Whilst Ofcom’s proposed strategy on the future of mobile telecoms regulation seems to lean towards continuing the promotion of end-to-end competition through existing regulation imposing limits on termination rates, the UK regulator says that a more “complicated mix of approaches” may be possible for fixed-line telecoms.
By Bernard Amory (pictured) and Francesco Liberatore
“A breath of fresh air” was the chorus of plaudits that welcomed Sharon White when she was appointed new CEO of Ofcom, the UK telecom regulator, in March 2015. Just four months after her appointment, White appears to be living up to that expectation with the announcement in July 2015 by Ofcom of an overarching strategic review of the digital communications market in the UK.
The aim of the review is to facilitate an open and frank debate about potential problems in the UK telecoms market and to identify how and where regulation might need to evolve. That could result in more or less regulation depending on how Ofcom chooses to strike the balance between promoting long term network investment and protecting consumers from short term price increases. White said: “Our priorities are clear. We want to promote competition, investment and innovation, so that everyone benefits from even better coverage, choice, price and quality of service in years to come.”
Why now?
It is no coincidence that this is the first time since 2005 that Ofcom has undertaken such a wide-ranging strategic review. The UK telecoms market is changing rapidly, with the proposed merger of BT with EE, and Three’s potential acquisition of O2, thereby potentially reducing the number of UK mobile networks from four to three, and riding a wave of mobile consolidation across Europe. The convergence of traditional as well as the rise of new communications services also marks the dawn of a new digital revolution. This brave new world will need a new regulatory framework to govern it, and regulation can be a key driver (or disincentive) to investment in the sector.
In its consultation document, Ofcom’s starting approach is that where it is effective and sustainable – that means “sustainable in the long-term including future investment requirements” – more competition is better for both investors and consumers. But Ofcom appears to have an open mind on this and accepts that “there may be reasons why we should adopt a different approach”. For example, Ofcom notes the view of some investors and analysts, including HSBC, that investment and dynamic efficiencies arising from market concentration is the most effective way to drive down prices. The argument is that innovation will be stimulated because of the new services that become possible as a result of such investment and efficiencies, and this advocates in favour of more market consolidation in mobile (wireless) telecoms and against the introduction of a cost-oriented pricing regime for broadband networks.
Which approach is the right one is the eye of the beholder. But one thing is clear: this is an important juncture in how this industry will be regulated in the future.
The Ofcom view so far
Whilst Ofcom’s proposed strategy on the future of mobile telecoms regulation seems to lean towards continuing the promotion of end-to-end competition through existing regulation which imposes limits on termination rates, the regulator says that a more “complicated mix of approaches” may be possible for fixed (or landline) telecoms. For example, this mix of approaches would include how to price network access where access obligations are in place and/or whether to separate vertically integrated companies (i.e. BT). There seems to be a general consensus, at least amongst investors, that, taking account of increasing OTT (“over the top”) competition from the likes of Skype and WhatsApp, the best pricing regime for the promotion of investment would be the continuation of the current regulatory regime which permits flexibility in fibre pricing by BT. But there is less consensus over vertical separation and Ofcom recognises that “there are different models of separation”.
Ofcom has therefore asked for views on four possible alternative models for a future regulatory framework. The most contentious of these is Option 1, which involves the structural separation of Openreach from BT. This type of remedy is usually relied on by regulators as a measure of last resort when all other options are deemed to have failed. The experience in other jurisdictions has either illustrated the scale of the practical challenges associated with structural separation or is at too early a stage to draw any meaningful parallels.
Other models include:
· Option 2 – Retaining the current model, where Openreach continues to operate as “functionally separate” from BT, and using regular market reviews to address any concerns around competition;
· Option 3 – Strengthening the current model by applying new price control rules to BT; or
· Option 4 – Deregulating and promoting competition between networks through more enforcement action, where needed. In this respect, it is notable that Ofcom has also recently proposed to revise its competition law penalty guidelines to increase deterrence.
Consequences
In deciding which option to follow, Ofcom will certainly have to take into account the outcome of the potentially game changing developments driven by the on-going consolidation in the UK telecoms sector and the approach taken by the relevant competition authorities in assessing those mergers under the merger control rules. The proposed merger by BT with EE (which is currently being reviewed by the UK’s Competition and Markets Authority (“CMA”)) will inevitably impact on Ofcom’s thinking in relation to Option 1. If the CMA were to clear the merger on the basis that the current model (Option 2) is sufficient to protect quad play competition, it is likely to be more difficult for Ofcom to push for more radical, structural changes.
Similarly, the anticipated merger between Three and O2 (which falls within the jurisdiction of the European Commission) is likely to be cleared but subject to certain conditions. These are likely to cover spectrum holdings, mobile virtual network access and potentially the existing network sharing arrangements between the parties and the other two UK mobile networks (Vodafone and EE). In its review of mobile services regulation, Ofcom will need to take into account these conditions and their impact on competition in the market.
An additional consideration for Ofcom which may impact on Option 3 arises from its ongoing challenge against BT on the wholesale price of superfast broadband that Openreach can charge BT’s rivals. BT’s appeal before the Competition Appeal Tribunal against Ofcom’s new “margin squeeze test” might necessitate a change in Ofcom’s proposed approach to price controls on BT.
Conclusion
The outcomes of these developments are uncertain and the consultation exercise is not at an end. We will not know the details of Ofcom’s strategic review for another year at least. In the meantime, all stakeholders have a further short window of opportunity (until 8 October 2015) to submit comments to Ofcom and seek to influence its approach to shaping the UK telecoms market for the next decade. There are obvious risks and opportunities for BT/Openreach and the other major players (e.g. Virgin Media) as well as their investors. But given Ofcom’s likely objective to create market entry and expansion opportunities, particularly in the mobile sector depending on the outcome of the European Commission’s review of the Three/O2 merger, there might also be additional investing opportunities in new market entrants in this sector.
Whether the outcome of this review will prioritise long-term network investment over short term pricing competition, as many investors hope, remains to be seen. But having an open debate about it already feels like “a breath of fresh air”.
