City Telecom's Submission on

The 1998 Review of Fixed Telecommunications
to the Legislative Council's
Panel on Information Technology and Broadcasting

September 22, 1998

1. Introduction

City Telecom (CTI), a public company listed in Hong Kong, is an active player in the telecommunications market. CTI accounts for about 10 per cent of the total IDD traffic in the Special Administrative Region. The company has also launched an Internet service recently.

CTI is committed to expanding and bettering its services as far as the future telecommunications regulatory framework would allow.

The following sets forth CTI's position on "The 1998 Review of Fixed Telecommunications: A Considered View," issued by the Information Technology and Broadcasting Bureau on September 3, 1998. This paper focuses on two major issues:

  1. the moratorium on Fixed Telecommunications Network Services (FTNS) licenses; and

  2. the proposed "forward-looking" basis of setting interconnection charges.

2. Background

As part of the arrangements for Hongkong Telecom's (HKT) early surrender of its external telecommunications exclusive rights, the Government has decided to extend International Simple Resale (ISR) to cover voice services by 1999. At the same time, the FTNS operators are guaranteed that they can run their own external facility-based operations by 2000.

Barring unreasonable interconnection charges, the IDD fees are poised to be drastically lowered when the ISR voice services are available. The Government's $6.7 billion package with HKT can be value for money for the consumers.

ISR fax/data services are already in service. The interconnection charge levied by the FTNS operators on the ISR fax/data operator for this category of service is currently set at 3.3 cents per minute. This rates level is in line with HKT's proposal two years ago on the local delivery charges between FTNS and Public Mobile Radiotelephone Service interconnection.

During the debate on the Government's deal with HKT earlier in the year, the authorities indicated that future interconnection charges for the ISR voice services will be calculated on a costs-related basis.

In the latest consultation paper however, a new concept of so-called forward-looking interconnection regime is proposed as commercial incentive for FTNS investments. It has been circulated in the grapevine that this forward-looking charge could be set as high as between $0.4 to $0.6 per minute. If this is the case, the ISR costs will be significantly increased to the detriment of consumer interests. The costs for setting up an ISR telephone call to the US and Canada, for example, could be increased by as much as 70 per cent (Annex).

This problem will be further aggregated, if the number of FTNS licenses are to continue to be limited at just four. There is a danger for Hong Kong's future gateway to all other broadband applications be hijacked by a few business groups.

3. FTNS licenses

A key issue posed by the consultation paper is whether additional FTNS licenses should be issued, now that the three-year moratorium imposed in 1995 to protect the three newcomers have expired.

CTI believes that market forces are the best guarantee for improvements in services and consumer interests. The Government should open up the FTNS market without further delay.

I. Over-concentration of interests

The Government proposes in Chapter VII of "The 1998 Review of Television Policy: A Consultation Paper" to open Wharf Cable's broadband network to other television and telecommunications services. FTNS operators, on the other hand, would be allowed to diversify their network operations to "convey and provide television program services, including pay television and VOD services."

CTI welcomes the move, which is in line with the trend of convergence of television, telephony and computer technologies, to maximise the network potentials. This, however, should not be mistaken as a meaningful step towards further liberalisation of the fixed telecommunications as well as television industries.

In terms of business interests, the Wharf Cable and New T&T networks are in fact owned by the same group. Meanwhile, the HKT group has already set up a VOD operation in the form of IMS. Apart from HKT, the remaining three existing FTNS operators are connected with major property developers in Hong Kong.

These multi-purpose networks will be the major gateway to future broadband services. Although there are rules and regulation to guard against unfair trading practices between the various business operations under the same holding companies, the fact remains that Hong Kong's telecommunications and television transmission services would be under the control of only a handful of business interests.

This over-concentration of interests is not conducive to genuine competition. The imminent convergence of television and telecommunications services has made it even more urgent for more FTNS operators to be admitted into the market.

If the FTNS operators are allowed to impose a high forward-looking interconnection fee on, for example, a VOD service provider who does not have its own network facilities, such as Hong Kong Star, the later will be trapped in an almost impossible position to compete.

II. Disappointing performance of FTNS newcomers

As highlighted in the consultation paper, the three new FTNS operators have only managed a combined market penetration of less than two percent. The newcomers have pointed to practical difficulties they have encountered in rolling out their network. They, therefore, demand that the three-year moratorium be extended.

The three FTNS are all backed by influential business groups with extended experiences in the local conditions. They also enjoy the added benefit of being affiliated with major real estate developers in Hong Kong, who may become dominant players in the fourth category of television program service license as outlined in the parallel consultation paper on television policy.

If these three FTNS have found it difficult to establish their networks over the past three years, it will be conceivably much more difficult for any other new entrants, particularly foreign telecommunications companies, to gain a foothold in the market.

Any new entrants will have to take into the reality that they would have a hard time catching up with the three FTNS operators. It is conceivable that future licensees would need more than three years to get to where the three have already achieved. The three have already enjoyed a reasonable head-start over other late competitors.

A one-year extension of the moratorium would be meaningless. Unless there are some fundamental changes in the way the three operators are allowed to roll out their facilities, a breathing space of one or two more years would not better the position of them significantly.

III. Lack of innovative services

The three FTNS newcomers have pointed to their low penetration rates in raising their concerns about the end of the moratorium. What the consultation paper has failed to address is the fact that the three have failed to bring about new and innovative services to their customers.

According to HKT estimates reported in the media, the three FTNS newcomers have earned between them a total of $2.7 billion in local delivery fee alone over the past three years. The amount is out of proportion to the actual investments that the companies have put in to build up their respective networks.

They are apparently more interested in the more lucrative IDD market, rather than introducing innovative services that are already available elsewhere to the local market. There is no reason to suggest that extending their exclusive rights would result in any difference in this regard.

New applications are the best driving force for consumers to consider switching over from the dominate FTNS operator to its competitors. Nonetheless, the existing players have done very little in this regard.

IV. Favoritism for FTNS operators

When the authorities issued the three new FTNS licenses in 1995, they were meant to allow the licensees to run local network services. Under the Government's package to reclaim HKT's exclusivities, the other three FTNS operators have already been given privileges in areas irrelevant to their local services including:

They are now poised to reap a fourth unexpected advantage as a result of the Government's proposal to allow FTNS networks to convey television program services as described in "The 1998 Review of Television Policy: A Consultation Paper," under which "small scale, niche or localised television program services targeting specific viewer groups" such as estates of less than 5,000 households, or 20,000 people, would be permitted.

An extension of their moratorium to further protect the three FTNS groups smacks of favoritism on the part of the Government.

V) Minimal consequences for lesser FTNS investments

The implications on both the economy and consumer interests will be minimal, even if the three FTNS operators chose not to continue expanding their local networks. Their local client bases are insignificant, while their services are easily replaceable.

The public debate on the issue has been partially directed to the way in which HKT should open up its Central Offices for Type II connection for the other FTNS operators. Unless the latter can come up with additional added value services, the consumer will have little incentive to switch over to a new FTNS service provider even if their charges are marginally lower than those of HKT.

The authorities have apparently overstated the significance, and thus the incentives for them, of the three existing FTNS operators. At least four other telecommunications players have expressed an initial interest in entering the Hong Kong FTNS market, as soon as the moratorium is lifted.

4. FTNS Interconnection charge

The issue of interconnection charge is crucial for the development of Hong Kong's telecommunication industry. This explains why even the FTNS operators have sought clarifications form the Government, before they commit themselves to further investment plans.

The consultation document spells out for the first time the Government's intention to set future interconnection rates for FTNS operators on a so-called forward-looking basis. If implemented, it will amount to a fundamental departure from the Government's original position of calculating the fees on a costs-plus-reasonable-profits basis. This policy change would have far-reaching ramifications for the industry.

This concept, addressed briefly in Paragraph 3.4 of the paper, has not been discussed in previous official documents. This has given rise to a series of new questions that have not been covered in previous consultation exercises.

Some of the more obvious problems of a forward-looking interconnection regime are listed as follows:

I) Applicability to HKT

According to the section in question, "The interconnection arrangements will be such as to provide with sufficient revenue to cover all relevant costs of carriage of external telecommunications services on the local networks, including the appropriate cost of capital reflecting the risk involved in investing in the local infrastructure, such costs to be assessed on a forward-looking basis."

As the dominant FTNS operator, HKT should not be regarded as in the same league as the three newcomers, or any future entrants, in terms of either "the risk involved investing in the local infrastructure" or the projected amounts of commitments they would need to improve their respective facilities.

The notion of cost recovery on a forward-looking basis is sinply irrelevant to HKT.

II) Interconnection charge entitlements

The issue of who should be entitled to the interconnection charges also has significant implications.

A simple, uniform interconnection charging scheme on a forward-looking basis could not address the different statuses of various FTNS operators, who are bound to differ in their investment scales and the risks associated with them.

The authorities need to explain whether a two-tier, or even a multi-tier, interconnection regime is to be imposed to reflect such differences between the dominant operator and the lesser players. It remains unclear whether those FTNS operators committed to investing more are to be rewarded with higher interconnection charges on external service providers using their local facilities.

If this is the case, the proposed arrangement is likely to be counter-productive as external service providers would then be inclined to opt for FTNS operators charging the lowest interconnection fees. Those with the least investment commitments would stand to benefit the most from a forward-looking charging scheme.

On the other hand, if only a uniform interconnection regime is to be applied, operators bearing different degrees of investment risks would enjoy the same level of return. In either scenarios, the stated policy objective of encouraging investment in local facilities cannot be achieved through interconnection charges on a forward-looking basis.

Given its well-established Public Switched Telephone Network (PSTN), HKT could offer the cheapest interconnection service on a conventional cost-plus-reasonable-profit basis. Whether HKT is to be covered by the forward-looking concept will lead to very different results.

It would be ironic if future IDD callers are deprived of the lowest possible rates and forced to pay a higher interconnection charge to HKT, just because other FTNS operators need to be protected from their perceived investment risks.

III) The role of PMRS operators

As framed in the consultation paper, the forward-looking interconnection regime seems to be intended only for FTNS operators. The role of Public Mobile Radiotelephone Services operators, on the other hand, has not been tackled.

The first point of connection for an ISR operator can either be a PMRS or an FTNS operator. An ISR call may in reality go through several FTNS operators before it is connected for the end user.

It remains unclear whether and how the various network operators concerned are to share the forward-looking charges. Alternatively, an ISR service provider may only be required to pay a forward-looking charge to the operator of the first point of interconnection, which may well turn out to be a PMRS network.

Any final arrangements in this regard will have a direct impact on the ISR's choices of first point of interconnection and the workability of the proposed regime.

A more reasonable arrangement is for the FTNS operator connected directly to the end user alone to claim the interconnection charge. This is the most direct and simplest method to ensure that the FTNS operators are given the incentive to build up their local networks. Other intermediate networks should only be entitled to collect a lower transit charge.

IV) Cross-subsidies between IDD and local services

The Government has made clear its intention to remove the anomaly of cross-subsidy between IDD and local services in the long run. This objective has already been incorporated into the Government's $6.7 billion deal with HKT, under which local tariffs are poised to be raised gradually.

The introduction of a "forward-looking" interconnection regime represents a retrogression on this much-cherished "users pay principle." International Simple Resale (ISR) service providers, and by extension their customers, will have to shoulder an additional burden of bearing the investment risks of building the local networks.

Also related is the question of whether other Added Value Services (AVS) operators, including Internet Service Providers who are now only paying PNET charges, should also contribute to this new forward-looking insurance policy for the FTNS operators.

Where the authorities should draw a line between who should and who should not contribute to such an interconnection regime is doomed to be arbitrary. Internet phone services, which will soon be permitted, for example might also be subject to the proposed new regime.

It would be equally arbitrary, should IDD users alone are subject to forward-looking interconnection arrangements.

CTI has recently raised the topic with the Government, the administration is obviously inclined to continue to single out IDD users to subsidise the local loop. The only justification put forward by the officials is that this has traditionally been the case.

V) Distinction between ISR fax/data and voice services

Presumably, at the current rate of 3.34 cents per minute, the ISR fax/data operators are not subject to any forward-looking interconnection regime. As a matter of fact, the current rate for an interconnect line between VAS and PSTN was approved by the Office of the Telecommunications Authority as recently as last May.

Nevertheless, the consultation paper implies that this arrangement needs to be revised when ISR voice services are introduced in 1999, so as to provide "commercial incentives" for continued investment on their local facilities for the FTNS operators.

As asserted in OFTA's statement on 15 May, the cost of conveying VAS traffic over the network is lower because of the smaller number of call attempts per occupancy minute generated." The set-up costs for data connections are indeed lower than those for voice.

A higher interconnection rate on ISR voice over fax/data will be difficult to justify. It will be even harder to justify an increase in the current interconnection rate between HKT and VAS providers, just to bring it in line with the proposed forward-looking regime for ISR voice connection.

Hence, it is imperative for the bureau to clarify whether the proposed forward-looking regime is meant to target only ISR voice connection, or whether it is meant to be all-embracing covering even non-voice connection as well.

5. Recommendations

Based on the above observations, CTI recommends that:

I) The Government should open up the FTNS market for new entrants who are equipped with the necessary financial and technical capabilities without further delay, so as to enhance competition in terms of both services and innovation. The moratorium should not be extended.

II) Future interconnection charges for ISR and other added value services access to the FTNS networks should not be based on a so-called forward-looking basis meant to cover the investment risks of the FTNS operators. Instead, the regime should be set on a costs plus reasonable profits basis, comparable to the 3.34 cents per minute level now levied on ISR fax/data operators.


For enquiry, please contact Miss Alison Chow at 21998981.