Section 1. CONTEXT - COMPETITION IN TELECOMMUNICATIONS AND TELEVISION SERVICES

Competition in telecommunications

3. Oftel's goal is to provide the best possible deal for the customer in terms of quality, choice and value for money. We seek to achieve that goal through, among other things, promoting efficient and sustainable competition between networks and the services that pass over them.

4. The development of competing networks is of strategic importance to the development of competition in telecommunications in the UK - both as part of the Government's clear policy of encouraging the development of alternative infrastructure, especially between the subscriber and the local exchange (the 'access market'), and in terms of facilitating a greater choice of services. The Government's policy was embodied in its decision to licence Mercury Communications Ltd in 1984 and subsequently reaffirmed in its 1991 White Paper Competition and Choice: Telecommunications Policy for the 1990s.

5. While competition in services is important it needs to be underpinned by competition in network provision. Without network competition, even vigorous competition between service providers will not prevent customers being disadvantaged by any inefficient and/or expensive provision of network services.

6. The policy of promoting network competition has begun to bear fruit. In certain parts of the market there is already substantial competition in networks and services. There has also been considerable investment in infrastructure for mobile services, national (long distance) calls and business telephony.

7. Competition in the access market remains the most substantial challenge - but also the one which has the greatest potential to bring the benefits of competition to consumers (especially residential and small business customers). Some new entrants are proposing to use radio to provide the final link to the home and thus overcome a significant barrier to entry. Nevertheless the cable companies (who can be expected to cover around 80% of the population over the next 10 years as the ITC franchising process continues)remain the most a crucial part of the process of bringing competition into the local access market.

8. Cable operators have been able to make real progress in winning telephone subscribers. Frequently residential telephony penetration rates are ahead of those for cable television and churn rates are lower (in a number of cases about half those for cable television) and companies are optimistic that with number portability they will be able to further increase their telephony penetration rates and with it their market shares - especially in the business market. Telephony has proved to be a better-than-expected success story for the cable operators accounting for about half of the companies' revenues.

9. Increased competition from the cable companies has prompted BT to respond with: - the introduction of per second billing; - reduction in line installation charges (and their elimination in certain circumstances); reductions in charges for local calls including a i pence per minute tariff and the introduction of cheap weekend calling schemes. Under the existing price cap arrangements which continue into 1997, BT is due to reduce its charges by £400m per year. While good news for the customer this means that the cable companies have to work harder to compete.

10. BT has also announced plans to step up its programme to update its network. This will progressively erode the advantages the cable companies derive from their newer networks and greater bandwidth.

Longer term prospects for cable

11. Allowing cable television operators to compete in telephony was a genuinely new, groundbreaking, policy. This is an area where the UK has led the world - although this policy has now been adopted by Sweden, Australia, Japan, and, most recently, the United States. The UK cable operators have been pioneers and have had to find solutions to the unprecedented problems involved in integrating cable television and telephony and how to marry very different technologies, cultures, and products. This has involved developing (for example) new marketing strategies, subscriber management and billing systems.

12. The cable operators' achievements have created new opportunities and issues. For example: a. the sophisticated systems needed to integrate billing and subscriber management for cable TV and telephony create the possibilities to offer more flexible packages of services for customers. This raises in turn the issue of how to take advantage of these opportunities; b. the addition of telephony has fundamentally changed the economics of cable TV making new marketing strategies viable. The challenge for the UK industry is to find ways to exploit these opportunities - without the benefit of being able to draw on experience from elsewhere.

13. The experience of the US cable industry (which spent more than 20 years reaching its mature capacity) suggests that the development of the UK industry will follow an 'S' curve - ie relatively slow progression in the early phase before critical mass is achieved leading to accelerating growth rates. It is obviously difficult to estimate what levels of penetration will be achieved by the mature industry. However there are some pointers: - penetration rates of over 30% have been achieved in Swindon (Telecential); Northampton (Telecential); Harlow (Comcast); and Cardiff/Newport (International CableTel) Teesside (Comcast) and Mansfield (Diamond Cable). Birmingham (Comcast/General Cable/TeleWest) the franchise with the largest subscriber base, falls just below this figure; - in residential telephony Diamond Cable has achieved rates in Nottingham of over 40%, while International CableTel has achieved almost 30% in its franchises and General Cable just over 25%; - in business telephony TeleWest and Diamond Cable have achieved rates of about 20%. (All figures refer to the percentage of the total homes/businesses passed).

14. These figures have lead some respected industry analysts to predict long term future penetration rates of 42% for cable TV, 38% for residential telephony and 20% for business telephony.

15. Whether cable companies achieve these levels, and how quickly, will depend (among other things) on their success in: a. achieving critical mass in cable TV and telephony; b. responding to intensified competition from BT - particularly when it introduces more flexible tariff options targeted at the high users whom the cable companies have been winning over; c. introducing digital TV services; d. introducing new online services which exploit the high bandwidth available to the cable companies.

16. The risk is that should cable fail to achieve the critical mass necessary to lift penetration rates in cable TV and this will in turn hold back its ability to compete in telephony and to fund the new development of new digital services to exploit its advantages as a delivery medium over cable and the BT network. There is a danger that the cable companies could find themselves 'caught between a rock and a hard place' between Sky on the one hand and BT on the other.

17. For all these reasons we believe that the operation of the pay-TV market has a major bearing on the future of the cable industry and in turn on the future prospects for competition in the local access part of the telecommunications market.

Competition in television services

18. Sky has been a prime mover in the development of greater competition in television services and greater choice for viewers. In establishing a beach head in the overall television market Sky undertook highly uncertain investment to establish transmission facilities together with conditional access and subscriber management systems, build a subscriber base and acquire programming rights. In so doing it acquired a pivotal gatekeeper role in pay-TV.

19. Although its share of overall television viewing is still small, Sky now has a substantial share of the pay-TV market(as defined below in Section 2).The fact that it has gained a powerful position is not itself necessarily a cause for regulatory action. Our concerns centre on Sky's pre-eminent role in the supply of programming together with a significant share of the retail distribution market, and whether its pricing and other terms and conditions of supply could retard the development of the cable companies by for example: holding back penetration rates or increasing rates of churn for television and/or telephony (the percentage of subscribers terminating service each year); increasing the perceived risk of investing in cable TV and thus the cable industry's costs of capital; and depressing margins and profitability;. These in turn have implications for the companies' ability to finance the infrastructure investment and for the prospects for competition in the telecommunications access market.

20. The submission discusses a number of areas where the question centre on the combination of roles played by Sky and the possibilities that exist for it to leverage its position in one part of the market through the use of its power in another. It also raises questions about the potential for the distortion of competition in digital terrestrial television should Sky's position in relation to cable and satellite be reproduced there, as well as concerns about the potential for Sky to leverage its position in new markets - such as online gambling or other information and entertainment services.

21. We fully recognise Sky's role in bringing greater competition in television services. We would stress that while the promotion of competition in telecommunications networks and services is a key part of Oftel's remit we are not suggesting that regulatory action should be taken to give the cable companies favourable treatment at the expense of Sky in order to further that aim. The objective of regulatory action should in our view be to secure fair, efficient and sustainable competition. We look forward to the future of vigorous competition between cable and satellite (as well as other forms of delivery such as digital terrestrial television) - to the benefit of the customer.

Go to next section of this document