' access to existing networks to provide nationwide voice and basic data (2G) services, it will eventually provide these services as well as advanced data services over its own network. In 1993 and 1994 new entry by One2One (now T-Mobile) and Orange increased the number of mobile network operators from two to four, and there is evidence that price competition intensified with the market entry by the two newer mobile network operators. The focus of competition is likely to be different now, as the market is more mature and a new entrant will need to attract existing mobile subscribers from other mobile network operators with established brand images, rather than attract new mobile subscribers or compete with other recent entrants. However, it is reasonable to assume that the entry of 3 will also have a positive impact on competition. The entry of 3 does not however mean that entry barriers at the network level have fallen. Unless further spectrum is made available for mobile services, no further entry will be possible and the scale of the investment needed to build a national network, costs which would be largely sunk, remains high.

3.18 Inquam is a niche operator in this market. It runs a network using the spectrum formerly used by Dolphin, and specialises in the provision of private mobile radio services, mostly to closed user groups such as taxi companies.

3.19 The introduction of wireless local area networks (or WLANs: see paragraphs 3.54 and F.8 below) and the potential future introduction of spectrum trading might also be expected to raise the competitive pressures acting on the mobile network operators and (to some extent) facilitate entry to the market at the network level. However, the impact of these developments is presently unclear. Spectrum trading is still subject to consultation, and the detail of its implementation is yet to be decided. The impact on competition will depend on the detail of this implementation.

3.20 Other providers of mobile services are however able to compete with the mobile network operators in the provision of retail services to consumers. Independent service providers (ISPs) and 'virtual networks' are companies that can purchase wholesale services from the mobile network operators in order to sell retail services to consumers.

Market Influence (MI)

3.21 There is no longer any regulatory obligation on any of the mobile network operators to supply wholesale services to ISPs or not to discriminate in the supply of those services. The remaining obligations on Vodafone and O2 were removed in April 2002, allowing more scope and flexibility for service providers to negotiate bespoke deals with the mobile network operators. In deciding to remove the MI obligations, Oftel considered that the competitive environment was such that where a service provider had something to offer, mobile network operators would be likely to supply them with wholesale services even in the absence of regulation.

Developments at the retail level

3.22 As noted above, in the context of this market review, it is relevant to look at developments at the retail level. Retail competition between vertically integrated operators can be sufficient to constrain any possible market power arising, for example, from entry barriers at the network level. Independent service providers may also compete with the network operators at the retail level, but they depend on the latter to provide network services. However, new service providers, particularly those with strong brands, can increase competitive pressures between mobile networks if such service providers can negotiate wholesale network access with different mobile networks. Existing service providers may also have an impact if they are able to switch networks over time. However, service providers are ultimately dependent on mobile network operators because they require a contract with a network.

3.23 The overall number of ISPs in the market has remained fairly constant since April 2002, at around 50 service providers. While a number of service providers, particularly the smaller providers, have exited the market altogether, several new providers have entered the market. Two recent new entrants One.Tel (part of the Centrica group) and BT (marketed as BT Sense) have launched mobile services through commercially negotiated agreements with mobile network operators. BT has also announced a partnership with T-Mobile to deliver mobile services to consumers.

3.24 The market share (subscribers and volumes) of independent service providers over time is shown in the graph below. The service providers' share of the market has continued to grow since the removal of the regulatory obligation to supply: the number of subscribers supplied by ISPs has increased by more than 1 per cent since April 2002. The latest data (September 2002) shows that about 5m subscribers are supplied by ISPs, an increase of around 1.5m since September 2001 and about 2.5m since September 2000.

3.25 The number of minutes has also shown continued growth at about the same rate. As of September 2002 ISPs supplied around 14 per cent of total mobile minutes. Both the total number of subscribers and the total volume of minutes supplied by ISPs have continued to increase following the removal of the MI designations in April 2002.

3.26 The evidence presented here suggests that the removal of the MI obligations has had little or no negative impact on the ability of service providers to deliver services. New service providers continue to emerge and, coupled with the continued growth of current service providers, this suggests that there is space for new providers and new products within the market to develop.

Figure 3.1 Estimated total market share of independent service providers

Source: Oftel Market Information

3.27 The mobile network operators have different strategies toward service providers. T-Mobile has formed agreements despite not having any regulatory obligations to do so. Since their regulatory obligations ended, Vodafone and O2 have both made agreements with other providers, serving varying market segments, but Orange's strategy has not involved service providers in this way. Such variations between mobile network operators do not indicate the existence of a co-ordinated approach in this market.

Dealers and Retailers

3.28 This segment of the supply chain has never been subject to regulation. Even so all of the mobile network operators and many service providers have built relationships with an extensive range of distributors and retailers. While there is evidence, for example in the mobile trade press, to suggest that mobile network operators are adopting different approaches in their dealings with dealers and retailers, and that relationships are changing, a variety of dealers and retailers continues to exist and appears to provide a significant degree of choice to consumers. The number and range of dealers and retailers suggest that barriers to entry at this level of the market are relatively low. See paragraph D.26 in Annex D below for further analysis of distribution advantages.

Conclusion

3.29 Barriers to entry at the network level are clearly strong in this market, but the launch in March 2003 of the fifth major mobile network operator, '3', will increase the level of network competition during the time horizon covered by this review. Barriers to entry may also be reduced for some market segments by developments such as wireless LANs and, in the longer term, by spectrum trading.

3.30 Barriers to entry at the retail level are lower, but retail entry still depends on mobile network operators. However, evidence of service provider entry and success continues to suggest that there are sufficient competitive pressures on mobile network operators for them to allow entry, thereby increasing competition at the retail level.

3.31 Whilst barriers to entry are a key part of the competitive context, many other factors can determine the overall state of competition in the market. High barriers to entry at the wholesale level are not in themselves conclusive evidence of collective dominance.

Market concentration/similar market shares

3.32 There are three main ways to measure market shares: by subscribers, volume of call minutes and revenue. The most recent market share statistics published by Oftel are given in Table 3.1 below. These market shares are calculated from retail level data, so include revenue accruing to ISPs for each network. So, for example, if Vodafone supplies the call origination and access to an ISP, the revenue earned by this ISP is captured in Vodafone’s market share statistic. These retail revenues therefore give a good indication of the position of market shares at the wholesale level. The exclusion of ISP revenue would have the effect of distorting the wholesale position regarding market shares.

Table 3.1 Market shares, October-December 2002

Source: Oftel Market Information, published April 2003

3.33 The revenue figures given in table 3.1 include SMS revenues. The impact of excluding SMS revenues would be minimal, the main effect being to transfer one per cent of revenue share from T-Mobile and O2 combined, to Vodafone and Orange combined.

Market share trends

3.34 It is important also to look at the trends in market shares. For subscriber numbers, Figure 3.2 below shows the shares over time.

Figure 3.2 Trends in shares of mobile subscribers

Source: Oftel Market Information

3.35 Traffic volume shares (see Annex E, Figure E.1) have become broadly reflective of subscriber shares, although Vodafone and Orange generate a higher call volume per subscriber. over time.

3.36 Figure 3.3 shows how revenue shares have changed. These revenue figures illustrate considerable change in the market:

• revenue shares have continued to converge; and
• Orange and O2 have continued to reverse their relative shares, such that Orange has now overtaken O2.

3.37 Differences in subscriber and traffic profiles lead to unequal shares in retail revenue. Oftel estimates that each post-paid subscriber generates on average about five times more revenue than each pre-pay customer. In general business subscribers will use post-paid packages: Oftel's November 2002 surveys showed that 79 per cent of business mobile customers used post-pay, whereas 72 per cent of residential customers used prepay. The relative volume of premium services, such as international calls and international roaming (mobile use abroad) is also important.

Figure 3.3 Trends in shares of mobile retail revenue

Source: Oftel Market Information

3.38 The following information helps in interpreting the revenue market shares:

• Vodafone has a high share of UK post-paid subscribers (34 per cent), and the lowest share of UK pre-pay customers (about 20 per cent). It also has high volumes for both international calls and international roaming;
• Orange has an above average share of post-paid subscribers, high international call volumes and increasing roaming volumes;
• O2 has an average share of post-paid subscribers, high roaming volumes but low international volumes; and
• T-Mobile has a low share of post-paid subscribers (14 per cent), low roaming volumes and low international volumes.

Concentration

3.39 Concentration measures combine the market shares of some or all of the firms in a market into a single measure. They can reflect both the absolute size of the shares of the leading firms and how unequally the market shares are distributed between them. Table 3.2 below compares the UK mobile market with the five other largest Western European markets, in terms of the Herfindahl-Hirschman Index (HHI) measure of concentration.

Table 3.2 Mobile market concentration in Western Europe, February 2003

Source: Mobile Communications, 4 March 2003. Italy has three mobile network operators as Wind is absorbing Blu's subscribers.

3.40 The HHI measures the sum of the squares of each network's market share - in this case in terms of subscriber figures (as this enables comparison with abroad). The HHI increases as both the number of firms diminishes and as market shares become more divergent. A monopoly would result in a value of the HHI of 10,000. A low value of the HHI would be consistent with an effectively competitive market.

3.41 The US Department of Justice and Federal Trade Commission Horizontal Merger Guidelines contain explicit thresholds defined in terms of the HHI. While it should be emphasised that these thresholds are for use in merger appraisal and not strictly evaluations of dominance, they provide a general indication of degrees of concentration beyond which competition is not likely to be effective.

3.42 A market with an HHI less than 1000 is considered ‘unconcentrated’, a market with an HHI between 1000 and 1800 is considered moderately concentrated and a market with an HHI greater than 1800 is regarded as ‘highly concentrated’. All the markets in the above table would therefore be regarded as highly concentrated for the purposes of the US Guidelines. This means that a merger would be subject to detailed scrutiny for possible adverse effects on competition, but it does not mean that the market is characterised by single or collective dominance. The UK is clearly the least concentrated market of those listed. Also, the figures above do not consider the existence of service providers or the new entrant, '3', although their inclusion would not currently bring the UK HHI below 1800.

Conclusion

3.43 The Director's initial conclusion is that the analysis of market share statistics does not provide strong support for a finding of collective dominance, because none of the measures of market shares have remained static. Both Vodafone’s and O2's revenue market shares have been steadily eroding over time, whilst those of T-Mobile and Orange have increased. Vodafone's and O2's lead on revenue and subscribers have fallen, such that Orange has overtaken Vodafone on subscriber numbers and O2 on both measures. This pattern of change in market shares is not indicative of collective dominance between two, three or four players.

3.44 It is also worth noting that although market concentration in subscriber terms would be regarded as high by most competition authorities, it has fallen over time and is likely to fall further with the entry of '3' as the fifth mobile network operator. Concentration in the UK market is low relative to other major European mobile markets.

Market maturity

3.45 Market maturity, particularly any evidence of stagnant or moderate demand side growth, is important because in a mature market there may be less incentive to compete aggressively. This situation would tend to create more favourable conditions for the adoption of co-ordinated behaviour, as there would be less incentive for existing players to compete to attract new customers, and less scope for successful market entry.

3.46 The latest Oftel figures show that about 70 per cent of UK residential consumers own a mobile phone. Penetration growth has slowed. Penetration grew by four per cent in 2002, having grown by ten per cent in 2001 (source: Mobile Communications).

3.47 An insight into the scope for further penetration growth can be gained by considering the customer segments that offer more scope for growth. Oftel's most recent consumer survey shows how penetration declines rapidly with age among consumers over 45. Over three-quarters of under 55s in the UK have a mobile (Oftel survey, Consumers' use of mobile telephony, November 2002). This compares to penetration of 61 per cent in the 55-64 age group, and only 43 per cent in the 65-74 age group. However, penetration figures for the year to November 2002 do not suggest rapid growth among the older age groups, and certainly not sufficient growth to increase overall penetration significantly.

3.48 On the other hand, comparison with other European countries indicates that there is potential for more growth in UK penetration. For example, penetration is about five per cent higher in Finland, eight per cent higher in Norway and ten per cent higher in Italy. Whilst there are some issues of comparability between countries these figures still seem to suggest some scope for growth in the UK.

3.49 An assessment against these criteria can look at growth in usage as well as growth in the number of subscribers. Oftel's market information statistics show that in July-September 2002, call volumes were up by 17 per cent on the previous year's figures. For the same period, the volume of SMS messages was up by 37 per cent. SMS is just one example of how the mobile sector is evolving at the level of individual services. As well as the volume of SMS messages sent, the proportion of consumers using SMS is also rising strongly. Looking forward, the market definition in mobile is likely to continue to evolve, as newer services become an increasingly important basis for competition. Such services include picture messaging and GPRS services, still in relatively early stages of growth, and the 3G data services that have just been introduced.

3.50 In conclusion, in some respects the high penetration indicates that this market can be considered to be mature, certainly if voice services alone are considered. However, even in voice, international comparisons suggest that further penetration growth is possible. More importantly, the nature of the market will change over time, as newer services become more important. As long as newer services continue to be generated, offering an incentive to compete for customers, the relative maturity of voice services should not significantly constrain the level of competition.

Technological maturity and advantages

3.51 In general high technological maturity can limit the dynamism of competition as there is less ability for individual mobile network operators, including new entrants, to change the nature of competition. Stable technological conditions are likely to facilitate the development of a common policy and the detection of deviations from that policy.

3.52 This section considers the degree of technological maturity, and whether any mobile network operators have particular technological advantages. Further technological issues are considered in Annex F.

3.53 The UK mobile market mainly uses GSM, a worldwide open standard (there are others such as TETRA in the UK, and CDMA2000). The ubiquity of this technology, and the ability to source equipment from many suppliers, would seem to make the likelihood of any UK mobile network operator having a technological competitive advantage small, and transitory. The technology is also mature. The same is true for '2.5G' services such as GPRS.

3.54 Looking at newer technologies, the impact of 3G technology is uncertain as it is not mature. The impact of wireless local area networks (WLANs) is also uncertain but likely to be limited in geographic scope.

3.55 In conclusion, Oftel considers that mobile voice technology is mature and that there is no sustained technical advantage for any of the mobile network operators. This would tend to make it easier to maintain a co-ordinated position in this market. The role and impact of new technologies is however less clear. As with market maturity, the evolving nature of the services upon which mobile network operators seek to compete will tend to limit the degree to which technological similarity constrains competition. As technology evolves, it is possible for mobile network operators to succeed on the basis of a series of temporary advantages in applying new technologies rather than a specific sustained technological advantage.

Pricing and profitability

Profits

3.56 In an effectively competitive market, Oftel would expect prices to reflect efficiently incurred costs including the cost of capital. The cost of capital is the minimum return on capital employed ('ROCE') necessary to encourage investment in a business. ROCEs that persistently and significantly exceed the cost of capital could indicate that prices charged by that particular mobile network operator are higher than would be found in an effectively competitive market.

3.57 It has been argued that Oftel should not be assessing overall profits when assessing the profitability of calls and access, because the overall profit figure includes returns for services such as call termination, which is a separate economic market. Oftel does not however accept that data on profitability at the aggregate level is irrelevant to an analysis of competitive conditions in the market for call origination and access.

3.58 As explained in the last mobile market review, although call termination is a discrete market, there is likely to be an economic relationship between the two markets, which means that pricing and profitability in one market will impact on pricing and profitability in the other market. The mobile network operators have themselves argued this, in claiming that 'swings and roundabouts' link the two markets. The 'swings and roundabouts' argument implies that a significant proportion of profits made on call termination is competed away in the outgoing calls and access market. Oftel believes that only if the access and call origination market were perfectly competitive would termination profits be fully offset by reductions in access or outgoing call prices. In circumstances other than perfect competition, a wide range of outcomes is possible, with varying proportions of the profits made in one market competed away in the other.

3.59 Oftel does not consider that the mobile access and call origination market is perfectly competitive. It does however consider that there is likely to be some relationship between the level of termination charges and the level of retail charges, but not such a precise and mechanical relationship as implied by the textbook model of perfect competition. This implies that it is reasonable to consider profits for the different mobile services together in this market analysis. This is consistent with the approach that Oftel has taken in the past.

3.60 Table 3.3 below provides ROCE figures for the UK mobile networks, including the most recently available figures. These ROCE figures are 'end to end' figures, i.e. they include returns for the wholesale and retail level. This is important in the assessment of competitive conditions at the wholesale level for two reasons. Firstly, if operators are exploiting dominance or joint dominance at either retail or wholesale level this is likely to show up in retail prices which are higher than they would be in a competitive market. Indeed, if competition between operators is sufficient for retail prices and hence end-to-end profits to be at the competitive level, it is not necessary to be concerned with how any profits are divided between retail and wholesale levels. Secondly, profitability at the retail level is likely to also give an indication of the competitive conditions at the wholesale level. This is because, any market power is most likely to arise from barriers to entry at the network level. Oftel believes that the margins available to retail service providers (ie the difference between retail prices and the wholesale charges levied by network operators) are likely to be relatively low so that end-to-end profitability is likely to be a good indicator of wholesale level profitability. The reporting years of the mobile networks vary so the periods covered are not directly comparable, but the trends are clear.

Table 3.3 Return on Capital Employed of the UK mobile network operators

Source: mobile network operators. Note that these figures are calculated on a Historic Cost Accounting (HCA) basis.

3.61 During the Competition Commission's inquiry into mobile call termination charges, Vodafone proposed a number of adjustments to Oftel's/Nera's method of calculating ROCE, which if applied to Vodafone's latest profits would reduce its ROCE to 29 per cent. Oftel did not accept that Vodafone had demonstrated that these were valid, but in any case, it seems clear that Vodafone's profitability would still be well above its cost of capital. The average cost of capital for mobile network operators has been calculated by the Competition Commission at 11.25 per cent in real terms.

3.62 Since the last review of the broad outgoing mobile sector, Vodafone’s ROCE has eroded marginally, and Orange's has nearly doubled. O₂’s profit has marginally increased. Overall the industry is marginally more profitable than before.

3.63 Although Vodafone's profits remain high, the widely varying levels of profitability between the mobile network operators, and the significant changes in relative profitability, do not support a finding of collective dominance in present circumstances. Moreover, the Competition Commission, in the report of its inquiry into mobile call termination charges said (paragraph 2.161):

Pricing

3.64 This retail indicator is important, because it gives an indication of competitive conditions at the retail level. This in turn is useful in assessing the competitive conditions at the wholesale level.

3.65 Oftel's analysis of tariff changes over the last year indicates continuing innovation in retail tariffs. For example, all mobile network operators have extended the range of contract tariffs on which the bundled minutes include cross-network calls. Bundles of cross-network minutes can now also be purchased as add-ons to many contract tariffs. All mobile network operators have extended the degree to which their contract tariffs can be tailored to the needs of individual subscribers. Pre-pay tariffs have also shown innovation, with a greater range of charges according to usage patterns. The mobile network operators also offer different choices for pre-pay. For example not all tariffs have different peak and off-peak rates, and one mobile network operator currently charges the same amount to call any mobile network operator. There has also been innovation in payment terms, with the ability to buy handsets by installments. This arguably indicates that there are continuing changes in tariffs, with an increasing range of tariffs and more variation between mobile network operators.

3.66 There are two main measures of pricing available to assess the relative prices of different mobile network operators. The first is simply a top-level division of total call revenues divided by total minutes. This is provided in table 3.4 below. The analysis shows that the average pence per minute call prices are somewhat higher for Vodafone and O2 than for Orange, which has a further, smaller price advantage over T-Mobile. However, the most notable change in the last year has been a significant fall in Vodafone's relative price advantage. This tends not to support any finding of single dominance for Vodafone.

Table 3.4 Average retail prices: total revenues divided by total minutes

3.67 The second measure of prices used by Oftel is a price model developed and maintained by Oftel that calculates the optimal price available with each mobile network operator for a range of customer types. By comparing mobile network operator prices for the same usage profiles, this model adjusts for the differences in subscriber profiles between the mobile network operators, for example the significant differences in the level of corporate business.

3.68 Oftel does not publish mobile network operator-specific prices from this model, Figures 3.4 and 3.5 below show anonymous versions of the price indices, covering the period from April 2001 to December 2002.

Figure 3.4 Oftel price index for post-paid packages (including handset)

Figure 3.5 Oftel price index for prepaid packages (including handset

3.69 Oftel's in-house price modelling work shows that:

• overall, average prices including handset costs have fallen by about nine per cent;
• no one mobile network operatormobile network operator is pricing consistently highest on either pre-pay or contract tariffs;
• there has been increased price turbulence in contract tariffs since the last mobile market review, with a number of changes in rank orders of the mobile network operatormobile network operators over the period; and
• there have also been some, although less marked, changes in relative pre-pay tariffs.

3.70 In conclusion, Oftel's information on both price measures indicates a degree of change in relative prices that does not appear to be consistent with collective dominance. Also, the change in Vodafone's relative pricing position does not indicate that it has single dominance. Given the relatively low entry barriers at the retail level, this movement of retail prices is likely to be reflective of that at the wholesale level. This further implies that wholesale prices are also not likely to be consistent with collective dominance.

3.71 Concern has been expressed about retail international roaming prices and off-net prices. Both are part of the retail cluster of services examined in this review. Prices for both may be affected by future competition and by potential regulatory action in the separate wholesale international roaming market and the voice call termination market (on each individual network).

Initial T-Mobile conclusions on pricing and profitability

3.72 The variations and changes in the networks' levels of profits, and the changes in relative prices, do not support a finding of collective dominance at the wholesale and retail levels. Overall prices are still on a downward trend, and tariff models continue to exhibit change, although costs are converging as network traffic grows. Overall, the indicators on pricing and profitability do not support a finding of collective dominance.

Low elasticity of demand

3.73 This is relevant to the analysis of collective dominance because there is less incentive on mobile network operators to reduce price to undercut competitors when customer demand does not change much in response to price changes. This in turn strengthens the case for a common strategy. The elasticity of demand is measured at the retail level, but retail consumer behavior is relevant to competitive conditions at the wholesale level, because the demand for wholesale products is a derived demand from the retail level. So if the elasticity of demand is very low at the retail level, this would be reflected in wholesale prices, which is relevant to the assessment of collective dominance at the wholesale level. Oftel has split the analysis of elasticity of demand into two aspects: customers’ ability to access and use information, and barriers to switching. These are discussed below.

Customers’ ability to access & use information

3.74 The evidence against this criterion is contradictory. On the one hand, consumer surveys suggest continuing problems in accessing and using comparative information. When asked to name the best mobile provider on a range of different aspects of mobile service (Consumers' use of mobile telephony, November 2002), between a third and two-thirds of consumers answered 'don't know'. Most of the rest named their own provider as the best on each aspect. When naming the worst provider in the same survey three-quarters or more answered 'don’t know'.

3.75 Research from the previous quarter's Oftel survey (Consumers' use of mobile telephony, August 2002) indicates that consumers think that there are differences between providers, up to 30 per cent thinking that providers differ by 'a lot' across a range of options. At least as many thought that providers differed by 'a little' on each aspect. One interpretation of these two surveys is that whilst many consumers think that there are some differences, they are not so sure who is best.

3.76 It may be that more comparative information would help. In Oftel's August 2002 survey, 44 per cent of mobile customers said that they were very or fairly likely to use comparative information on at least some of a variety of measures of network quality and customer service quality. Up to about half of these consumers also indicated that they would find more information useful on each of the measures.

3.77 One aspect of awareness that Oftel has looked at before is awareness of charges for using mobiles abroad (Consumers' use of mobile telephony, November 2002). A key feature of mobile use abroad is that users pay to receive incoming calls. However, only 28 per cent of all mobile users are aware of this, and even a quarter of those frequently using their mobiles abroad don't know that they pay for incoming calls.

3.78 However, there is other evidence that suggests that consumer awareness is not so much of an issue in practice:

• only three per cent of non-switchers cite working out who is best or cheapest as a cause for not switching their mobile provider (Oftel survey, Consumers' use of mobile telephony, August 2002);
• Oftel research also shows that an average 34 per cent saving would be needed in order to switch mobile provider;
• most consumers state that they do not switch due to satisfaction with their own provider; and
• Oftel has estimated that around half of all UK adult mobile consumers are already on the cheapest package relative to their usage pattern, and that the majority of the remainder appear to be making a rational non-price related decision to spend more.

3.79 Whether or not the reason for not switching arises from problems with consumer awareness, Oftel surveys do suggest that there is only likely to be a modest degree of responsiveness by consumers to changes in price, at least in the short term. This would tend to imply that price-cutting is less likely to take place, which would strengthen the potential for collective dominance. However, the changes in market share and price levels noted above suggest that consumers do respond to changes in price and other factors. The evidence on this criterion is therefore ambiguous.

Barriers to switching

3.80 Vigorous switching at the retail level increases retail competition. It will also impact positively on wholesale competition since demand for wholesale products is derived from that for retail products.

3.81 Just over a quarter of residential consumers say they have ever switched their mobile provider (Consumers' use of mobile telephony, February 2003). The level of switching has risen slightly despite falling handset subsidies since Spring 2001. About ten per cent of consumers currently switch annually (Consumers' use of mobile telephony, August 2002). About a third of switchers have switched more than once (Consumers' use of mobile telephony, February 2003).

3.82 In various Oftel surveys, most residential consumers state that they do not switch their mobile provider due to a lack of interest, a lack of need, or satisfaction with their current provider. It is possible that these results stem partly from weaknesses in consumers' perceptions of the alternative providers. Oftel has found continued weaknesses in tariff awareness among a large proportion of customers. Surveys showing that mobile providers are not seen by customers as being very different from each other, and that an average 34 per cent saving is needed in order to switch mobile provider, suggest that mobile customers would need to perceive significantly greater differences than they currently do for switching figures to be much affected.

3.83 Oftel has assessed various possible contractual/procedural barriers to switching in the past. On number portability, the process has continued to improve. Over two million ports have now been completed in the UK, and the number of ports in January 2003 was over 50 per cent higher than the figure for January 2002. Oftel has also assessed the impact of locking handsets to one mobile provider, in a review of its policy that was completed in November 2002. That review concluded that awareness of 'SIM locking' policies was low and should be improved by mobile providers, but that given the general attitudes to and extent of switching there may be only a limited impact from changing the policies themselves, certainly not without better consumer awareness as a precondition. As for the extent of the SIM locking barriers themselves, three of the four mobile network operators' policies have been relaxed since the last mobile market review ended in September 2001, and the mobile network operator whose policy has not changed already charged the lowest unlocking fee of the four mobile network operators at that time.

3.84 In conclusion, whilst some barriers to switching remain, they are being reduced over time. Survey evidence does not suggest that customer's reasons for not switching are strongly associated with the barriers. This criterion does not therefore provide strong support for any finding of collective dominance.

Absence of or low countervailing buying power

3.85 The assessment of countervailing buyer power can be divided into the power of retail customers and the power of the various intermediaries through which mobile network operators sell their services. This is relevant to the assessment of market power at the wholesale level, because, the presence of significant countervailing buyer power at the retail level has the effect of dampening market power at the wholesale level.

3.86 Dealing first with retail customers, very few are large enough to have significant buyer power. Mobile network operators have provided details to Oftel that indicate that only a limited share of the mobile network operators' revenue is accounted for by customers with more than a few hundred connections. The importance of any buying power exerted by direct retail customers of the mobile network operators is therefore likely to be limited relative to the overall customer base.

3.87 However confidential data provided by the mobile network operators indicates that most of their sales are not made directly to retail customers through the networks' own retail outlets. This suggests potential for countervailing power from dealers, distributors and independent retailers. The buyer power in this relationship would be exercised in negotiations over the level of connection payments made by mobile network operators to retailers (as well as the level of in-store promotion by retailers). Connection payments are subject to negotiation because independent mobile retailers can buy handsets from manufacturers and connect them to different networks, or to independent service providers (some of which are even owned by the retailer). This can benefit consumers because higher connection payments enable retailers to compete with each other by lowering retail prices to consumers. A simple form of the relationship between mobile network operators, customers and independent retailers is shown in Figure 3.6 below. The relationships can of course be more complex. For example, retailers may also sell the services of independent mobile service providers, and the degree to which handsets are bought separately may differ between retailers.

Figure 3.6

3.88 Retailers' bargaining power is supported by the brand strength of handset manufacturers. There are a limited number of large handset manufacturers, and Nokia alone accounts for about half of UK handset sales. Customer loyalty to handset brands makes it difficult for mobile network operators to avoid using popular brands or even specific popular handsets to supply their services. Mobile network operators are trying to supply more services through operator-specific handsets, but this is still at an early stage.

3.89 The mobile network operators claim that large retailers can have significant buyer power because of their strong high street presence. The Carphone Warehouse for example is a strong independent retailer, accounting for about a quarter of UK mobile connections. The Link and Phones4U are other major independent retailers dealing in both contract and pre-pay phones. Other large retail chains such as Dixons, Argos, Woolworths and the major supermarkets are major retailers of pre-pay phones.

3.90 The buyer power of these parties would be expected to increase according to the quantity and quality (ie revenue earning capability) of their customer base. Those with a higher proportion of contract customers would tend to be in the best position to exert power because contract customers spend more and represent a closer customer relationship. The existence of several large independent retailers selling contract phones potentially indicates a notable degree of buyer power. The sheer size of some of the retailers who are focused on pre-pay phones would also be expected to give them a degree of buyer power.

3.91 Oftel has asked mobile network operators and retailers to provide details concerning the bargaining power involved in their relationship. The information received suggests that large independent retailers are able to exercise significant bargaining power:

• independent retailers can quickly and radically change the number of connections placed with particular mobile network operators, and have done so in the past;
• this, together with the size of some retailers, enables them to extract better terms from the mobile network operators than smaller retailers; and
• increased concentration in the retail sector has strengthened these factors.

3.92 Looking forward, the fall in handset subsidies and a trend to more advanced services might reduce the relative importance of retailers focused mainly on pre-pay products. But if the concentration among independent retailers continues, their bargaining power should develop accordingly.

3.93 Of course, all the mobile network operators are well-recognised consumer brands, and the large mobile retailers depend on their relationships with the mobile network operators. The mobile network operators' high reach to a variety of retail outlets indicates their own negotiating power. But the relationship with larger retailers seems to be co-dependent. This is likely to diminish the potential for collective dominance as it would tend to increase the competition between mobile network operators rather than support the maintenance of a co-ordinated strategy.

Similar cost structures

3.94 Similar cost structures at the wholesale level will tend to dampen price competition in an oligopolistic market. This is because, for a given price level, similar costs will produce similar levels of profit, and this will facilitate the enforcement of a common pricing strategy. In addition cost homogeneity generally facilitates the detection of secret price cutting, since where costs are homogenous it is harder to claim that a price cut is not a deliberate attempt to depart from a common strategy.

3.95 Oftel shares the view of the Competition Commission on the relative costs of GSM 1800 and GSM 900 networks. Using economic depreciation, the costs of an 1800 network can be expected to be higher based on lower utilisation in the past, but the costs of the two types of network are essentially the same when analysed using accounting depreciation. Vodafone and O2 operate on GSM 900 networks, which have historically been lower cost networks for urban areas compared to the GSM 1800 networks used by T-Mobile and Orange. However, as network traffic is growing this cost advantage is diminishing.

3.96 In this chapter, some advantages are noted against other SMP criteria that impact on the relative costs borne by each mobile network operator. These advantages include economies of scale and the cost of raising capital. However, these advantages seem to be neither substantial nor inherently sustainable. Overall there do not seem to be significant differences in cost structures. This situation would tend to support the potential for maintenance of a co-ordinated position in the market.

Transparency

3.97 This criterion concerns the ability of mobile network operators to see what they are each charging, thus supporting the potential for maintenance of a co-ordinated outcome because competitors are able to discern any deviation from that outcome.

3.98 At the retail level, prices for most customers are fully published. Large customers who may obtain bespoke deals with undisclosed prices account for low shares of revenues and connections. At the wholesale level, information from the mobile network operators suggests that transparency of wholesale charges is not common. Vodafone has told Oftel that it publishes detailed information at wholesale as well as retail level, but Orange & T-Mobile have stated that they do not publish wh