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REGULATION, COMPETITION AND PRICES
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BT
operates in an increasingly competitive and dynamic commercial environment,
both in the UK and around the world. The 2006 financial year saw
the most significant change to the UK regulatory regime since BT
was privatised when, in response to Ofcom’s strategic review
of telecommunications, we proposed a number of legally-binding Undertakings
under the Enterprise Act 2002 (the Enterprise Act). These Undertakings
were accepted by Ofcom and came into force in September 2005. (See
BT’s Undertakings under the Enterprise
Act)
The Undertakings are intended to deliver clarity and certainty to the UK telecommunications industry, leading to regulation being focused on the deepest point in the network at which competition is feasible, and rolled back elsewhere.
This is mainly being achieved through the creation of a new Openreach line of business to manage our access and backhaul networks and their associated portfolio of Openreach products and services. Apart from any exceptions agreed with Ofcom, these products and services are to be made available in
exactly the same way to all communications providers who wish to use them – including BT itself – under the same timescales, terms and conditions – including price – and using the same processes, with the same information available to all.
By offering services equivalently, BT anticipates deregulation and the benefits this will bring to consumers and others in the marketplace as part of enhancing the competitive process.
Our policy is to comply fully with the regulatory framework in which we operate. For example, we are committed to meeting the obligations imposed under the Communications Act 2003 (the Communications Act) and BT’s Undertakings to Ofcom under the Enterprise Act, and complying with generally
applicable legislation such as the Competition Act 1998 (the Competition Act), while competing fairly and vigorously within the rules.
We
continue to work closely with compliance professionals in the telecommunications
and other regulated industries in the UK and the EU (European Union)
to establish best practice. We publish an annual compliance report
(which does not form part of this report) at http://www.btplc.com/Societyandenvironment/index.htm
The Office of Communications (Ofcom) was set up under the Office of Communications Act 2002 to provide a single, seamless approach to regulating the entire communications market. Its functions were defined by the Communications Act. In carrying out its functions, its principal duty is to further the
interests of citizens in relation to communications matters, and secondly to further the interests of consumers in relevant markets, where appropriate by promoting competition. In performing its duties, it must have regard to a number of matters, including the desirability of promoting competition and the
use of effective self-regulation, encouraging investment and innovation, and encouraging the availability and use of high-speed data services (including broadband).
Regulation takes the form of sets of conditions, mostly laid down by Ofcom, and directions made by it under these conditions. Some conditions apply to all providers of electronic communications networks and services; others apply to
individual providers which are designated to have the USO (universal service obligation) or, following a review of the relevant markets, are found to have SMP (significant market power). Other general
obligations are set out in the Communications Act.
Conditions applying to all providers of electronic communications networks or services |
The ‘General Conditions’ made by Ofcom under the Communications Act generally apply to all providers of electronic communications networks or services. Although these conditions are concerned primarily with consumer protection, they also address issues such as general access and interconnection
obligations, standards, emergency planning and numbering. A separate condition regulates the provision of premium rate services.
Electronic Communications Code conditions |
The Electronic Communications Code applies to communications providers authorised to carry out streetworks and similar activities for network provision. Its application is subject to conditions made by the Secretary of State for Trade and Industry.
Other general obligations |
Other obligations contained in the Communications Act include:
| • |
the payment of
administrative charges (broadly the equivalent of licence
fees under the old framework) |
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the provision of information to Ofcom when required. |
Conditions applying to BT specifically |
Universal service obligation conditions |
BT is the designated supplier of universal service for the UK, excluding the Hull area where Kingston Communications is the designated provider.
The services covered by the USO are defined in an order issued by the Secretary of State for Trade and Industry. Our primary obligation is to provide a single narrowband connection to the fixed telephone network which, in addition to voice services, must support functional internet access, to anyone
who reasonably requests it. Additional conditions relate to issues such as schemes for consumers with special social needs, and the provision of public payphone services.
Ofcom intends to review the cost and benefit of the USO in 2007 and if it considers the net cost of the USO to be an undue burden, it could look at alternative ways of funding it.
Significant market power conditions |
Ofcom is required by the European Commission (EC) to define, analyse and regularly review markets, and to determine whether any communications provider has SMP, which is aligned with the competition law concept of dominance. Economic regulation can only be imposed following a market review and a
finding of SMP.
Where Ofcom finds that a provider has SMP in a market, it must impose such additional SMP conditions as it considers appropriate, as specified in the Communications Act. These may include obligations to meet reasonable requests to supply certain services to other communications providers, not to
discriminate unduly and to notify price changes and obligations relating to regulatory accounting. In some cases, extra obligations such as price controls have also been imposed.
Following a number of market reviews by Ofcom, BT has been deemed to have SMP in certain fixed telecommunications markets, including the markets for fixed narrowband retail services, fixed narrowband wholesale exchange lines, call origination and conveyance, wholesale broadband access and
wholesale local access.
Enforcement under the Communications Act |
Where a breach of a condition is not remedied following preliminary notification by Ofcom, Ofcom may take legally enforceable action under the Communications Act and/or impose a penalty of up to 10% of relevant revenue. In addition, a person who suffers loss or damage as a result of a breach may, with
Ofcom’s consent, sue for damages. In the case of serious and repeated contraventions, Ofcom may restrict or suspend the provider’s entitlement to provide networks or services. The Communications Act provides for appeals against regulatory decisions, including appeals on the merits, to the Competition
Appeals Tribunal.
BT’s Undertakings under the Enterprise Act |
The key Undertakings given by BT are to:
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establish a new access
services division to operate BT’s local access and backhaul networks,
and to provide services over those networks to the UK communications
industry on the basis of equivalence – we established Openreach
for this purpose on 21 January 2006 |
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deliver equivalence of input for key wholesale products, and increased transparency for others |
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introduce new rules on access
to, and sharing of, certain restricted information – in particular
the commercial information of Openreach and BT Wholesale |
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restrict the exercise of influence
by other parts of BT on the commercial policy of both Openreach and parts
of BT Wholesale |
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ensure fair access and migration
to BT’s next-generation network – 21CN – for other communications
providers |
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publish and make available
to all BT people a code of practice explaining what they must do to comply
with the Undertakings |
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create an Equality of Access
Board (EAB) to monitor, report and advise on BT’s compliance
with the Undertakings and the code of practice. The EAB was
established on 1 November 2005. (The EAB Annual Report
2006 (which does not form part of this report) is available
online at www.bt.com/eabreport). |
The Undertakings
include a number of things to be achieved by specified dates. As at 31 March
2006, we had achieved all the milestones required by that date, and we are working
hard to ensure future milestones are achieved.
Enforcement under the Enterprise Act |
In the case of a breach of the Undertakings,
Ofcom has the right to seek an injunction through the courts. However,
the Undertakings set out a process for Ofcom to issue a direction,
which we would normally expect it to do rather than instigate court
proceedings. A third party who suffers loss from the breach may
take action in the courts against BT for damages. Whether or not
it took enforcement action, Ofcom would be able to refer BT to the
Competition Commission. (See Enterprise Act)
BT’s recourse against an Ofcom decision in relation to the
Undertakings would be an application for judicial review.
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Competition
and the UK economy
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The growth of mobile telephony over the past decade has been a major factor in shaping the UK’s telecommunications landscape. Mobile now accounts for around 30% of total UK voice minutes. BT’s share of the UK voice market, including mobile, is estimated to have fallen by about 3% in the 2006
financial year to approximately 37%. The mobile and fixed-line markets are currently treated as separate and regulated differently.
We anticipate that competition in the UK fixed telecommunications market will intensify as a result of the Undertakings as services are provided equivalently and the take-up of Openreach products increases.
BT’s share of the residential fixed-voice calls market declined to an estimated 58% for the 2006 financial year, compared with estimates of 64% and 70% for the 2005 and 2004 financial years respectively. CPS (carrier pre-selection) has been one of the contributors to the loss of share in the fixed-voice
market.
We estimate that BT had 41% of the market for business fixed-voice calls in the 2006 financial year, compared with estimates of 42% and 44% in the 2005 and 2004 financial years respectively.
We also estimate that BT supplied around 74% of exchange lines in the UK at the end of the 2006 financial year, compared with 79% and 82% in the 2005 and 2004 financial years respectively, with cable operators being the primary alternative providers.
Current and future wholesale line rental arrangements will enable BT’s fixed-line customers to move PSTN lines to other operators which are expected to be the source of more competition in the future.
Since 2000, we have been required to provide LLU (local loop unbundling) which enables other operators to use the lines connecting BT’s local exchanges to our customers, and to install equipment in our exchanges.
There are two types of unbundled line:
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a fully unbundled line
gives other operators the exclusive use of the copper line |
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a shared access line only gives other operators the use of the high-frequency channel used for broadband. The line will also be used by the customer’s fixed-line voice provider. |
Take-up of LLU (a key Openreach product) continued during the 2006 financial year, with the total number of unbundled lines exceeding 350,000 at 31 March 2006. (We anticipate a substantial increase in the number of unbundled lines in the 2007 financial year.) Communications providers benefited from
lower prices for both connection and rental resulting from cost studies carried out by Ofcom during the period.
In addition to communications industry-specific regulation, BT is subject to the competition law provisions of the Competition Act in the UK and of the European Community Treaty. Breach of UK or EU rules could lead to fines of up to 10% of a company’s worldwide revenue in its previous financial year
and/or claims for damages in national courts. A company may also be ordered to cease an infringing activity.
In 2004, Ofcom launched an investigation into allegations that BT had abused a dominant position in relation to its pricing of consumer broadband products. Ofcom sent BT two statements of objection to which we responded, arguing that our pricing does not amount to an abuse of dominance. Ofcom
is expected to issue a decision in the first half of 2006.
The Enterprise Act aims to give more independence to the competition authorities, reform insolvency and bankruptcy laws, and tackle trading practices that harm consumers.
Under the Act it is a criminal offence, punishable by imprisonment and/or a fine, to engage in cartel activity. In addition, where companies infringe UK or EU competition law, their directors can be disqualified from being involved in managing a company for a maximum period of 15 years.
The Enterprise Act also gives the Office of Fair Trading power to refer issues relating to the possible restriction of competition in particular markets for investigation by the UK’s Competition Commission. In relation to communications markets, this power is exercisable by Ofcom.
Our fixed network services in the UK are subject to price controls – formulated by Ofcom – at the retail and network levels. Lower network charges benefit both BT’s retail businesses and other communications providers.
We are subject to retail price controls covering public-switched telephony call charges and exchange line rentals. The price control is based on a formula calculated by reference to the UK RPI (Retail Prices Index) and a factor, known as X. For services covered by the controls, average prices cannot increase in
each year beginning 1 August by more than the annual change in RPI minus X.
The retail price control applies to services used by the 80% of our residential customers with the lowest bills. The value of X changed in December 2005 from RPI to zero giving BT a small increase in pricing freedom up to the end of the current control period on 31 July 2006. Ofcom is consulting on
whether a new retail price control will be required after July 2006.
In addition, BT has given an assurance that we will adhere to a RPI + 0% price cap until 30 June 2006 for retail analogue private circuits and 8 Mbit/s digital private circuits.
We operate under interconnection agreements with most other operators. Our charges for a range of interconnect services are controlled by Ofcom, under the NCC (network charge control) regime. These controls are designed to ensure that our charges are reasonably derived from costs, plus an appropriate
return on capital employed. Depending on the degree of competition, charges are cap-controlled each year by RPI minus X for services Ofcom considers unlikely to become competitive in the near future, and safeguard cap-controlled (ie no increases above RPI) for services likely to become competitive. The
current NCC period began on 1 October 2005 and will last until 30 September 2009. For the current charge control, Ofcom has determined different levels of X for services covered by the control. These range from RPI–11.5% to RPI+0.75%. At the same time, Ofcom determined that BT no longer had SMP
in the markets for inter-tandem transit and conveyance.
BT must notify Ofcom and other operators if it intends to amend existing charges or offer new services.
Number portability charges are covered
by an RPI minus X formula with X set at 5%, until 31 July 2006 when
the price control lapses.
Wholesale access charge reductions |
As part of the strategic review and to encourage competition, BT agreed that our wholesale access residential price would be reduced in two stages. The first was a reduction of 50 pence a month (£1.50 per quarter) implemented on 1 August 2005. The second reduction followed the publication of Ofcom’s
statement on setting and reviewing charge ceilings for WLR (wholesale line rental) on 24 January 2006. From 1 March 2006, our rates have been as follows:
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residential analogue
lines: new line installation – £88, transfer – £2
a line, and annual line rental – £100.68 |
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business analogue lines: new line installation – £88, transfer – £2 a line, and annual line rental – £110. |
Partial private circuit charge control |
PPCs (partial private circuits) are leased lines that BT sells to other network operators. On 1 October 2004, Ofcom introduced a PPC charge control to replace the annual determinations previously carried out by Oftel.
The control is a four-year, three-part RPI-X formula:
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low bandwidth (RPI-4%) |
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high bandwidth (RPI-6.5%) |
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equipment (RPI-8.9%). |
Additionally,
as part of our Undertakings, we have agreed to make a new form of wholesale private
circuit services available via Openreach, subject to demand from other communications
providers. These are TILLAP (traditional interface leased lines access product)
and TILLBP (traditional interface
leased lines backhaul product).
BT must comply with the regulatory regimes in the countries in which we operate and this can have a material impact on our business.
The degree to which European Commission directives relating to electronic communications have been implemented varies from country to country. Although the general move towards the new regime continues, in some countries this is happening more slowly than, for example, in the UK.
BT does not have universal service obligations outside the UK, although in certain member states we may be required to contribute towards an industry fund to pay for the cost of meeting universal service obligations in those countries.
The European Commission is formally investigating the way the UK Government has set BT’s property rates and those paid by Kingston Communications. The Commission is examining whether the Government has complied with European Community Treaty rules on state aid in assessing BT’s rates.
BT’s rates were set by the Valuation Office after lengthy discussions based on well established principles in a transparent process. In our view, any allegation of state aid is groundless and we are confident that the Government will demonstrate the fairness of the UK ratings system. A finding against the UK
Government could result in BT having to repay any state aid we may be determined to have received.
The vast majority of the markets in which we operate around the world are regulated, and in most of these we have to meet certain conditions and obtain licences or other authorisations. The degree to which these markets are liberalised varies widely. Our ability to compete fully in some countries is
therefore constrained.
We continue to press incumbent operators and their national regulatory authorities around the world (including the EU) for cost-related access to their networks where appropriate.
Other significant changes and issues |
Regulatory valuation of copper-based local access network |
In August 2005, Ofcom reduced the current cost regulatory asset value of the copper-based local access network. This valuation is used only for regulatory purposes. Ofcom estimated that the net current cost carrying value of these assets for regulatory purposes at the end of the 2006 financial year will be
reduced by about £879 million. It also extended the periods over which certain access network assets will be written off from the 2007 financial year onwards.
Ofcom estimated that the combined effect of reducing net current cost regulatory asset value and extending asset lives would reduce costs (used for regulatory price setting) relating to BT’s copper access lines by about £300 million in a full year, excluding the impact of any change to the allowed return
on capital employed. These changes were reflected in revised prices for wholesale line rental and unbundled local loops announced in late 2005.
In August 2005, Ofcom determined what it believed were appropriate rates for BT’s cost of capital for regulated products and services. This rate is used only as a reference against the regulatory current cost values of BT’s regulated products. The overall rate for BT’s cost of capital was assessed as 10.9% on
a pre-tax nominal basis, compared with a rate of 13.5% set in 2001. The reduction was a result of lower interest rates, a change in Ofcom’s assessment of the premium associated with investment in shares, and a revised view of BT’s overall risk profile compared with the market as a whole.
This overall rate was split by Ofcom into a lower rate of 10% for local access services (ie those now managed by Openreach), and a higher rate of 11.4% for the rest of BT. The local access rate was reflected in the revised wholesale prices proposed in 2005 by BT for both unbundled local loop and
wholesale line rental products.
In June 2005, we reached agreement with Ofcom that rental prices for IPStream and Datastream – the most popular wholesale ADSL broadband access products currently used by service providers – will not reduce until there are 1.5 million unbundled lines in the UK, with certain exceptions.
Under the terms of the Electronic Communications Code, an electronic communications provider with apparatus on or in the public highway is required to make financial provision to cover any damage caused by work it carries out, and for the removal of its network in the event of liquidation or bankruptcy.
The conditions require the company to provide Ofcom annually with a certificate that, in the opinion of its board of directors, it has fulfilled its obligations to ensure the availability of the required funds. This has been done by BT.
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