Lower DSL tariffs will only lead to FTTH if copper is phased out

Tuesday 4 October 2011 | 18:05 CET | Market Commentary

The European Commission has opened two consultations, as part of its Digital Agenda. The first is about non-discriminatory access for alternative operators to incumbents’ networks, while the other looks at how wholesale tariffs are calculated. Market parties can submit comments until 28 November. The goal of the European Commission and Digital Agenda commissioner Neelie Kroes is simple: stimulate the roll-out of new networks, especially in outlying areas. For the European incumbents, this means FTTH. The EC proposed making EUR 9.2 billion available for this, but it’s still unclear exactly what form this will take. A number of players, including France Telecom, Telefonica and Telecom Italia, reacted negatively to the proposals, but this is no surprise for Kroes, as these companies continually fight tooth and nail against things such as open networks and net neutrality.

Kroes is undoubtedly going in the right direction with both consultations. Alternative operators complain repeatedly of the incumbents’ tactics to favour their own retail operations. After years of regulation, the incumbents still have dominant positions on a number of submarkets, with market shares over 50 percent. The Netherlands is probably an example of a country where the incumbent little by little embraced open networks. For KPN this was more or less a condition of its takeover of Reggefiber. Whereas in 2003 KPN termed Tele2 a parasite on its network, it’s now getting together with all its wholesale customers to fight the cable operators. Belgium is probably a country with less competition, where the market is ruled by the copper/coax duopoly of Belgacom and Telenet.

There’s nothing wrong with the second consultation either: networks long depreciated can deal reasonably with lower wholesale tariffs. There is also a great deal of variation in these prices across the EU. The EC wants an end to this by changing and harmonising the calculation model, for example by accounting for historical costs. High wholesale tariffs on depreciated networks are clearly undesirable. This is ‘free money’ to the incumbent, with bureaucracy and inefficiency as the consequences. It’s the same as with the mobile termination prices: fine to keep these high for the first few years when the operators are getting started, but after a few years enough of this subsidizing mobile networks by fixed operators. Looking at the bigger picture, this is an argument for completely abolishing the system and moving to bill and keep. A similar situation exists in the internet world. In many states in the US, Amazon is exempt from sales tax (VAT), usually when it has no physical presence in the state. But in states such as California, this will end next year. The same maxim is true: newcomers have profited a few years from light regulation but it’s now time to create a level playing field for all the market players.

Back to the question of whether DSL wholesale tariffs should be higher or lower. A similar discussion took place a few years ago in Germany: Deutsche Telekom wanted higher DSL wholesale prices in order to earn more profit, which it would then spend on FTTH. The wholesale customers wanted lower tariffs in order to strengthen the business case for their DSL operations and invest in FTTH, which could make the DSL and broadband markets more competitive. The EC has now chosen the latter view, a decision which has upset the incumbents. However, it’s highly questionable whether this will work. It’s our distinct impression that lower DSL wholesale prices will have the opposite effect on FTTH to what the EC may hope. Unbundlers will see the results from their DSL activities improve, while at the same time the difference with wholesale fibre tariffs widens. The market consensus is that these extra costs for fibre cannot be passed on to end-users, as the extra value of fibre is not clear. They simply do not have enough pricing power to stick up prices by around EUR 10. Players such as  Tele2 and T-Mobile Online in the Netherlands will end up focusing more on xDSL and not providing services on fibre networks.

One thing the incumbents are right about is that their revenues initially will come under pressure under the EC’s proposals, as wholesale revenues from the DSL market will decline. The question is what will the net effect be. As an example take KPN, which in Q2 2011 had revenues of EUR 3.29 billion of which just EUR 150 million (less than 5%) was external sales from its wholesale division. And of that amount, far from all of it was from DSL. At the same time, the price cut will lead to higher volumes (at the expense of the cable sector) and as such, higher market share.

In theory, there is a way for lower DSL prices to lead to more fibre: by getting the incumbent to phase out the copper network wherever fibre is available. The EC has included this as a possibility under its proposals, but the question is whether it can be practically implemented. The hope is that market players will come up with some clever solutions in their responses to the consultation.

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