House of Commons - Trade and Industry

Select Committee on Trade and Industry Third Report

II. RECENT DEVELOPMENTS IN TELECOMMUNICATIONS INDUSTRY

Developments in competition

7. The DTI told us that they and OFTEL have actively promoted competition. The DTI has progressively liberalised sections of the UK telecommunications market, whilst OFTEL has sought to create a competitive environment through enforcement and/or modification of existing licences.[4] Over 200 licences have been issued in the UK to over 50 major telecommunications operators, and an additional 44 operators were granted international facilities licences in December 1996 when the Government decided to open-up fully the international market.[5]

8. Both DTI and OFTEL claim that there has been a dramatic increase in infrastructure competition in all segments of the market over the last three years.[6] Our evidence suggests that in terms of market shares, BT continues to dominate all the major markets. Table 1 shows that BT's market share of the national long-distance business and residential calls is 73% and 90%, respectively, and its share of the international business and residential calls is 53% and 81%. In the local market, BT still has 90% of local calls.

Table 1: Market Shares of International and National business and residential calls

	International Calls		National Long-distance Calls
	Business	Residential	Business	Residential
BT	53%	81%	73%	90%
Mercury	23%	9%	19%	6%
Cable operators	2%	8%	2%	4%
Others (mainly ISR)	22%	1%	6%	-

Source: Derived from evidence provided by OFTEL Ev. pp.7-8.

Note: ISR (International Simple Resale) refers to international operators with ISR licences.

9. The extent to which competition has been effective varies from market to market. Our evidence indicates that there is effective competition in the national long-distance and international markets, particularly in the specialised business sector, whereas in the local market it is "less well-established".[7] In the long-distance market, there was a general consensus among witnesses that competition is now well established.[8] Mercury told us that its trunk network is particularly well developed, offering a real choice to customers either by means of direct connection or indirectly via BT.[9] In the international market, "both Mercury and BT have experienced substantial loss of market share since 1994 for international business calls".[10] Competition in the international sector has been further stimulated since December 1996 with the opening-up of the facilities market which ended the duopoly enjoyed by BT and Mercury to provide facilities to and from the UK.[11] This will allow other operators to build and operate their own networks rather than rely on leasing lines from BT and Mercury. The opening up of the European telecommunications markets on 1 January 1998[12] should provide further substantial opportunities for UK telecommunications operators and manufacturers.[13]

10. BT retains "overwhelming dominance of the local loop" despite the ending of the duopoly six years ago, with around 90% of the access lines.[14] Mercury told us that "large areas of the country have no alternative local loop infrastructure, and remained locked in to a monopoly".[15] The Consumers' Association wrote that "for many residential consumers, there is still no choice of telecoms operator".[16] The DTI told us that BT "now provides a minority of the new fixed lines to the local loop" as a result of the activities of cable companies and the roll-out of radio fixed access services.[17]

11. BT and OFTEL argued that there is effective competition in the local market and that it is increasing continuously.[18] OFTEL insisted that reference to the 90% of the local lines is a potentially misleading statistic in judging whether the local market is competitive, because it does not reflect the level of investment undertaken in the local market and the "time it takes new entrants to complete networks and build up a customer base".[19] BT argued that better indicators are the number of competitors, the services they offer, their gain of market share and the ability of any one company to raise prices.[20]

12. Cable companies have invested heavily in cable infrastructure, approximately £6 billion so far with another £6 billion planned,[21] and a further 5 million households have been passed by cable operators since 1994, bringing the total to almost 8 million by 1996. However, take-up rates have remained low. Take-up of cable television has remained at about 21%, whilst that of telephony has increased from 14% to 25% since 1994.[22] The CCA stated that the low take up of cable television is primarily due to inadequate marketing, lack of flexibility in the way services are offered and the increasing cost of services to the customer.[23] The CCA expects take-up rates to increase when marketing improves and cable operators can offer new digital services.[24] The CCA predicts that by the end of the decade, around 70% of UK customers should have access to an alternative operator to BT.[25] DTI and OFTEL share the CCA's optimism.[26]

13. There is, however, a distinction between the number of customers who have access to competition and the number who decide to take it up. So far BT's market share is falling but not at a significant rate and it remains to be seen whether cable companies can provide effective competition to BT. The business prospects of the cable companies remain uncertain. The take-up rates of cable television are particularly discouraging, the level of future demand is uncertain and cable companies are currently making losses in the order of £500 to £600 million and they are not expecting to be profitable until the end of the decade.[27] In the meantime they face serious further competition from digital terrestrial and satellite television. To compete, cable companies will need to upgrade the technology of their networks to digital. The CCA told us that networks installed in the last three years already have the necessary digital capability, but networks installed before this will need to be upgraded. The cost of this upgrading is estimated to be £80 million; £40 million for network upgrades to allow for extra bandwidth and return path capacity and £40 million for upgrading headend equipment. In addition, there will be a further cost associated with providing each customer with a new set-top box which the companies will bear themselves.[28] It is estimated that the unsubsidised retail cost of the corresponding set-top digital decoder for satellite transmissions may be about £500 to £600.[29] The CCA does not consider the overall cost of offering digital television service to be significant against the prospective overall industry investment of £12 billion.[30]

14. In addition to the ability to deliver downstream digital television the networks with digital capability will also have a high capacity return path which will allow a wide range of interactive services. These include home working and distance learning, both of which the companies believe require a high capacity return path. Other services such as video telephony, internet access and video-conferencing will also benefit from the increased return path capacity. Once equipped with digital technology the cable networks will therefore become full broadband networks, able to deliver most broadband services envisaged today as being economically viable. In some cases their functionality would need to be upgraded by adding to or modifying the customer terminal and headend equipment.[31]

15. Cable and Wireless plc (the parent company of Mercury), NYNEX and Bell Cablemedia announced their intention to merge, in October 1996.[32] Whether coming together of two cable operators[33] with Mercury to form Cable and Wireless Communications will create a new and more effective competitor to BT remains to be seen. The Director General pointed out that this will "depend crucially on the effectiveness of the management and the commitment of the shareholders".[34] The opening-up of the US inland telecommunications market could potentially affect the priorities of the US companies who currently have an interest in the UK telecommunications market and, therefore, on the competitiveness of the UK market.[35] We therefore believe that the process of developing competition is far from complete, and there is a long way to go before there is effective competition in the local markets. The cable companies face major difficulties in trying to hold on to and increase substantially their market share.

16. Number portability, the ability of customers to keep their telephone number when they change operators, had been regarded as a significant barrier to the development of local competition.[36] Following an MMC referral in 1995, OFTEL has modified BT's licence in July 1996, in accordance with the recommendations by the MMC. BT is now required to provide portability to competitors, on a reciprocal basis and at a charge determined by the Director General and similar modifications to other operators' licences are planned.[37] The CCA told us that the effects of this are beginning to be felt and should result in improved take-up rates of cable telephone services.[38] OFTEL told us about its commitment to extend number portability to "specially tariffed" numbers, such as freephone, this July, and to mobile numbers in 1998.[39] The evidence, therefore, suggests that this issue has largely been resolved and OFTEL has the situation under control.

Restrictions on PTOs

17. BT, along with other national PTOs,[40] are currently restricted from offering simultaneous broadcast entertainment services to two or more dwellings over their telephone line networks.[41] The restrictions were imposed to encourage the investment needed for local companies to build their networks and become established.[42] The restrictions on both conveying and providing were to be reviewed in 2001, although the Government was prepared to reconsider the conveying aspect in 1998 on the advice of the Director General.[43]

18. In our Optical Fibre Report we recommended that the restrictions be lifted progressively on a franchise by franchise basis subject to the principle that all cable franchises should be exclusive for seven years from the granting of the original licence and be removed in any areas which had not been covered by a cable franchise by the end of 1995. We further recommended that all restriction should be lifted by 2002.[44] The Government rejected these recommendations, pointing out the importance of maintaining the stable regulatory framework promised to the cable companies.[45]

19. The Director General told us that he intends to review the restrictions in 1997, as part of his periodic review of the competitiveness of the telecommunications market, and reach conclusions by early 1998. The review will cover conveying and providing because the distinction between the two is no longer as relevant as it was in 1991.[46] Mr. Ian Taylor however stated that the overriding policy of the Government is "that there will be stability and the current arrangements will prevail until 2001".[47] The CCA pointed out that any changes to the regulatory framework could undermine future investment and reminded us that the cable industry is only half way through its £12 billion investment programme and still facing significant losses.[48] Bell Cable Media and Mercury told the National Heritage Select Committee that cable companies needed "another two to three years at least" to complete their networks and that BT and Mercury should not be allowed to compete before 2001.[49] We welcome the Director General's review and recommend that he publish his conclusions.

20. In 1994 BT told the Committee that it estimated that it would cost £15 billion to upgrade its network to provide broadband service; but that it would make an investment of a "few hundred millions anyway" regardless of restrictions.[50] In the present inquiry BT has stated that in the last three years it had invested £7 billion in its network.[51] Of the £7 billion, total expenditure on access network to support broadband services was £294 million, half of which related to provision for multi-line businesses.[52] This corresponds with the "few hundred millions" referred to in 1994. As table 2 shows, the remainder of the £7 billion expenditure was mainly on core network, copper access and exchange systems. As yet, BT has no plans to "install broadband capability in the local loop to homes", which is the major element of investment affected by the restrictions.[53]

TABLE 2: BT PLC CAPITAL EXPENDITURE 1994-1996

	1996	1995	1994	Total
	£m	£m	£m	£m
Access network fibre & radio	124	104¹	66	294
Other transmission Core network/copper access	990	956	830	2,776²
Total transmission	1,114	1,060	896	3,070
Exchanges	566	605	493	1,664
Other network equipment	491	377	311	1,179
Sub total	2,171	2,042	1,700	5,913
Computers, motor vehicles, office equipment etc.	528	557	366	1,451
Land & Buildings	87	75	51	213
Total	2,786	2,674	2,117	7,577

Source: Ev. p.135.

¹Approximately half relates to Private Circuits local.

²BT's investment in its core network could also be considered broadband, as it is 2Mbit or greater and forms part of the network platform over which broadband services may be offered. But it would be misleading to represent the total as wholly driven by broadband service needs.

21. Nearly all telephones into domestic premises use copper wires; the trunk system is now fibre-optic cable and BT said that they also use fibre-optic cable to commercial premises with five lines or more.[54] At the time of our Optical Fibre Networks Report BT expected that building a broadband network throughout the UK would be based on fibre. Since then, advances in technology have meant that optical fibre is no longer as significant to the development of broadband services as it was considered to be in 1994.[55] Technologies such as Asynchronous Digital Subscriber Line, have enabled BT to provide many broadband interactive services to residential customers over its existing copper network.[56] Consequently, the anticipated cost of a broadband network is reducing[57] but will still be considerable. BT would need to commit further investment to upgrade its network to provide interactive broadband services more generally.[58] BT said that as a broad guide, for 3.5 million customer sites provided with broadband services over 5 years the cost would be around £4 billion.[59] In addition, BT told the National Heritage Select Committee that it has the capability of delivering some broadcast and on-demand entertainment services using existing telephony networks; it can deliver simultaneously up to six channels to any individual home. BT also told us that with the present technology, eventually over 90% of homes could be offered the service if it was economically justified.[60] The CCA said that BT could not deliver television channels "without heavy investment in ASDL technology ... Although BT's core network may be ready to have ADSL equipment installed, we are sure that BT has not progressed with such an investment ... mainly because they have not had the policy freedom to do so".[61]

22. However, BT argued that the restrictions did "potentially distort competition", pointing out that they affected the company's ability to plan in the long term. In particular, it was unable to develop effectively and efficiently its network using digital technology if it is prevented from employing broadcast technologies.[62] The evidence we were given suggests that the restrictions have affected BTs investment plans, but to a lesser extent than envisaged in 1994.[63] They nevertheless continue to create uncertainty for BT and affect its ability to invest in broadband services. BT estimated that the capital expenditure involved would take six to seven years in total to implement and would take three to four years after the restrictions were lifted, whenever that would be, for anything to be delivered to the market.[64] BT told us that an announcement before 2001 would assist its future investment plans and argued that a review now is realistic given the changes in technology and consumer environment.[65] We recommend that following the review by the regulator, the Government indicate its intentions as soon as possible.

23. BT stated that removal of one of the restrictions would not alter its current situation. If both restrictions were to be lifted, BT would consider other regulatory constraints such as the rate of return they are allowed to receive, the cost of technology, consumer demand and the content provider/service provider commitments before embarking on a programme of delivering broadcast and entertainment services.[66]

24. The evidence in this inquiry does not lead us to change the recommendations we made in 1994.[67] The CCA is now able to estimate more accurately the costs of upgrading cable networks to digital than it was in 1994. It has stressed to us that these costs are insignificant in the context of the companies' overall investment. Had the costs been higher it would have strengthened the case for continuing to protect the companies through the restrictions. There is a case for lifting the restrictions immediately. However, we recognise that this could have an adverse effect on cable companies. If the restrictions are not lifted soon and technology continues to change as rapidly as it has done so far, there is a risk that BT will no longer be able to compete with the cable companies. The evidence suggests that there is a strong case for an early review of policy on the restrictions. We welcome the Director General of Telecommunications review in 1997. We reiterate the recommendation of our Third Report of 1993-94 that all restrictions on PTOs should be lifted by 2002, and that an announcement lifting the restrictions is made immediately.

Regulating against anti-competitive behaviour

25. The Director General of Telecommunications has powers to deal with anti-competitive behaviour under three different Acts. Under the Competition Act, he has concurrent powers with the Director General of Fair Trading in relation to certain telecommunications matters. For example, he can take action if he believes that conduct by companies will restrict, distort or prevent competition, and make a reference to the Monopolies and Mergers Commission (MMC) if appropriate. Under the Fair Trading Act the Director General can refer certain industry-wide matters to the MMC for investigation. In both cases, he cannot require cessation of any activity pending completion of the investigation.[68] The Telecommunication Act 1984 gives the Director General powers to take action on anti-competitive agreements or abuse of dominant position through enforcement and modification of licence conditions. If a licence condition is breached the Director General can issue an order and non-compliance can result in a referral to the MMC. A recent example where OFTEL has issued such an order is BT's marketing campaign to win back customers from other operators. The Director General believed "BT has discriminated unduly in targeting other operators' customers" and had failed to obtain his consent to the below-cost element of the offer.[69]

26. The Director General told us that BT's licence was "littered with such detailed licence conditions"[70] and that in an increasingly competitive market it was more appropriate to regulate in a more general way on the types of behaviour which would be prohibited than on a condition by condition basis.[71] Consequently, the Fair Trading Condition (FTC), a more flexible and less interventionist arrangement, was introduced into BT's licence in October 1996, effective from December 1996, after the High Court ruled that the introduction of the FTC by OFTEL was legal. The FTC is due to lapse in 2001. OFTEL intends to incorporate the FTC in other PTOs' licences.[72] The FTC is based on Articles 85 and 86 of the Treaty of Rome but without the powers to fine or to allow third parties to claim damages for past breaches.[73] BT challenged the Director General's power to make the modification through the High Court.

27. OFTEL told us that regulation of anti-competitive behaviour is particularly important to interconnection and access issues in the network industries.[74] The Director General stressed that complaints about anti-competitive behaviour are not "BT's fault or the industry structure's fault" but arise out of the normal interplay of companies in a market that is in transition from a monopoly to full competitiveness.[75]

28. Both OFTEL and DTI believe that the FTC does not give the Director General any additional powers or powers that overlap with those of the Office of Fair Trading (OFT). The Director General told us that issues such as the extent of his competition powers and the distinction between his and the Director General of Fair Trading's roles are addressed in the judgement of the court. He said the judgement makes it very clear that "Parliament in 1984 saw the Director General and the Telecommunications Act as being the first line of defence against anti-competitive behaviour ... and that the powers available to me, and to the Director General of Fair Trading under the Competition Act and the Fair Trading Act, are a back-up ... not the other way round".[76] Mr. Taylor, the DTI Minister, told us that "any further moves to reinforce the powers or extend them would need to be done through competition law on the floor of the House here, where we can have a wider debate about its implications in either the specific telecom sector, or utilities, or more generally".[77]

29. BT told us that the Telecommunications Act 1984 framework for dealing with anti-competitive behaviour is limited because it lacks certain checks and balances, rights of appeal and powers to fine. BT stated that whilst the FTC gives the Director General greater powers to deal with anti-competitive behaviour, it does not allow for the right of appeal, nor does it provide a proper separation of the Director General's roles of investigation and adjudication.[78] On the latter point, BT viewed the setting up of a panel of expert advisors by OFTEL in relation to the FTC as only a partial solution to the problem.[79] BT said that the flaws in the current arrangements could only be rectified if the changes were made under general competition law and if Articles 85 and 86 were fully incorporated into general competition law. Such changes would require primary legislation. BT's call for reform was supported by the CCA and Mercury,[80] who also regarded the FTC as an interim measure. OFTEL also supported such reforms, pointing out, however, "that the Government has, however, made it clear that it does not intend to introduce such law reform measures".[81] Mr Taylor confirmed this, adding "the consultation document that we put out some time ago did not go completely down that path, but ... we are consulting more widely and listening very closely to the arguments".[82]

30. BT had no objections to OFTEL becoming more like a competition authority and having increased powers provided it was done by statute and there was a right of appeal to the courts.[83] BT also argued for a system in which decision-making was the responsibility of a small panel rather than of one individual, similar to the American collegiate system, since this would de-personalise decision-making.[84] We recommend that this should be a matter for consideration.

31. We see great merit in the arguments put forward by the companies and OFTEL for a system enshrined in statute and incorporating Articles 85 and 86, allowing proper mechanisms for appeals and rights of third parties. The consideration of reforms to general competition law is outside the scope of this inquiry. It is too early to assess how effective the FTC, licence-based, approach to anti-competitive behaviour will be. We believe that the lapse of the FTC in 2001 gives the opportunity to reconsider the position as regards general competition law, bearing in mind whether Articles 85 and 86 have been incorporated and whether it is appropriate to have sectoral or general competition authorities to deal with anti-competitive issues in the telecommunications industry.

4 Ev. pp.1, 3, 5, 54-5. Back

5 Ev. pp.3, 55. Back

6 Ev. pp.13, 54-5; Q.2. Back

7 Ev. p.5, 92. Back

8 Ev. pp.6, 55, 92. Back

9 Ev. p.92; See also Ev. pp.54-5. Back

10 Ev. p.5. Back

11 International facilities refers to facilities that are required to convey telecoms signals between countries and could involve, amongst other things, cables under the sea and landing stations on the shore. Back

12 Following the Green Paper on liberalisation of telecommunications infrastructure and cable television networks, the European Commission adopted directive 96/19/EC on the implementation of full competition in the telecoms market. This provides for the abolition of all exclusive rights for the provision of telecommunication services, including the establishment and the provision of telecommunications networks by 1 January 1998. It also required the liberalisation of provision of infrastructure by 1 July 1996 (OJL 74 March 96). Back

13 Ev. p.54. Back

14 Ev. p.3, 92. The local loop provides the connection between the customer and the local exchange, as opposed to the long-distance trunk network. The infrastructure runs past residential and business properties to which these properties can be connected for telephone (and possibly other) services. Back

15 Ev. p.92. Back