May 2001

Contents

Chapter 1         Summary

Chapter 2        Oftel response to specific issues raised during the consultation

Annex A        BT's product list

Annex B        Profit and loss mobile business – proposal

Annex C         BT's timetable for the production of accounting information

Annex D        Respondents and responses to the consultation

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Chapter 1

Overview

1.1 In November 1999 Oftel set out, in its consultation document on BT's 100% ownership of BTCellnet – Accounting Separation and Competition Issues, the regulatory framework which should apply to BT in the fixed and mobile markets on the 100% takeover of BT Cellnet by BT.

1.2 The key competition concern identified in the consultation document was the potential for BT to lever its market power in parts of the fixed market into the mobile market, or into any emerging fixed/mobile integration (FMI) markets. Oftel therefore proposed that all of BT's mobile activities should be brought together into a new Regulatory Business. The purpose of this measure is to assist Oftel in identifying and remedying unfair cross subsidies or instances of undue preference or undue discrimination. This will enable Oftel to identify and take prompt action if BT were engaged in any form of anti-competitive behaviour.

1.3 Oftel received eight responses to the consultation from Other Licensed Operators (OLOs). The OLOs were of the view that Oftel's proposal to establish a new regulatory business was a positive first step. However, some of the respondents were concerned about the potential for BT to act anti-competitively primarily by using customer information from the fixed market to gain an advantage in the mobile market or in the emerging FMI market. Since the consultation, Oftel has held further discussions with BT on the form of accounting arrangements to be set up and measures in place to prevent mis-use of customer information.

1.4 A programme of work has been set up with BT to ensure that its accounting systems can produce information at a disaggregated level sufficient to allow the Director General to make judgement on cases of alleged anti-competitive behaviour. BT is now required to prepare and publish Financial Statements (regulatory accounts) for the Mobile Business as a whole, and a first set of accounts has been published for the Financial Year ending March 2000. BT has also agreed to maintain and present to Oftel accounts at a product group level and is developing attribution methodologies for its systems at a more detailed product or tariff level.

1.5 In respect of the potential for the mis-use of information, BT maintains physical separation between the databases within BT and BTCellnet that hold customer information. BT has assured Oftel that it has no plans to merge its fixed line customer database at present. However, if BT does have any plans to do so it will notify Oftel, which will consider whether any proposal raises regulatory concerns. The licences of BT and BTCellnet contain a licence Condition which requires them to maintain a Code of Practice on the Disclosure of Customer Information. BT also runs a compliance program to ensure that BT staff comply with its Code.

1.6 After considering the issues raised by the respondents, Oftel is of the view that that the measures set out in the consultation document and the measures discussed above are a proportionate response to the competition concerns it is intending to address, namely the leveraging of market power by BT from fixed into mobile or fixed/mobile integration.

1.7 Following discussions with BT in the context of the 1999 consultation document, matters arising from the proposals contained in that document have been settled. The Director General will now write to the Secretary of State stating that he is satisfied with the regulatory framework now in place for BT's mobile activities.

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Chapter 2

Oftel's response to the issues raised during the consultation

Mis-use of customer information

2.1 One of the major issues raised by the OLOs in response to the consultation is that by taking 100% control of BTCellnet, BT is in a position where it can potentially mis-use customer information obtained during the course of its day to day activities in its fixed line business to act anti-competitively in the mobile market and/or in the evolving FMI market. OLOs were particularly concerned that BT should not be allowed to merge its fixed line customer database with its mobile customer database. Some of the respondents also pointed to the difficulty of providing evidence regarding the mis-use of customer information and/or discovering that such behaviour was taking place before BT had used the information to gain an unfair advantage in the mobile or FMI market. Some of the OLOs suggested that Oftel should introduce some form of ex ante regulation to address this situation such as requiring BT to physically split the sales teams of the mobile and fixed businesses.

Provision of customer information

2.2 Oftel would have serious concerns if BT were to merge its fixed and mobile databases because of the potential for leveraging market power. BT has assured Oftel that it currently has no plans to do this and would discuss proposals for any such merger with Oftel before a decision were made, if it were to consider merging the databases sometime in the future. Oftel would identify any regulatory issues in light of the specific proposals.

2.3 Oftel recognises that OLOs have some concerns regarding the difficulty in providing evidence that BT is acting in an anti-competitive manner before or during the alleged anti-competitive behaviour takes place. Oftel has discussed this issue and BT has agreed that the additional measures will be undertaken.

2.4 Under Condition 79 of its licence BT is prevented from misusing its customer information. This requires BT to produce Codes of Practice, which clearly advise BT people of their obligations with respect to the disclosure of customer information. There is one Code for BT's Systems Business (SB) and a second Code for BT's Supplemental Services Business (SSB). BT Cellnet's licence also contains a similar provision to produce a Code of Practice in respect of its relevant customer information.

2.5 BT ensures that these requirements and obligations are regularly reinforced and refreshed across BT by a series of Compliance and communications programmes. These take the form of generic documents, videos and web-based training distributed BT-wide, and advice aimed at appropriate specialist audiences (ie. units with regular contact with customers, and who need to use customer information). This training and advice covers the relevant Data Protection Legislation, BT's Telecommunications Licence and Competition Law aspects relating to the use of customer information.
        
2.6 BT maintains physical separation between the databases within BT and BTCellnet that hold customer information, ensuring that only appropriate and authorised BT users (in accordance with Licence and Code requirements) have access to the systems or information from them.

2.7 BT and BT Cellnet have provided revised draft Codes to Oftel with a view to ensuring that they continue to be fit for purpose in an evolving and increasingly complex and competitive communications market. Oftel has some minor concerns with the drafting (about clarity rather than principles) and is in discussion with BT and BT Cellnet about adjustments. Once the changes are approved by the Director General, Oftel anticipates that the revised Codes will be publicly available. These measures will help Oftel in monitoring potential anti-competitive behaviour and reinforce Oftel's statutory powers.

Oftel's statutory powers

2.8 Oftel does not believe that there is a requirement to introduce further regulation at this time to prevent the mis-use of customer information. Oftel is of the view that it already has the necessary powers to act if an allegation of anti-competitive behaviour is made that BT had used customer information obtained in the course of its fixed business activities to gain an unfair advantage in the mobile market or in the launch of an FMI product. The powers at Oftel's disposal include the following:

BT's licence conditions

2.9 As well as the requirement set out in Condition 79 to have a Code of Practice and to take reasonable steps to ensure that its employees observe the provisions of the Code, BT's Telecommunications Act Licence also includes two licence conditions relating to undue discrimination. Conditions 8 and 57 of BT's licence require BT not to unduly discriminate in favour of itself or any persons or class of persons. This means that if BT offers a telecoms service to one of its Businesses it must offer the same service to other telecoms operators. That service must be made available at the same charge and same quality of service as that offered to the BT Business. This condition would cover discrimination in favour of BT's mobile interests.

The Competition Act

2.10 The Competition Act (CA) strengthens the Director General's powers in monitoring and prohibiting anti-competitive behaviour. It gives the Director General the powers to investigate if he has reasonable grounds to suspect that a telecommunications operator has infringed either of the Chapter I or Chapter II prohibitions and to impose a fine of up to 10% of a company's UK turnover if they are found to have engaged in anti-competitive behaviour. The CA also considerably increases the information gathering powers of the Director General. The guidelines on the application of the CA in the telecoms sector can be found on Oftel's web site.

Use of Oftel's powers

2.11 Therefore, Oftel is of the view that it does have the regulatory tools to act if an operator complains about the mis-use of customer information or any other anti-competitive behaviour and would use these powers if necessary to ensure that type of behaviour would not be permitted in the future. Oftel would do so either by using the existing licence conditions in BT's Telecommunications Act licence and/or under one of the prohibitions contained in the CA. It should also be noted that Oftel is only concerned with behaviour such as the use of customer information if the behaviour is used to restrict distort or prevent competition. It is important that Oftel strikes the right balance between the need for regulation and BT's legitimate right to run its business in an efficient manner.

2.12 Oftel has in the past been able to respond and deal with any allegation of anti-competitive behaviour in an effective manner. Oftel has used a number of means at its disposal:

• in 1998, it used the Fair Trading Condition to respond to concerns with respect to BT's use of information to sell Internet services (BT Click). This condition has now been replaced by the Competition Act;
  
• in 1999, Oftel was minded to use Condition 79 in respect of marketing of BT Cellnet services, although the complaint was withdrawn before details were investigated with BT;
  
• more recently, Oftel considered a case under both Condition 57 and the Competition Act.
  

Accounting Separation

2.14 Respondents to the consultation were broadly supportive of the proposal to establish a new regulatory Business but were concerned to have a clearer understanding of what information would be available, when needed, and for more detail to be published. The following paragraphs set out some of the principles agreed with BT which have formed the basis for a further programme of work which continues this year.

2.15 Financial Statements for the new Mobile Business as a whole will be published annually as part of the regulatory accounts for BT. The extent to which disaggregated information will be prepared and made available to Oftel has been much discussed with BT. Oftel took the view that disaggregation below the main Business level in the published statements was not appropriate. The important issue is that BT will have to make readily available such relevant, timely and accurate information as will be needed for any competition investigation.

2.16 Oftel's objective in requiring BT to set up the separate Mobile Business is to ensure that BT cannot anti-competitively lever its market power in fixed services into mobile markets. Oftel believes that the accounting requirements it is placing on BT should be proportionate to this objective. The new arrangements must be able to generate promptly appropriate information for investigating competition complaints. The area of business for which detailed financial information would be needed will obviously depend on the nature of the individual complaint. Oftel believes that it would be disproportionate to require BT to keep constantly available as a matter of course separate accounting information at a fine level of detail across the entire Mobile Business. The key feature of the new arrangements is that BT must have the capability to produce information on individual areas on request, in an accurate, timely and relevant manner.

2.17 Oftel has had extensive discussions with BT about the way its accounting systems will be able to guarantee to provide information at a disaggregated level to enable the Director General to make judgements on cases of alleged anti-competitive behaviour in particular markets. Detailed revenue information is already available from billing systems within the Mobile Business. BT will be developing a new network costing model to capture costs for its separate networks - mobile, paging, Public Safety Radio Communications Scheme (PSRCS), 3 Generation (3G) separately. This will work in broadly the same way as for the fixed network costing model - individual network elements will be costed, route factors will be established for use of elements for particular services and cost data for types of services will be produced (eg mobile to land, mobile to mobile etc). Oftel will be reviewing BT's detailed proposals for disaggregating network costs to ensure its information needs are met.

2.18 As part of the overall Accounting Separation framework BT will collect disaggregated revenues, network costs and retail costs (eg marketing, billing (where appropriate), customer care costs etc) at a product group level as follows:

• Interconnect services;
• Mobile call services provided to end users - prepaid;
• Mobile call services provided to end users post-paid;
• Mobile call services provided to independent Service Providers;
• Value-added services;
• Radiopaging;
• Other – to include any other Mobile Business activities;
• PSRCS (known as BT Airwave);
• 3G.
  

2.19 Further details of the product groups for which financial information will be maintained and presented to Oftel are shown in Annex A. BT will prepare financial statements to this level of detail on an annual basis to the same format and the same timescale as the main BT Accounting Separation statements. They will be accompanied by an audit opinion which would fully meet the "fairly presents in accordance with the Accounting Documents" tests which apply under Condition 78.7 of BT's licence. These reports will be presented to Oftel for two years from the financial year 2000/01 assuming Oftel is satisfied that the basis of preparation and costing methodologies are satisfactory. At the end of this period, or earlier if the regulatory concerns arising from BT's control of Cellnet change, this reporting requirement will be reviewed.

2.20 BT will be proposing to Oftel the way in which the accounting system will capture and attribute different types of costs to product groups. Oftel will want to be satisfied that the attribution methodologies employed by BT are robust and consistent with the regulatory accounting principles set out in BT's Accounting Documents. A programme of work will also establish appropriate drivers which would be used in the case of an investigation to break this information down further to the level of granularity appropriate for an investigation. New accounting systems, including detailed explanatory documentation on the methodologies used, have to be put in place and BT expect to be finalising this work in 2001. Oftel will also need to be satisfied that the information provided by the systems being set up is accurate and capable of independent verification. BT has confirmed that this will be the case. How this is achieved is part of the work programme we have in hand. Further details of BT's progress on this work are given in Annex C.

2.21 The information will be capable of disaggregation to individual tariff levels, if necessary, or to identify costs/revenues for particular types of calls. The appropriate granularity of the information Oftel will require for an investigation will be determined by the relevant economic market potentially affected by alleged anti-competitive behaviour. The level of granularity suitable for investigations is typically at product level, and BT has agreed that its systems will be capable of generating information at that level. Oftel recognises that new products will be launched, existing products modified and some products deleted over time. Typical product levels for which BT's systems will be able to produce information are those in source price lists such as BT Cellnet's current wholesale tariffs, charges, discounts and recommended retail price list. Examples of these product levels are:

• BT Cellnet First Programme;
• Corporate Life;
• Regular Caller Plus;
• BT Cellnet Access;
• Short Message Service.
  

2.22 Annex B gives details of an example of the basis of attribution of revenue and of costs for one of the product groups in this case "Post paid to end users", proposed by BT. The attribution methodology will be discussed with BT as part of the work programme described above.

2.23 The first published information at the Mobile Business level was published by BT in September 2000 for the year ended 31 March 2000. BT will also be progressively bringing the new system in over the Financial Year 2000/01. Should a competition investigation require detailed financial information before the new system is completely up and running then BT will prepare information from existing systems.

2.24 BT's new Public Safety Radio Communications Project (PSRCP) will be separately identified within the Mobile Business as will any 3G business.

2.25 The Accounting Documents, Detailed Accounting Methodology (DAM) and Detailed Valuation Methods (DVM) documents published by BT along with the 1999/2000 Financial Statements now cover the Mobile Business.

2.26 Oftel is currently reviewing regulatory accounting arrangements for BT as a whole following the Director General's statement in BT's 1998/99 Financial Statements. The Mobile Business will be subject to the outcomes of this investigation. Regulatory accounting arrangements may also change as a result of any BT restructuring.

Long Run Incremental Cost (LRIC)

2.27 A number of questions were raised about Oftel's proposals to use LRIC as an appropriate methodology for the development of a cost model for the mobile market. The OLOs were also concerned that Oftel would agree a LRIC based model with BT without fully consulting the telecoms industry.

2.28 The comments received during the consultation addressed both the principle of LRIC and the practicality of making robust estimates of LRIC. Oftel's view is that LRIC will normally be the appropriate cost floor to use in competition investigations because prices below this level will not be sustainable in the long run. Prices above LRIC mean that at least some contribution is being made to common costs and this reduces the amount that needs to be recovered from other services. Thus a service should be offered as long as it can be priced above LRIC. It will not normally be desirable to encourage inefficient entry, that is, entry by firms whose costs are higher than BTCellnet's incremental costs, by requiring BT Cellnet to set prices in excess of a cost floor above LRIC. A LRIC floor should allow a competitor, which is at least as efficient as BTCellnet, to be viable.

2.29 It was stated by one respondent that Oftel is "imposing ... a static costing structure on the market". Oftel does not believe that this is the case; it is simply stating that LRIC will be used as the cost-floor in competition investigations: it is not suggesting that all prices should necessarily be set on a LRIC basis, or that regulatory intervention to control prices is envisaged.

2.30 A number of respondents noted that it would be unacceptable for a LRIC model for mobile to be developed solely by Oftel and BT. In July 2000 Oftel established a working group to develop a LRIC model for calls to mobile networks as part of the review of call termination charges on mobile networks and a number of meetings with both mobile and fixed operators have been held. Further details can be found on Oftel's web site in the Industry Group "Calls to Mobile Review Group".

2.31 BT has indicated that to prepare a detailed LRIC methodology for the whole of the Mobile Business would be very costly and not reflect developments in the competitiveness of the mobile market. BT has therefore proposed that any decision on developing LRIC modelling capability be deferred and work focussed on developing robust Current Cost Accounting (CCA)/ Fully Allocated Cost (FAC) financial information. It is suggested that any decision is deferred until after the conclusion of the mobile market review currently being undertaken by Oftel. By this stage the generic LRIC model for fixed to mobile termination will also be well advanced.

2.32 Delaying a decision on whether BT needs to prepare a detailed LRIC methodology for the whole of the Mobile Business may have its merits, particularly if BT intends to set prices such that a CCA cost floor was exceeded. Oftel could accept that, since CCA/FAC is generally above LRIC, passing of such a test would be sufficient. However, problems could occur if BT wanted to price below CCA FAC. In such a case, BT would have to justify such prices by reference to a LRIC cost floor.

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Annex A

BT's product group list

A1. BT's proposed list of the product groups for which financial information will be maintained and which will make up the Mobile Business is as follows:

Product in Mobile Business	Description
Interconnect services	The provision of services to OLOs, including call termination on the BT Cellnet network.
Mobile call services provided to end users-prepaid	Call services from mobile handsets for the Business' retail customers, who pay for these services through purchase of vouchers or via credit cards, including calls to fixed and mobile customers, international calls (where available) and roaming charges for incoming calls, where applicable. Costs will include network and retail costs, including commission on voucher sales.
Mobile call services provided to end users post-paid	Call services from mobile handsets for the Business' retail customers who pay for these services through bill settlement, including calls to fixed and mobile customers, international calls and roaming charges for incoming calls, where applicable. Costs will include network and retail costs, including the costs of revenue recovery. Retail customers include those of BT Cellnet and its tied service providers.
Mobile call services provided to Independent Service Providers	Call services from mobile handsets owned by customers of the service providers that are independent of the BT Cellnet/BT group and who recharge the services to their own customers. Costs will include network costs of selling to these providers, including the costs of revenue recovery.
Value-added services	The provision of value added services from mobile handsets for the Business's customers, including DQ. Costs will include network and retail costs, including the costs of revenue recovery.
Radiopaging	Services offered under BT's Radio-paging Licence.
PSRCS ("BT Airwave")	Services offered under BT's Public Safety Radio Communications Services licence
3G	Third Generation - will comprise of revenues, costs and assets associated with the provision of 3G services and activities.
Other – to include any other Mobile Business activities.	Any other services relevant to the Mobile Business, not included above.

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Annex B

Profit and loss mobile business - proposal

B1. The schedule below sets out an indicative basis of attribution of revenue and costs to the *post paid to End Users* product within the Mobile Business and a schematic for the possible sub-analysis of this revenue and costs to a tariff group within that product.

Description	Relevant to Postpaid to End Users	Basis of allocation to Postpaid to End user product	Basis to allocation to Tariff Regular Caller Plus RCP – using the information on Postpaid to End Users as the control total
Gross Connection Gross Subscriptions Gross Call Revenue - Outgoing Outbound Roaming Revenue Inbound Roaming Revenue Interconnect Revenue Other Revenue	Y Y Y Y Y	Direct from Billing System Direct from Billing System Direct from Billing System Direct from Billing System N/A N/A Various allocations	Direct from Retail Billing System Direct from Retail Billing System Direct from Retail Billing System Direct from Retail Billing System N/A N/A Various allocations
Gross Sales
Wholesale Discounts		N/A on consolidation	N/A on consolidation
Net Sales
Paging network Transmission (private circuits) Maintenance Depreciation Cellsite rent etc. RF Licence Other Network Costs Network staff and other overheads Network staff accommodation Outgoing call charges – UK outpayments Outgoing call charges – Roaming Operator Services Sub-total Network Costs Call centres Customer care staff pay & related costs Customer care accommodation Consumer Bad Debt Other Cost of Sales e.g SIM cards, voucher	Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y	N/A Network Model Network Model Network Model Network Model – Overhead Network Model – Overhead Network Model – Overhead Network Model – Overhead Follow staff costs Minutes from billing system In proportion to Roaming revenue N/A Directly coded Directly coded or activity analysis Follow staff costs Directly coded Various allocations	N/A Minutes from billing system Minutes from billing system Minutes from billing system Minutes from billing system Minutes from billing system Minutes from billing system Minutes from billing system Minutes from billing system Minutes from billing system In proportion to Roaming revenue N/A Allocation on subscriber numbers Allocation on subscriber numbers Allocation on subscriber numbers Allocation on revenue Allocation on revenue
Sub-total
Marketing Costs – specific tariff Marketing costs – general Acquisition Costs – Wholesale Acquisition Costs – Retail Customer Retention – Wholesale Customer Retention – Retail Marketing & Sales staff pay & related costs	Y Y Y Y Y	Directly coded Allocation on subscriber numbers N/A on consolidation Directly coded N/A on consolidation Subscription revenue Directly coded or activity analysis	Directly coded Allocation on subscriber numbers N/A on consolidation Directly coded N/A on consolidation Subscription revenue Based on churn rates
Sub-total Marketing & Sales Costs
Finance staff pay & related costs Other pay & related costs eg L&R, HR, MD IT staff pay & related costs General staff accommodation Billing system depreciation Non Network Depreciation Other costs	Y Y Y Y Y Y Y	Activity analysis Activity analysis Activity analysis Activity analysis Systems analysis/Allocation on revenue Activity analysis Activity analysis	Activity analysis Activity analysis Activity analysis Activity analysis Allocation on revenue Activity analysis Activity analysis
sub-total Overheads
Total Costs
Profit / (loss)

Y = there would be revenue or costs in this product for this line

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Annex C

BT's timetable for the production of accounting information

C1. BT's timetable for the development of Mobile Business products on ASPIRE.

Milestone for preparation of data	Target date
Formal agreement between BT and Oftel on the product list	July 2000 (Completed)
Development of Network Model on an FAC basis	July 2000 (Completed)
Development of methodologies for attribution of revenues costs and capital employed on an FAC basis	September 2000 for original methodologies (completed): ongoing refinements
Update FAC attribution bases	January 2001 (completed)
Live testing on product group FAC data	January 2001 (completed)

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Annex D

Respondents and responses

D1.Oftel received seven responses from:-

• BT;
  
• Cable & Wireless;
  
• Energis;
  
• One2One;
  
• Orange;
  
• Racal Telecom;
  
• Vodafone.
  

D2. Respondents broadly welcomed the establishment of a new Regulatory Business – the Mobile Business

D3.The respondents' major concerns were:-

Undue discrimination

• The provision of information from BT's fixed businesses to BTCellnet;
• The monitoring and policing of anti-competitive behaviour involving the use of customer billing information and branding.

The production of accounting and cost information

Product list and level of disaggregation and publication

D4.The above points have all been covered in the statement and no other substantive issues have been raised. For competitive reasons, Oftel does not believe that publication of accounting information below the level of the main Mobile Business is appropriate.