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Summary Annex
A Notification 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. Markets and technical area considered in this review S.3 The markets and technical area considered in this review relate to wholesale services provided over fixed public narrowband networks. Wholesale services are services sold and purchased by communications providers rather than end-users. The markets considered are:
The technical area considered is:
S.4 The document contains an analysis of where Oftel’s proposed market definitions differ from those set out in the European Commission’s Recommendation on relevant product and service markets. Initial conclusions on Significant Market Power S.5 Oftel has considered whether Significant Market Power (SMP) is held by any providers in the markets, taking into account the European Commission and Oftel SMP Guidelines. S.6 The Director’s current view is that BT has SMP in the following markets in the UK excluding the Hull Area:
S.7 The Director’s current view is that Kingston has SMP in the following markets In the Hull Area:
Regulatory remedies S.8 The Director considers it appropriate to propose a number of remedies on both BT and Kingston in the markets where the Director is minded to conclude that they have SMP. In addition, in order to ensure that regulation in these markets is effective, the Director also considers it appropriate to propose remedies in relation to interconnection circuits. S.9 The Director proposes to impose the following obligations on BT:
S.10 The Director proposes to impose the following obligations on Kingston:
S.11 The Director proposes to make a direction requiring BT and Kingston to comply with the CPS Functional Specification. He also proposes to make two directions requiring BT to comply with the Wholesale Analogue Line Rental Functional Specification and the Wholesale ISDN Line Rental Functional Specification. S.12 The Director considers that the proposals in this review represent a proportionate response to the market analysis carried out. BT is clearly dominant in many of the markets considered. The measures proposed will enable competitors to purchase wholesale services from BT in order to develop their own retail services that will in turn further competition and deliver benefits to consumers. Some regulatory obligations have been removed, in particular the obligation to provide interconnection agreements and to notify customer contracts for carrier pre-selection. There is some new regulation proposed on BT particularly in respect of the provision of ISDN2 and ISDN30 wholesale line rental products in business markets. S.13 In the Hull Area, Kingston has a similar position of dominance to BT in the markets considered. The Director therefore proposes that it be subject to a similar regulatory regime, but that this should reflect matters of proportionality, recognising the smaller size of the potential market. The proposed regulation on Kingston is similar to that currently in place. Consultation S.14 The Director is seeking comments on his proposals by 30 May 2003. Once he has considered all responses, the Director will publish his final proposals and these will take effect from 25 July 2003. Comments should be sent to Selina Chadha, Oftel, 50 Ludgate Hill, London EC4M 7JJ, e-mail: selina.chadha@oftel.gov.uk and tel: 020-7634 5307. A full list of the questions to which Oftel is seeking responses can be found in Annex I. S.15 The formal draft notification of the proposed market definition, SMP designation and specific conditions can be found in Annex A. S.16 The proposed draft directions and the obligations set out therein can be found in Annexes B and C.
Chapter 1IntroductionA 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:
1.2 The new regulatory framework is designed to create harmonised regulation across Europe and is 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. They will be referred to as the ‘new Directives’ in this document. 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 new Directives and has an implementation date of 31 October 2003. Implementation 1.4 In the UK, it is intended to implement the four new 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.communicationsbill.gov.uk. The latest version of the Communications Bill is that which was amended in Committee in the House of Commons on 6 February 2003. It can be found at that website. 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 General of Telecommunications (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 relevant 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, the Director 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 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. Oftel aims to have the reviews completed by 25 July 2003 to ensure that any appropriate and proportionate regulation flowing from them is in place for the commencement of the new regime on that date. 1.9 Each market review has three stages:
1.10 More detailed requirements and guidance concerning the conduct of market reviews are provided in the Directives, the Communications Bill, 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 as published in the Official Journal of the European Communities on 11 July 2002 (the ‘SMP Guidelines’). Oftel has produced additional guidelines on the criteria to assess effective competition, which can be found at www.oftel.gov.uk/publications/about_oftel/2002/smpg0802.htm. 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 found, Oftel will also give consideration to its regulatory option appraisal guidelines published in June 2002. These can be found at: www.oftel.gov.uk/publications/about_oftel/2002/roa0602.htm. Markets considered in this review 1.14 The markets considered in this review relate to wholesale services provided over fixed public narrowband networks. Wholesale services are services sold and purchased by communications providers rather than end-users. 1.15 Fixed public narrowband networks can be broken down into segments such as exchange lines and call origination. In order to provide a complete communications service, such as a call, to end-users, providers do not have to build entire communications networks but can purchase segments from other networks. The markets listed below relate to particular network segments. Figure 1.1 Exchange line Exchange line
Wholesale exchange line services 1.16 Wholesale exchange line services are services provided across the link between the end-user and the remote concentrator unit at the local exchange. The following exchange line markets are examined:
1.17 The wholesale services set out in paragraphs 1.18 to 1.21 are segments that comprise an end-to-end call. Call origination 1.18 Call origination is the conveyance of a call originating on a customer’s exchange line from the remote concentrator to and over the local exchange. Local-tandem conveyance and transit 1.19 Local-tandem conveyance (LTC) and local-tandem transit (LTT) are services that convey traffic between a local and a tandem exchange. Wholesale transit services Inter-tandem conveyance and transit 1.20 Inter-tandem conveyance (ITC) and inter-tandem transit (ITT) are services that convey traffic between tandem exchanges. Single Transit 1.21 Single transit is the service a transit operator provides at a single tandem exchange to convey a call from one network to another when a call originates and terminates on networks other than its own. Technical areas considered in this review 1.22 Oftel has the ability to apply remedies to technical areas as part of the overall obligation that addresses SMP in a particular market. Interconnection circuits have been identified as an appropriate technical area and are discussed in Chapter 8. Notification 1.23 Annex A contains the formal notification of the proposals made by the Director as a result of the review, including the markets defined, the designation of SMP and the conditions proposed as a result of the market analysis. This implements the provisions of Regulation 5(1) of the Regulations. 1.24 This document, including the formal notification in Annex A, has been made accessible to the European Commission and to the regulatory authorities of other Member States, in accordance with the scheme of the Directives.
Chapter 2 Current regulatory environment2.1 Oftel has imposed a number of regulatory measures to address market power in the markets considered in this review. Currently both BT and Kingston, in their respective areas, have been determined as having Significant Market Power (SMP) in the provision of fixed networks and services under the Interconnection Directive 97/33/EC. SMP under the Interconnection Directive is not equated with dominance as it is under the new Directives. It does not relate to economic markets but to three broad sectors: fixed, leased lines and mobile. In addition, under the Interconnection Directive a presumption of SMP arises with a market share of 25 per cent whereas dominance is normally presumed where there is a market share of 50 per cent. 2.2 The current regime is aimed at enabling competition by ensuring that operators are able to interconnect to the networks of BT and Kingston and purchase wholesale interconnection services on the same terms and conditions as BT’s and Kingston’s own downstream activities and other operators. In addition, charges for interconnection services are constrained and BT has been subject to a charge control that has required it to reduce its charges annually. 2.3 The following obligations, relevant to the markets considered in this review, are currently imposed on BT and Kingston:
2.4 The following obligations, relevant to the markets considered in this review, are currently imposed on BT only:
2.5 Further details of these obligations can be found in Annex D.
Chapter 3Approach to market definition and market power assessmentMarket definition 3.1 There are two dimensions to the definition of a relevant market: the relevant products to be included in the same market and the geographic extent of the market. Oftel’s approach to market definition follows that used by UK competition authorities (see Office of Fair Trading Market Definition Guideline, OFT 403, March 1999, that can be found at: www.oft.gov.uk/Business/Legal+Powers/ca98+publications.htm#guide) and is in line with those used by European and US competition authorities. 3.2 Market boundaries are determined by identifying constraints on the price-setting behaviour of firms. There are two main competitive constraints to consider: how far it is possible for customers to substitute other services for those in question (demand- side substitution); and how far suppliers could switch, or increase, production to supply the relevant products or services (supply-side substitution) following a price increase. 3.3 The concept of the ‘hypothetical monopolist test’ is a useful tool to identify close demand side and supply side substitutes. A product is considered to constitute a separate market if a hypothetical monopoly supplier could impose a small but significant, non-transitory price increase (SSNIP) above the competitive level without losing sales to such a degree as to make this unprofitable. If such a price rise would be unprofitable, because consumers would switch to other products, or because suppliers of other products would begin to compete with the monopolist, then the market definition should be expanded to include the substitute products. 3.4 Sometimes an additional consideration is whether there are common pricing constraints across customers, services or areas such that they should be included within the same relevant market even if demand and supply side substitution are not present. Relationship between the wholesale and retail markets 3.5 This consultation document defines the relevant markets both at the retail and the wholesale level. Consideration of the relevant retail markets logically precedes the analysis of the wholesale markets, since the demand for wholesale services is derived from the demand for retail services. 3.6 The purpose of this market review is to assess whether a provider has SMP in a wholesale market and to identify appropriate remedies to address the existence of market power. It is, therefore, necessary for the definition of retail markets to be undertaken in the absence of regulation of wholesale services. To do otherwise would mean that the wholesale market power assessment would depend on a retail market definition that relied on a wholesale remedy arising from the finding of wholesale market power. This would be a circular and incorrect approach to market definition. Therefore, the demand side and supply side substitution possibilities at the retail level are considered only if they are viable in the absence of regulated wholesale inputs. Substitution possibilities and additional constraints 3.7 Markets are defined first on the demand side. The analysis of demand side substitution will be undertaken by considering if other retail services could be considered as substitutes by consumers, in the event of the hypothetical monopolist introducing a SSNIP above the competitive level. 3.8 Supply side substitution possibilities are then assessed to consider whether they provide any additional constraints on the pricing behaviour of the hypothetical monopolist which have not been captured in the demand side analysis. In this assessment, supply side substitution will be considered as a low cost form of entry, which could take place within a relatively short period of time. The OFT Guidelines on Market Definition, OFT 403, March 1999, consider the relatively short period to be within a year. That is, for supply side substitution to be relevant, there would need to be additional competitive constraints arising from entry into the supply of the service in question, from suppliers who are able to enter quickly and at low cost, by virtue of their existing position in the supply of other services. As discussed earlier, only those supply side substitution possibilities that are viable in the absence of unregulated wholesale inputs will be considered as relevant to the analysis. 3.9 There might be suppliers who provide other retail and wholesale services but who might also be materially present in the provision of demand side substitutes to the service for which the hypothetical monopolist has raised its price. However, such suppliers are not relevant to supply side substitution, as they supply services already identified as demand side substitutes. As such, their entry has already been taken into account and so supply side substitution cannot provide an additional competitive constraint on the hypothetical monopolist. However, the impact of expansion by such suppliers can be taken into account in the assessment of market power. Market power assessment 3.10 Under the new Directives SMP has been newly defined so that it is equivalent to the competition law concept of dominance. Article 14(2) of the Framework Directive provides: "An undertaking shall be deemed to have significant market power if, either individually or jointly with others, it enjoys a position equivalent to dominance, that is to say a position of economic strength affording it the power to behave to an appreciable extent independently of competitors, customers and ultimately consumers." 3.11 SMP may be held by only one company in the market (single dominance) or by more than one company (collective dominance). In assessing whether SMP exists, this review takes account of the European Commission and Oftel SMP Guidelines referred to in Chapter 1. The relationship between the market reviews and Competition Act 1998 and Enterprise Act 2002 investigations 3.12 The economic analysis carried out in this consultation document is for the purposes of determining whether an undertaking or undertakings have SMP in relation to this market review. It is without prejudice to any economic analysis that may be carried out in relation to any investigation or decision pursuant to the Competition Act 1998 or the Enterprise Act 2002.
3.13 The fact that economic analysis carried out for a market review is without prejudice to future competition law investigations and decisions is recognised in Article 15(1) of the Framework Directive which provides that: "…The recommendation shall identify …markets …the characteristics of which may be such as to justify the imposition of regulatory obligations …without prejudice to markets that may be defined in specific cases under competition law…"
3.14 This intention is further evidenced in the European Commission’s SMP guidelines, which state:
3.15 In addition, it is up to all operators to ensure that they comply with their legal obligations under all the laws applicable to the carrying out of their businesses. It is incumbent upon all operators to keep abreast of changes in the markets in which they operate, and in their position in such markets, which may result in legal obligations under the Competition Act 1998 or Enterprise Act 2002 applying to their conduct. Information from stakeholders 3.16 In September 2002, Oftel requested information from stakeholders for the purposes of this market review. Oftel has received a number of responses and has also held discussions with a few providers that have informed its proposed market definitions and market power assessments in Chapters 4 to 7. Consumer research in the Hull Area 3.17 Oftel has commissioned separate research into consumers’ use of fixed telecoms in the Hull Area. This research has shown similar results to research conducted for the whole of the UK and on this basis, Oftel considers that consumer behaviour in relation to fixed narrowband communications markets in the Hull Area does not differ to any material extent from consumers in the whole of the UK.
Chapter 4Wholesale fixed narrowband exchange line services4.1 This chapter considers market definition and the assessment of SMP in fixed narrowband exchange line markets. Relationship between the wholesale and retail markets 4.2 The markets relevant to this chapter can be distinguished at two vertical levels: retail and wholesale. The analysis of retail market definitions is logically prior to the definition of the wholesale markets, because the demand for the wholesale service is a derived demand, ie the level of demand for wholesale services depends on the demand for retail services. The wholesale markets for fixed narrowband exchange line services are therefore defined by reference to the relevant retail markets. The wholesale markets will generally be at least as broad as the retail markets to the extent that the retail definitions are driven by demand side substitutes. Description of the relevant retail products 4.3 This chapter is intended to address those markets that provide customers with access to:
4.4 The market definitions that follow are intended to relate to the service being delivered, and not the underlying technology. This means that:
4.5 Before defining the relevant fixed narrowband exchange line markets, the following summarises the different types of exchange lines and the voice and Internet services that are provided over them in both the residential and business markets. There is particular emphasis on those service characteristics that differentiate the line types. Exchange line types 4.6 BT and Kingston currently provide the following types of exchange lines over their direct access networks:
4.7 The UK cable companies, ntl and Telewest, currently provide the following types of access services over their cable networks:
4.8 A number of other operators provide ISDN access services to larger business sites, using their own fibre or wireless access networks. Most of these exchange lines are ISDN30, since the provision of ISDN2 over fibre or wireless tends to be inefficient. The services offered are similar to the ISDN30 services offered by BT and Kingston. Access services relevant to residential customers 4.9 Most residential customers obtain their voice telephony service via either analogue exchange lines, or cable telephony. The requirements for residential telephony are fairly straightforward, including some basic Select Services such as Caller Display and Call Waiting, but not the wide range of Select Services used by business customers. 4.10 Many residential customers also use an analogue exchange line to provide dial-up Internet access. However, some residential customers requiring higher bandwidth have upgraded to 128kbit/s digital access. The specific services that are included within this category are BT’s residential ISDN2 service (Home Highway) and ntl’s 128kbit/s cable modem service. Key attributes of these services include:
4.11 Another important characteristic is the type of equipment that customers connect to the exchange line. Residential customers will sometimes connect multiple terminal devices to a single exchange line. For example, Home Highway allows multiple ISDN terminal devices (telephones, faxes and PCs) to be connected to a single exchange line. Residential customers will not normally connect a PBX to an exchange line. Access services relevant to business customers 4.12 The access services required by business customers can be different to those required by residential customers. Very small businesses such as SoHo (Small Office Home Office) will share similar characteristics to residential users. However, businesses with more than a few employees will often need multiple voice channels. This can be supported via multiple analogue exchange lines but many larger businesses will meet this requirement by using multiple ISDN channels. Businesses requiring up to 8 voice channels will typically use ISDN2, and businesses requiring in excess of 8 voice channels will typically use ISDN30. These multiple voice channels will normally be routed via a PBX. It is possible to connect multiple analogue exchange lines to a single PBX and configure these lines so as to share the same directory number. However, many modern ISDN PBXs require ISDN exchange lines. These ISDN exchange lines will often be provided in conjunction with Direct Dialling In (DDI), in order to allow direct dialling to individual PBX extensions. 4.13 The more complex call-handling requirements of many business customers lead to the provision of an enhanced set of supplementary services over a typical business exchange line. For example, BT’s business ISDN2 service supports a much wider range of Digital Select Services than its residential ISDN2 service, including such services as Call Deflection and Call Forwarding. In addition, many larger business customers require a telephony solution that does not just support multiple employees but also supports multiple sites. 4.14 It is likely that very small business customers are likely to use narrowband exchange lines for both Internet access and voice telephony. However, as the size of the business increases, it becomes more likely that the business will obtain its Internet access via a separate broadband connection or leased line. The primary function of a narrowband business access service (analogue or digital) for larger businesses is to support business telephony. Retail market definitions 4.15 As explained earlier, Oftel will formally define the relevant retail markets in order to inform the later definition of the relevant wholesale markets. Retail product market 4.16 In order to define the relevant product markets, it is necessary to consider whether:
Fixed narrowband access vs. other forms of access 4.17 In order to establish whether fixed narrowband access is distinct from other forms of access, it is necessary to consider whether:
4.18 As well as considering potential demand side substitutes to fixed narrowband lines at the access level it is also necessary to examine the services that customers can obtain over these lines. This is known as the ‘buy-through’ effect such that the potential substitutability of exchange lines will depend on the relative prices of the services obtainable over them. Fixed Narrowband Access vs. Mobile Access Demand side substitution: fixed and mobile voice 4.19 On the demand side when considering access for the purpose of voice telephony, mobile phones may be viewed by consumers as ‘added value’ versions of fixed line phones. The latter are attached to a place, the former belong to a person and can travel with that person. This ‘added value’ element, resulting from the convenience of being able to make and receive calls on the move, suggests that fixed lines are unlikely to act as substitutes for mobiles. However, some mobile operators have argued the alternative view, namely that mobile phones can be substitutable for fixed phones, since they have the same function as a fixed phone but with a mobility element. 4.20 Quantitative research in November 2002 (published January 2003) found that only seven per cent of UK adults use only mobiles to make and receive telephone calls. This is slightly higher than figures found in surveys conducted earlier in the year, which had indicated that approximately five to six per cent of UK adults use mobiles only. However, even with this slight rise, it is still apparent that over 90 per cent of UK adults continue to use their fixed line. This seems to indicate that the growth of mobile access can largely be seen as an adjunct to fixed narrowband access rather than a substitute. 4.21More detailed analysis from a survey conducted in February 2002 (published April 2002) had shown that only about 17per cent of UK adult consumers use their mobile as their main method of phone calls and, of these, eight out of ten have a fixed line at home. Further, the survey found that 77 per cent of residential consumers still consider their fixed line as their main method of making and receiving calls. Consumers who choose predominantly to use only mobiles appear to do so due to the distinguishing feature of mobiles ie the mobility element. 4.22 Although these results suggest that mobile is a separate access market to fixed, other survey results have indicated that many consumers do substitute between fixed and mobile for certain types of calls. The research carried out in August 2002 (published October 2002) found that around two-thirds of consumers with both fixed and mobile phones claim to select their mobile rather than fixed phone in a range of circumstances. Although this percentage has remained virtually unchanged over the past two years, the increase in mobile penetration means that in terms of actual consumers this represents a rise of almost one million. 4.23 Evidence of changing call patterns can be found from Oftel’s Market Information. This shows that the number of voice minutes from fixed lines has continued to fall over recent quarters. However, this fall in call minutes from fixed lines has been more than offset by an increase in call minutes from mobile phones, meaning that the overall trend in minutes is still upward. This said, it should be noted that it is not sufficient to rely on trends in fixed and mobile voice call volumes to infer direct substitution as the causal explanation. Some of the decline in fixed voice call volumes is likely to reflect other non-mobile related factors. However, even if substitution to mobile calls is the key driver in these volume trends, it is not yet sufficient to warrant identification of a single market. 4.24 The main reason that mobiles are not more widely used as a substitute for fixed calls appears to be due to price. Although there is some evidence that mobile and fixed telephony tariffs are converging, there is still a premium attached to the extra functionality of mobile phones for most types of call. This continuing premium is relevant to customers making choices regarding fixed narrowband and mobile access due to the buy-through effect. 4.25 Oftel has conducted a comparison of fixed and mobile prices over the period December 1998 to December 2002, comparing the overall trends in the best deal available to consumers, using either BT or the cheapest mobile package, for a range of usage profiles. The analysis indicates that for comparable usage packages, mobile prices are on average about 20 per cent above fixed prices (using BT’s prices as typical for fixed telephony prices). This figure varies considerably for different types of users, with Oftel’s analysis indicating that mobile prices are between four per cent and 36 per cent more expensive than fixed depending on the usage profile selected. Generally, it seems that peak users face the highest premiums for using mobile telephones. 4.26 Having said this, mobile prices have, over the past few years, been falling faster than fixed prices, meaning that the gap between them has narrowed. But more recent evidence suggests that the rate of decrease of mobile prices has begun to slow meaning that the speed of convergence has also slowed. Oftel’s analysis indicates that between June 2001 and June 2002 mobile prices fell by approximately 4.3 per cent compared with a fall in BT’s prices of 2.7 per cent. Nevertheless, as long as this price convergence continues, then we may begin to see more evidence of mobile calls substituting for fixed in future. 4.27 One important message coming through from the qualitative results is that a majority of mobile phone calls made by consumers are short convenience calls such as calling someone whilst walking home from the station – the type of call that, by definition, cannot be made from a fixed line. The qualitative analysis suggests that the advent of the mobile has, to a significant degree, expanded the market for access and calls, rather than substituting for fixed access and calls, implying that a large majority of mobile access and calls are an adjunct to fixed narrowband access and calls. 4.28 It has previously been argued by Oftel that future developments in the competitiveness of UK telecommunications markets may encourage the extent of substitution between fixed and mobile access and calls, as mobile networks expand, evolve to cater for more advanced forms of data transmission, voice quality matches that of fixed and as mobile prices fall. This is further supported by the analysis above. However, mobile operators’ traffic sensitive costs, and thus call prices, are expected to remain above those of fixed networks. Consumers are also likely to be willing to pay a premium for the additional convenience of mobiles. Oftel believes that taking the buy-through effect into account, a SSNIP by a hypothetical monopolist in the provision of fixed narrowband access is unlikely to be rendered unprofitable by significant demand side substitution to mobile access. Demand side substitution: fixed and mobile Internet Access 4.29 Call origination on mobile networks is not an effective demand side substitute for call origination for narrowband Internet access on fixed networks. Internet access on a mobile phone currently offers considerably less functionality than using a fixed network. For example, only a fraction of the Internet is accessible over a mobile telephone and only part of this fraction is delivered because of the constraints of screen size on mobile telephones and interactivity is constrained because of the lack of a full-size keyboard. The prices for using Internet access over mobile networks are also generally high relative to Internet access over fixed lines. The extent of substitutability might need to be reviewed in future following the take-up of new mobile technologies offering packet switched services, such as General Packet Radio Service (GPRS) and Universal Mobile Telecommunications System (UMTS, also known as 3rd Generation Communications System). Supply side substitution: fixed and mobile 4.30 On the supply side, there appear to be few opportunities for substitution between mobile and fixed narrowband access services. There are high sunk costs involved in building a fixed narrowband access network, which cannot be recovered on exit. A potential entrant will only incur the sunk costs of investment if it expects to recover these sunk costs as well as the ‘avoidable costs’ of production (ie the costs that the provider would avoid if it were to stop the activity associated with the costs incurred) from revenues earned. This barrier to supply side substitution is further exacerbated by the significant economies of scale and density that characterise telecommunications access networks. Thus again, substitution on the supply side would not render the SSNIP of a hypothetical monopolist in fixed narrowband access unprofitable. Conclusion: fixed and mobile 4.31 The above considerations of the substitutability of fixed narrowband access with mobile access suggest that the two are not effective substitutes at the retail level on either the demand or supply sides when being used for either voice telephony or Internet access services. Fixed narrowband access vs. broadband access 4.32 Any potential substitutability between narrowband and broadband access services will be driven by potential substitutability between the applications that the two types of access support. As Oftel considers that, leased lines aside (these are considered later in the analysis), broadband access is predominantly used to support Internet access, it is key to consider the extent to which narrowband Internet access and broadband Internet access are substitutable. 4.33 Substitution between narrowband Internet access and broadband Internet access is mainly relevant to the provision of residential analogue exchange lines and residential 128k exchange lines. As explained above, Oftel believes that the majority of narrowband business exchange lines support business telephony and not Internet access and, therefore, there is significantly less scope for substitutability between business narrowband exchange lines and broadband Internet access. 4.34 Broadband Internet access via ADSL or cable modems has a number of characteristics that individually or as a group distinguish it from narrowband Internet access via analogue or ISDN exchange lines:
4.35 Oftel notes that ntl’s narrowband cable modem service can be always on and does not tie-up a customer’s telephone service when they are accessing the Internet. Demand side substitution: narrowband and broadband 4.36 In considering whether narrowband and broadband services are effective substitutes, in the present context, it is necessary to consider whether broadband services constrain narrowband prices to the competitive level such that a hypothetical monopolist in the supply of narrowband Internet access services would not find a SSNIP profitable. 4.37 Narrowband and broadband Internet access are to some extent demand side substitutes. Whether or not the extent of substitution is sufficiently large for them to be in the same market turns on the relationship between consumers' relative willingness to pay for the higher quality of broadband Internet access compared with the evolving price and cost differential between broadband and narrowband Internet access. The cost differential is relevant because the competitive level of prices for each service would reflect costs. 4.38 The ideal market information to address this question would be the extent to which changes in the relative prices of narrowband and broadband Internet access affect the quantities demanded of the two services. Such information would allow the relevant cross price elasticities to be calculated. However, such evidence is not yet available, due to the immaturity of broadband Internet access services. A robust analysis of narrowband and broadband cross price elasticities will only be possible as broadband Internet access services mature, prices gravitate to a longer term equilibrium based on maturing underlying costs and broadband and narrowband customers develop a greater understanding of the relative functionalities of Internet access services. 4.39 In the absence of a robust cross price elasticity analysis, the question of demand side substitutability of narrowband and broadband Internet access is considered with reference to:
Current narrowband and broadband price differentials Analogue 4.40 As explained in the consultation document, Review of the wholesale unmetered narrowband Internet termination market, March 2003, the Director considers there to be two distinct narrowband Internet access retail markets, metered and unmetered. Oftel believes that it is useful to consider each type of narrowband Internet access in turn, as there is the potential for broadband services to impose different pricing constraints on each of them. Metered narrowband vs. broadband 4.41 Metered Internet access users are distinguished from other types of Internet access users by the fact that they tend to be relatively low volume users of the Internet. The benefits of a broadband access service are therefore unlikely to outweigh the price premium for broadband access for these types of users given current price differentials. Therefore, if a hypothetical monopolist raised the price of narrowband metered Internet access by ten per cent, it is unlikely that a sufficient number of these users would switch to broadband to make this price rise unprofitable. Therefore, demand side substitution with broadband is unlikely to provide a constraint on metered narrowband Internet access. Unmetered narrowband vs. broadband 4.42 Unmetered narrowband and broadband share the feature of unlimited access to the Internet. It is possible therefore that unmetered Internet access users may perceive broadband access as a closer substitute than metered narrowband access users. 4.43 It is useful to distinguish two types of unmetered narrowband users. Typical narrowband unmetered access users are those with a single telephone line connected to the Internet by a modem, paying a flat fee per month. The other type of unmetered narrowband users have a second telephone line that is dedicated to the Internet. In addition to the unlimited access, such users would value the ability to use the telephone for voice calls while connected to the Internet that the second line provides. In that sense, the narrowband connection offers them one of the features of broadband. 4.44 It is useful to consider price differentials between narrowband unmetered access, with both a single line and with two lines, and broadband access. Some examples of current prices are provided in the table below; it assumes that the customer already possesses an analogue exchange line. Table 4.1: Current narrowband and broadband prices
Source: Suppliers’ websites. If not stated otherwise all prices include VAT. 4.45 Given this pricing information, it is necessary to consider whether in the event of the hypothetical monopolist of unmetered narrowband access raising the price by 10 per cent, there would be sufficient demand side substitution to broadband that would make the SSNIP unprofitable. 4.46 The above table illustrates that monthly rates for a single line unmetered package are much lower than a broadband package and hence even if prices increased by 10 per cent, prices would still not be comparable. Hence it is unlikely that this would constrain a hypothetical monopolist from finding a SSNIP in narrowband unmetered Internet access profitable, as there are unlikely to be sufficient narrowband unmetered customers who value the extra functionalities of broadband Internet access enough to pay for this price (and assumed cost) differential between the two types of access. Therefore, demand side substitution with broadband is unlikely to provide a constraint on unmetered narrowband single line Internet access. 4.47 Turning to consider unmetered narrowband customers with dedicated second lines, the prices paid by these customers are much closer to, and even in excess of, available broadband prices, taking into account connection fees and modem costs. It could, therefore, be argued that at current price levels there is a strong incentive for narrowband customers with a second line to move to some broadband packages due to the additional features that broadband can offer at similar prices. It is likely that many of these narrowband customers will have already switched to broadband. 4.48 Those narrowband customers who still choose to use a narrowband connection with a second line probably do not place a higher value on the additional features of broadband. It seems likely to Oftel that these customers will represent a relatively small proportion of narrowband unmetered customers. Even if all of these second line customers switched to broadband in reaction to a SSNIP by a hypothetical monopolist of narrowband unmetered Internet access, their numbers would be insufficient to render the SSNIP unprofitable. In addition, there may be customers who do not have the potential to access reasonably priced broadband services and are not likely to have such access in the near future. Faced with a price rise, such customers would not be able to switch and therefore could not constrain the monopolist's ability to raise prices profitably. ISDN and 128kbit/s-capable digital access services 4.49 Having considered the demand side substitutability of narrowband Internet access provided over analogue lines and broadband Internet access, the following considers the potential for demand side substitution between narrowband Internet access provided over ISDN/128kbit/s-capable digital access services and broadband Internet access. As is explained in detail later in this chapter, the Director defines separate narrowband access markets for: residential analogue exchange line services; residential 128kbit/s-capable digital access services; business analogue exchange line services; business ISDN2 exchange line services; and ISDN30 exchange line services. As noted above, larger business customers’ usage of ISDN2 and ISDN30 narrowband access is primarily to obtain multiple switched voice channels and not Internet access. Consideration here thus focuses on residential 128kbit/s-capable digital access narrowband customers obtaining Internet access. The potential retail substitutability of narrowband access and leased lines (used to provide business voice and data services) is considered later in this chapter. 4.50 Oftel does not consider that residential 128kbit/s-capable digital narrowband Internet access customers would find broadband Internet access an adequate substitute at cost based prices. 4.51 128kbit/s-capable digital narrowband access is currently provided in the UK via ISDN2 and cable modem services. As explained in detail later in this chapter, Oftel does not consider that BT’s ISDN2 prices are currently set at the competitive level and therefore ISDN2 narrowband access is not considered in the present analysis. This pricing analysis concentrates on 128kbit/s-capable digital access provided over cable. ntl are currently the only providers of this service. 4.52 Pricing comparisons between ntl’s narrowband unmetered 128kbit/s-capable digital Internet access and broadband Internet access are made simple by the fact that ntl’s 128kbit/s Internet service, when taken with cable voice telephony, allows simultaneous voice and unmetered Internet calls as with broadband Internet access. This means that a direct comparison between the price of broadband Internet access services offered by ISPs, such as Pipex and ntl, can be made with the price of ntl’s 128kbit/s Internet access service. 4.53 As can be seen from Table 4.1, the monthly rental charges for broadband Internet access range from approximately £23.50 to £30 and are also subject to connection and modem charges. ntl’s residential broadband standard price is £24.99 per month plus a connection fee of £25 (currently being waived by ntl as a special offer due to expire on 30 June 2003). When these prices are compared to ntl’s 128kbit/s Internet access price of £14.99 per month (including free rental of cable modem equipment) with the same £25 connection fee, it is clear that the price of 128kbit/s Internet access is much lower than a broadband package. 4.54 Even if 128kbit/s-capable digital Internet access prices increased by 10 per cent, these prices would still not be comparable to broadband Internet access prices. Hence, it is unlikely that this would constrain a hypothetical monopolist from finding a SSNIP in 128kbit/s-capable digital Internet access profitable, as there are unlikely to be sufficient narrowband 128kbit/s-capable digital Internet access customers who value the extra functionalities of broadband Internet access enough to pay this price differential between the two types of access. Therefore, demand side substitution with broadband is unlikely to provide a constraint on narrowband 128kbit/s-capable digital Internet access. 4.55 It therefore appears unlikely that there would be sufficient demand side substitution between narrowband unmetered Internet access (provided over both analogue exchange lines and 128kbit/s-capable digital exchange lines) and broadband access for these services to be subject to a common pricing constraint. Therefore demand side substitution with broadband is unlikely to provide a sufficient constraint on a hypothetical monopolist in the supply of all unmetered narrowband Internet access such that it would render a SSNIP unprofitable. 2002 broadband price falls 4.56 It is difficult to be precise regarding the relative reduction in retail broadband Internet access rental prices, compared to narrowband, that has occurred over the course of 2002. This is because of issues relating to the treatment of connection and modem charges, both in terms of the correct period over which to amortise these charges in the absence of mature customer life information and the fact that these charges are subject to numerous special offers in order to win broadband customers. However, over the period of 2002, Oftel estimates that the relative price of residential broadband rental generally reduced in the region of 20-30 per cent. This is likely to be as a result of a reduction in the underlying costs of providing these still maturing services as operators start to achieve scale economies, coupled with an industry desire to encourage broadband take-up. 4.57 As the relative price of broadband Internet access fell its take-up in the UK rose significantly. From confidential information received from both narrowband and broadband Internet access providers Oftel believes that the majority of new broadband subscribers in 2002 migrated from narrowband Internet access services. 4.58 However, this switching phenomenon does not provide evidence that a SSNIP by a hypothetical monopolist in the provision of narrowband Internet access would not be profitable. The still substantial price differentials between broadband and narrowband unmetered Internet access and the following customer survey evidence suggest that there exists a significant proportion of current narrowband Internet access customers who would not switch given a SSNIP by a hypothetical monopolist, such that it is likely to be profitable. Customer survey evidence 4.59 Oftel research in August 2002 (published October 2002) found that 32 per cent of narrowband customers currently using an analogue or ISDN line to access the Internet at home claimed to be interested in upgrading to broadband DSL or cable modem access. This equates to approximately three million Internet homes being interested in upgrading to broadband Internet access but the bulk of narrowband Internet access customers, over six million, are not. Supply side substitution: narrowband and broadband 4.60 The potential for supply side substitution from broadband Internet access to constrain the pricing of a hypothetical monopolist in the supply of narrowband Internet access is not relevant in the present analysis. This is due to the fact that the UK’s largest broadband access network operators are already significantly active in the supply of narrowband services such that any competitive constraint they provide in the narrowband access markets will be captured in the SMP analysis of narrowband access. The potential for Telewest to enter the market for 128kbit/s-capable digital access is discussed below in relation to entry barriers in this market. 4.61 It is also the case that any potential for supply side substitution between broadband and narrowband Internet access at the retail level that is dependent on the availability of regulated wholesale inputs is not relevant in the present analysis. Oftel’s approach to the analysis of supply side substitution is explained in chapter 3. Conclusion: narrowband and broadband 4.62 Demand-side substitution between narrowband and broadband Internet access is likely to be limited by their distinct functionalities and the associated underlying cost differences in providing the two services. Supply side substitution by broadband Internet access suppliers into narrowband access is not relevant to the present analysis. Therefore, a hypothetical monopolist in the supply of narrowband Internet access is unlikely to be constrained to pricing to the competitive price level by the availability of broadband Internet access. 4.63 The Director currently considers that narrowband access is not in the same market as broadband access. Fixed Narrowband Access vs. Leased Lines 4.64 There are a number of potential links between fixed narrowband access services and leased lines. Specifically:
4.65 In addressing whether leased lines are demand side substitutes for analogue, ISDN2 or ISDN30 exchange lines, the key issue is that leased lines provide only transmission capacity, whereas the fixed narrowband access services considered here are intended to provide switched voice and data access services. In order to provide switched services it is necessary not just to have transmission capacity, in the form of leased lines but to have access to a switched network that is capable of providing telephony services and an IP network capable of providing IP transit to the core Internet. 4.66 A retail customer does not have access to either a switched network or an IP network and therefore cannot purchase leased lines as a demand side substitute for analogue, ISDN2 or ISDN30 exchange lines. 4.67 On the supply side, the sunk cost of converting a leased line to analogue, ISDN2 or ISDN30 is significant (see the discussion on partial private circuits (PPCs) in chapter 13) and therefore they are not supply side substitutes. 4.68 Therefore, a hypothetical monopolist in the supply of narrowband exchange lines would not be constrained from conducting a profitable SSNIP by either demand side or supply side substitution from leased lines. The Director therefore considers that they constitute separate economic markets. Disaggregation of retail fixed narrowband access services 4.69 Having proposed that retail fixed narrowband access services are distinct from mobile access, broadband access and leased lines, the following section now considers whether the different forms of narrowband access services should each form distinct markets. There are considerable differences in functionalities afforded by the different access services which are in turn reflected in their retail prices through both the underlying cost differences in their provision and customers’ willingness to pay. The following section considers in turn whether there are separate markets for:
Business vs. residential access Demand side substitution: business and residential 4.70 As discussed previously, business and residential users have different needs from their communications services. Business users tend to require a greater range of services and use narrowband access primarily for telephony. Residential users, on the other hand, need fewer value-added services and use narrowband exchange lines for Internet access as well as telephony. 4.71 In addition to the different services required by business and residential users, the ability to price discriminate successfully between business and residential customers for essentially the same narrowband exchange line is an indication that there are separate markets for business and residential access. The ability to undertake such discrimination is based upon business customers’ general greater willingness to pay for the various types of exchange line services compared to residential customers. This is coupled with the providers’ ability to identify business customers with sufficient accuracy to make the discrimination profitable. 4.72 BT’s standard domestic analogue line rental is £10.50 per month including VAT and the business equivalent is £16.12 per month (including VAT). Whilst business analogue access services possess some distinctive features, particularly in terms of an entry in the business phone directory, the additional costs of these features do not explain the price difference. 4.73 It is also the case that there are higher retail prices for business ISDN2 customers compared to residential ISDN2 customers. BT’s residential ISDN2 charges are £275 per line for connection and £23 per line per month for rental (including VAT), compared to BT’s ISDN 2/2e ‘Low Start’ business package priced at £292.58 per line for connection and £36.43 per line per month for rental (including VAT). The per-line rental charge to business customers is over 50 per cent higher (including VAT) than that for residential customers. Oftel believes that this price difference is again in excess of the cost differences of providing the two services, for example compatibility with a PBX, which are minimal. 4.74 ISDN 30 narrowband exchange lines are not sold to residential customers who do not require the greater functionalities associated with these lines. Furthermore, ntl’s 128kbit/s-capable digital access is solely a residential service. 4.75 Given this practical ability to price discriminate, a hypothetical monopolist in the supply of narrowband access to business customers would be unlikely to have a SSNIP above the competitive level rendered unprofitable by demand side substitution to residential access. This is due both to the different demand characteristics discussed above and to the ability of the operators to identify business customers and disallow their use of residential services. 4.76 It is also the case that a hypothetical monopolist in the supply of narrowband access to residential customers would be unlikely to have a SSNIP above the competitive level rendered unprofitable by demand side substitution to business access due to the current premiums for business customers being well in excess of the price rises relevant to a residential SSNIP above the competitive level. Supply side substitution: business and residential 4.77 On the supply side, separate hypothetical monopolists in the supply of business and residential narrowband access would be unlikely to have SSNIPs above the competitive level rendered unprofitable by supply side substitution from the other service at the retail level. This is because in the UK residential and business customers tend to be in distinct geographical locations. This will reduce the extent of supply side substitution at the retail level because a supplier of narrowband access to business customers would need to incur significant sunk costs and take the time to build out its network in order to compete against a supplier of access to residential customers and vice versa. 4.78 Although smaller businesses in particular may be more likely to locate close to their customers, the fact that retail charges for business and residential access are different suggest separate markets, between which operators are capable of setting discriminatory prices. Conclusion: business and residential 4.79 The above analysis leads the Director to consider that business and residential narrowband access constitute separate markets. Separate analogue, 128kbit/s-capable digital (ISDN2) and ISDN30 access Demand side substitution: analogue and 128kbit/s-capable digital (ISDN2) access 4.80 There are some key functional advantages of 128kbit/s-capable digital access provided over both cable modems and ISDN 2 technologies compared to narrowband analogue access. These relate primarily to Internet access and telephony capabilities:
4.81 As stated earlier, Oftel believes that residential customers generally use 128kbit/s-capable digital access to provide them with relatively swift Internet access and simultaneous voice telephony, whilst many business customers will use ISDN2 based 128kbit/s-capable digital access to provide multiple voice channels through a PBX. Larger business customers will be less interested in the data functionalities of ISDN2. It is thus the case that customers in the separate business and residential narrowband access markets will tend to be attracted to a sub-set of the above additional capabilities compared to analogue access. 4.82 Because of these additional capabilities, 128kbit/s-capable digital access service customers are unlikely to find analogue exchange line services suitable demand side substitutes. 4.83 Further evidence that analogue access and 128kbit/s-capable digital access are unlikely to be demand side substitutes for residential customers comes from analysis of the retail price differences that exist between the two types of access. 4.84 BT’s standard residential domestic analogue line rental is £10.50 per month including VAT coupled with a connection fee of £74.99. BT’s ISDN Home Highway residential ISDN2 package is priced at £275 per line (2 channels) for connection and £23 per line per month for rental. ntl’s residential 128kbit/s-capable digital access costs £25 connection fee and £24.50 per month rental (this includes Internet access and fixed voice telephony access). However, it should be noted that the ntl service includes unlimited Internet access calls, although ISDN2 does not. 4.85 Therefore, the monthly rental for residential 128kbit/s-capable digital access is twice the price of analogue access. Whilst there is the potential that these 128kbit/s-capable digital access prices have been set above the competitive level, as will be explained in the following supply side substitution analysis, the competitive price level of these digital access services would in any event be significantly above that of analogue access. 4.86 Turning to the business market, analogue access and 128kbit/s-capable digital access (ISDN2) business access are unlikely to be demand side substitutes given the retail price differences that exist between the two types of access. ntl’s 128kbit/s-capable digital access service provided over cable modems is not sold to business customers. 4.87 BT’s standard business analogue line rental is £16.12 per month including VAT plus a £116.33 connection fee, whereas BT’s ISDN2/2e ‘Low Start’ business package is priced at £292.58 per line for connection and £36.43 per line per month for rental (including VAT). 4.88 Therefore, ISDN2 business access is in excess of twice the price of analogue access. As with residential prices, it is possible that ISDN2 prices have been set above the competitive level. However, the competitive price level of these digital access services would in any event be significantly above that of analogue access. 4.89 The functionality and retail price differences identified between both business and residential analogue and 128kbit/s-capable exchange line services strongly suggest that a hypothetical monopolist in the provision of either analogue or 128kbit/s-capable digital access who attempted a SSNIP above the competitive level, would not find the profitability of this constrained by demand side substitution in significant numbers towards the other form of narrowband access. This is because existing analogue access customers are unlikely to value the increased functionality of 128kbit/s-capable digital access to the extent of the underlying cost difference between the two less the effect of the SSNIP and 128kbit/s-capable digital access customers are unlikely to be willing to give up the extra functionalities of their 128kbit/s-capable access (in terms of demand side substitution towards analogue access) given a SSNIP. Demand side substitution: 128kbit/s-capable digital (ISDN2) and ISDN30 access 4.90 ISDN30 is a relatively bespoke narrowband access service designed to cater for larger business sites when compared to single line ISDN2 services. BT states that the entry level for ISDN30 is 8 channels, and it charges on a per channel basis only above this level. As explained earlier, residential customers do not purchase ISDN30 services. The relevant demand side substitutability analysis in this section therefore relates to ISDN2 services that are also purchased by business access customers. ntl’s cable modem 128kbit/s-capable digital access services are only sold to residential customers. 4.91 Business ISDN2 services are designed to cater for smaller business sites with single line ISDN2 services providing 2 channels. BT states that its ISDN2 service is appropriate for sites requiring up to 8 voice channels. ISDN2 is not generally used for much larger sites, since the PBXs on these sites will normally be designed to support an ISDN30 connection, not a large number of ISDN2 connections. 4.92 It is therefore not cost-effective at current prices for a customer requiring under 8 channels to substitute an ISDN30 service for an ISDN2 service. 4.93 However, the SSNIP test should be conducted from the competitive level of prices (ie cost based prices) for the two services. Whereas ISDN2 is provided over narrowband copper loops, the majority of ISDN30 access is provided over fibre or HDSL enable | |||||||||||||||||||||||||||||||||||||||||||||||||||||||
