House of Commons - Spectrum - Culture, Media and Sport Committee

Spectrum - Culture, Media and Sport Committee Contents

2 Mobile network operators and their spectrum use

13. At the time of this Report there are four UK mobile network operators (MNOs): Vodafone, Telefonica O2 (known as O2), Hutchison 3G (known as Three) and Everything Everywhere, which is comprised of the Orange and T-Mobile networks that merged in 2010. The four MNOs each have different spectrum holdings that were allocated to them at previous auctions. There are many more mobile service providers in the UK—including Virgin Mobile, Tesco Mobile and TalkTalk —which offer mobile service packages through the four networks, but do not have spectrum holdings.

14. Current mobile technology, combining voice and internet services, is generally referred to as third generation (3G), although second generation (2G) services (voice and text message) are still in use. Fourth generation (4G) services, the most widely used of which is Long Term Evolution (LTE), are faster and have better coverage capabilities than 3G. At the time of this Report, 4G services have not been launched in the UK. The spectrum auction in 2012 will facilitate the roll-out of 4G services by releasing the necessary spectrum in the "sweet-spot". The roll-out of 4G services enabled by the release of this spectrum is expected to reach the UK in 2013.[5]

15. DCMS summarised spectrum allocations among the four MNOs in its written submission:

Initially, spectrum at 900 MHz was first allocated to the two (at the time) mobile operators. Later when 1800 MHz became available it was awarded to four operators (with the bulk going to the new operators that are now known as T-Mobile and Orange, recently combined to form Everything Everywhere). In 2000 the UK ran an auction for 3G spectrum at 2100 MHz and designed it in such a way as to result in five successful different bidders. The existing four operators were successful plus Three joined the market as a new entrant.

16. Spectrum for mobile communication and data transfer is organised, and sold, in bundles of two lots, known as "paired spectrum". This is because mobile telephones allow two-way data transfer and communications, as opposed to walkie-talkies which only allow one user to communicate at a time. The communication channel from the base station to the mobile device is called the downlink, and the communication from the mobile device back to the base station is called the uplink. The uplink and downlink operate on separate spectrum frequencies, hence there being two different spectrum frequencies in each paired bundle. Paired spectrum is measured in quantities of MHz and often specified in a form like "2x15 MHz" meaning 15 MHz of bandwidth in a lower band and 15 MHz of bandwidth in an upper band. DCMS provided a table of spectrum allocations as at May 2010 in its submission, which shows the spectrum holdings of the four MNOS:

	Paired spectrum holdings in MHz
Spectrum band	Vodafone	O2	Everything Everywhere	Three
900 MHz	2x17.4	2x17.4	0	0
1800 MHz	2x5.8	2x5.8	2x45	0
2100 MHz	2x14.8	2x10	2x20	2x14.6

Liberalisation of the 900 MHz licences

17. The MNOs' spectrum holdings are subject to licences set by Ofcom that prescribe what the spectrum can, and cannot, be used for. Holders of licences must pay a licence fee, charged on an annual basis at a rate set by Ofcom.

18. Following European legislation, in January 2011 Ofcom lifted the restrictions specifying that the existing 900 MHz and 1800 MHz licences had to be used for lower and higher frequency 2G, and allowed them to be used for 3G as well.[6] The 900 MHz spectrum licences that were "liberalised" in this way are especially effective in providing 3G connections over a wider geographic area, and also have better indoor coverage.

19. Not all of the MNOs had the original 900 MHz 2G licences, and therefore not all of them benefited from liberalisation. As shown in the table above, in May 2010 Vodafone and O2 both had 900 MHz and 1800 MHz spectrum licences; Everything Everywhere only had a 1800 MHz licence; and Three had neither. We wanted to discover whether or not the liberalisation of the 900 MHz licences had distorted the market in favour of the MNOs holding these licences.

20. Kevin Russell, the then Chief Executive of Three, explained to us why he thought the liberalisation of the 900 MHz licences put his company at a disadvantage:

There is a well documented and well understood significant competitive advantage to low frequency spectrum. It transmits about three times as far as high-frequency spectrum. That is an advantage that O2 and Vodafone have enjoyed in the marketplace for a long time. It has now been carried over directly into 3G with the liberalisation. It is a distortion that has been largely addressed in other European countries, so in every other European country that Three operates in, there has been an allocation or a re-auction of 900 MHz spectrum. There is no other country that we operate in other than the UK that has not addressed that distortion.[7]

Similarly, Richard Moat, Deputy Chief Executive Officer of Everything Everywhere thought that the market had been distorted in favour of the MNOs holding the liberalised licences and "that problem will perpetuate itself into the 4G environment in the future".[8]

21. The two MNOs with the liberalised 900 MHz licences, Vodafone and O2, both argued to us that any advantage they might have from the liberalisation of their 900 MHz licences had been overstated. Vodafone wrote:

Vodafone's existing holding of 900 MHz spectrum is already used in providing voice and data services; we carried around 42 billion voice minutes across our networks in the last financial year. To clear the 900 MHz band within the space of a year would require thousands more sites because we would need to cater for the calls and data services displaced from the cleared spectrum in other spectrum. This is clearly impractical and would result in a terrible experience for our customers.[9]

22. It is not surprising that the MNOs should seek to reinforce their own market positions in all negotiations about spectrum policy. We have not done a market analysis ourselves. It seems clear to us, however, that Ofcom—which has carried out extensive work in this area—is well-placed to analyse any threat to competition. Graham Louth, Director of Spectrum Markets at Ofcom told us:

I see no evidence today that consumers are suffering detriment as a result of a distortion of competition as a result of the fact that O2 can make use of that spectrum for 3G. We did a lot of analysis over a number of years to reach the final decision. It revealed that there is the potential for a competitive distortion, but it is not an immediate risk.[10]

With reference to O2 he told us that:

O2 has already started to make use of that flexibility. They are deploying 3G technology in the 900 MHz band in certain city centres. That is bringing consumer benefits today. O2's customers are getting a better 3G mobile service as a result of that than they would have done if we had not liberalised that spectrum.[11]

23. When Ofcom liberalised the 900 MHz licences for 3G use in January 2011, it did not alter the level of the licence fees paid by the licence holders but stated it would do so after the spectrum auction in 2012 when all spectrum licence fees for mobile use would be reviewed.[12] The MNOs without 900 MHz licences argued that, as soon as these licences had been upgraded to 3G, their market value increased and consequently the licence fees paid by O2 and Vodafone were too low. Nicholas Ott, Vice President of Strategy, Planning and Regulatory Affairs at Everything Everywhere, suggested that Ofcom should have started charging higher licence fees on the 900 MHz licences as soon as they were liberalised.[13]

24. Ofcom believed that liberalising the licences was of sufficient importance to consumers to justify proceeding with it before considering the issue of the licence fee. Ed Richards told us that "the administrative and economic priority, or the public interest priority was very clearly to get on with the auction and then come back and deal with the pricing question".[14] This view was also shared by the Minister for Culture, Communications and the Creative Industries, who pointed out that the liberalised licence holders will be charged higher rates after the auction when "you can then have a proper evaluation of what a market licence should be for that spectrum".[15]

25. Kevin Russell, then Chief Executive of Three, told us that, although he thought that licence fee levels were unfair, increasing the licence fees for liberalised spectrum would not be sufficient to cure the distortion in the market caused by liberalisation. He argued that the "distortion will be a fundamental, ongoing shortfall in coverage that will go to your brand and your ability to build your business".[16] Unsurprisingly, the two MNOs with 900 MHz spectrum holdings did not agree that they had a commercial advantage.[17]

26. The liberalisation of the 900 MHz licences held by Vodafone and O2 in January 2011 undoubtedly provided benefits for some of their customers and therefore helped to enhance those brands. Ofcom's decision to recalculate 900 MHz licence fees after the auction rather than at the time of liberalisation has resulted in Vodafone and O2 effectively underpaying for 3G capable spectrum from January 2011 until the new licence fees are set after the auction in 2012. The competitive advantage that this has given to Vodafone and O2 is, however, limited because their 900 MHz spectrum is already being used for 2G services and therefore cannot all immediately be upgraded to 3G.

27. The current duopoly on sub-1 GHz spectrum will be short-lived. Graham Louth told us that Ofcom had "considered requiring Vodafone and O2 to give up some of the 900 MHz spectrum so that it could be made available to other operators",[18] but had decided against doing so as the release of 800 MHz spectrum in the next auction would give all operators the opportunity to access sub-1 GHz spectrum.[19]

28. The debate surrounding the liberalisation of the 900 MHz licences reflects the predictably polarised views that exist among mobile network operators. It also provides an example of the difficult judgements Ofcom has to make in order to balance the needs of consumers with those of fair competition. We are convinced that Ofcom made a considered decision based on thorough research, and that—overall—the liberalisation of the 900 MHz licences has not resulted in a significant or permanent distortion of competition.

Spectrum trading

29. In 2010, the European Commission gave clearance for France Telecom and Deutsche Telekom to merge their UK mobile businesses (operating as Orange and T-Mobile respectively). However, the Commission said that the merged business, Everything Everywhere, must dispose of some of its spectrum to comply with competition rules, and that Everything Everywhere could keep the proceeds of the sale of the spectrum as long as it was completed before the next spectrum auction in 2012.[20]

30. On 20 June 2011, Ofcom announced that it had changed the regulations on spectrum trading, allowing MNOs to trade the rights to the spectrum they held, in a measure aimed at increasing mobile network capacity.[21] On 21 June 2011, the Financial Times speculated that one of the first transactions to take place under the new rules would probably be the sale by Everything Everywhere of the required 25% of its 1800 MHz spectrum.[22]

31. The 1800 MHz spectrum reportedly to be sold by Everything Everywhere had originally been allocated, at no initial cost, to its component companies T-Mobile and Orange in 1991.[23] Since then, £33 million in licence fees has been paid on this spectrum per year.[24] The Financial Times speculated that the sale of the 1800 MHz spectrum could net £450 million for Everything Everywhere.[25] In evidence to the Committee, Richard Moat and Nicolas Ott of Everything Everywhere said that it was too commercially sensitive to comment on the price the spectrum being sold might reach.[26]

32. Since being allocated its 1800 MHz spectrum, Everything Everywhere has paid an estimated £160 million in licence fees for it.[27] However, as the spectrum was given to Everything Everywhere at no initial cost, any amount made from the sale of the 1800 MHz spectrum will be pure profit. We asked Ed Richards and Graham Louth of Ofcom whether they thought it was appropriate that Everything Everywhere should make a substantial profit from the sale of a public asset that they were given for free. Ed Richards responded:

in resource markets of this kind these things sometimes happen. Crucially, we wanted to make trading possible and available in order to make sure the spectrum was in the hands of the people who valued it most highly. [...] The slight difficulty I have with this is that if one permits trading because of the general economic benefits, it is very difficult to then go back and say, "Well, you made too much money out of that so we have to somehow claw it back". I think that would remove all incentive, in certain circumstances, to trade.[28]

33. Estimates of the likely profit from the sale of Everything Everywhere's spectrum may have been excessive. Graham Louth told us:

we are about to revise the annual licence fees applying to the 1800 MHz spectrum. So any acquirer of the divested 1800 MHz will not pay what [Everything Everywhere] currently pays; they will have to pay the same full market value price that every other 1800 MHz licensee will have to pay. So I struggle to see why anybody would be willing to pay Everything Everywhere a very large price to get hold of that spectrum if they are going to have to pay "the full market value" for that spectrum as soon as they acquire it.[29]

When the Financial Times figure of £450 million was put to him, he said "we just don't know".[30]

34. The sale by Everything Everywhere of some of its spectrum allows a private company to profit substantially from the sale of a public asset. We acknowledge that unless companies can profit from the sale of their spectrum, there is no incentive for them to divest any of their holdings. However, we recommend that the Government and Ofcom investigate mechanisms by which a proportion of the proceeds of any sale could be used to the benefit of consumers. For example, Ofcom should explore whether it could compel Everything Everywhere to ring-fence a proportion of this windfall for investment in its network .

Spectrum licence fees

35. Spectrum licence fees are set by Ofcom and paid annually by MNOs with the financial returns going to the Treasury. Ofcom last reviewed the level of annual licence fee payable for mobile spectrum in 2004: it found that fees for mobile spectrum should continue to be set at a level in excess of the costs of administration, with the objective of encouraging efficient use of the spectrum in line with its statutory duties.[31] In its written submission, Ofcom states that, following the 2004 review, the mobile operators with licences to use the 900 MHz and 1800 MHz spectrum were paying licence fees of approximately £65 million per year.[32] As set out earlier, Ofcom did not alter the licence fees following the liberalisation of the 900 MHz and 1800 MHz spectrum, but aims to review all of the licence fees again after the 2012 auction of 800 MHz and 2.6 GHz spectrum.[33]

36. Ofcom's proposals, contained in its consultation on the auction rules, suggest linking the licence fees for the liberalised 900 MHz and 1800 MHz spectrum with the market values of the 800 MHz and 2.6 GHz spectrum that will be determined at the auction.[34] Everything Everywhere argued that this solution was unsatisfactory because "the detail of these proposals undervalues 900 MHz and overvalues 1800 MHz and we would like to see this addressed. 900 MHz spectrum can and is being used for high speed mobile broadband now. There is no equipment for UMTS [Universal Mobile Telecommunications Systems, the most widely used 3G technology] 1800 MHz".[35] Graham Louth of Ofcom pointed out, however, that:

It is possible to deploy 3G technology in the 1800 MHz band, but it is not widely adopted around the world so the equipment is quite expensive. However, the next generation 4G technology, LTE, is definitely going to be used in 1800 MHz band. In fact that is one of the leading contenders for the next use of the 1800 MHz band. I think in the longer term it is absolutely clear that the 1800 MHz will have other uses and potentially a different value, although whether it is much higher than the current price of the 900 MHz is yet to be seen.[36]

37. From the opposing perspective, Vodafone was also unhappy with Ofcom's proposals because they "mean that the amounts paid in the auction for 800 MHz spectrum will translate directly into the annual fees for 900 MHz spectrum paid by Vodafone and O2. In effect, Vodafone is required to pay twice for any spectrum that it purchases: once in the auction and once via the new annual licence fee".[37]

38. We acknowledge the concerns of some of the mobile network operators regarding spectrum licence fees. However in a commercial situation such as this, it is unlikely that all interested parties can be satisfied at the same time. We agree that Ofcom's proposals to link licence fees to the market value of the spectrum determined by the auction is the most likely way to ensure that the fees charged to MNOs are fair and appropriate to the market value of their spectrum holdings.

5 Ev 60 Back

6 Directive 2009/114/EC; 16 September 2009 Back

7 Q 34 Back

8 Q 34 Back

9 Ev 90 Back

10 Q 284 Back

11 Q 284 Back

12 Ev 101 Back

13 Q 91 Back

14 Q 294 Back

15 Q 247 Back

16 Q 91 Back