Introduction. Carrier-to-Carrier Charging Principles (for Fixed Carrier Interconnections) issued by the Telecommunications Authority on 27 April 2009.

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1 Introduction 1. Hong Kong Telecommunications (HKT) Limited ( HKT ) welcomes the opportunity to provide its comments on the consultation paper issued by the Office of the Communications Authority ( OFCA ) on 7 November 2012 concerning the captioned ( Consultation Paper ). 2. In this Consultation Paper, OFCA solicits views on whether it is appropriate, in the light of the market, regulatory and technological developments that have taken place over the past two decades, to maintain the interconnection charging principles as promulgated in Statement No Since Statement No. 7 was last revised on 27 April 2009, it now deals solely with the interconnection charging principles between fixed line operators. 4. As noted in the Consultation Paper, interconnection charges between fixed carriers are the only type of carrier-to-carrier charges that are still subject to full regulatory guidance. This certainly suggests that a review is appropriate and indeed such a review has been suggested previously by at least one fixed carrier. 5. On one hand, Type I interconnected traffic between fixed carriers is substantially balanced, HKT is not aware of any significant Type I interconnection disputes in the last several years, and Type II interconnection has been left to the market since To the casual observer it may therefore appear that carrier-to-carrier interconnection arrangements and charges between fixed carriers are not a matter of great dispute or substantial significance, and thus the proposed withdrawal of Statement No. 7 would be non-controversial. 6. On one level, that may be true. On another level, that may not be true and it is on this level that the regulator must apply its attention and which HKT comments on below. 1 Interconnection and Related Competition Issues - Statement No. 7 (Third Revision) Carrier-to-Carrier Charging Principles (for Fixed Carrier Interconnections) issued by the Telecommunications Authority on 27 April

2 7. OFCA proposes to deregulate fixed carrier-to-carrier interconnection by withdrawing Statement No. 7. OFCA notes the full liberalization of the market, the extreme competitiveness of the market, the existence of new and innovative services, the rise of broadband and mobile services, the evolution of Next Generation Networks ( NGNs ), etc. OFCA then concludes that Statement No. 7 has served its purpose (at paragraph 12). OFCA further indicates that it adheres to a market driven policy where intervention on interconnection matters should be treated as the last resort. 8. The first issue is that a partial deregulation can skew a market and the related commercial negotiations. Thus, if two OFCA rules act on a market and one is to be withdrawn, it would be logical to consider withdrawing both or analyzing the impact of withdrawing one but not the other. Tellingly, the first sentence of this Consultation Paper states: Telecommunications carriers are obliged to interconnect their services and networks with each others to ensure any-to-any connectivity ( A2A Connectivity ). 9. There is no suggestion in the Consultation Paper that the A2A connectivity rule is to be withdrawn. Thus the proposals presented in the Consultation Paper should be more accurately framed as follows: (a) (b) Withdraw Statement No. 7 while maintaining the A2A rule; or Retain both Statement No. 7 and the A2A rule. There is no total deregulatory proposal within the Consultation Paper to withdraw both Statement No. 7 and the A2A rule at the same time (although there could be). 10. The industry has seen this set of options before (i.e. a proposed deregulation where A2A remains). In the first example, relating to the withdrawal of the regulatory guidance on Fixed-Mobile Interconnection Charges ( FMIC ), the retention of the A2A policy skewed the carrier-tocarrier commercial negotiations, making it difficult for operators to reach agreement, with the result that not one single interconnection agreement for fixed-mobile interconnection was able to be made by the time the transitional period expired in April This is because a partial deregulation allowed free riding to occur, negating the incentive for the mobile operators to negotiate on price. In the second example, relating to Local Access Charge ( LAC ) deregulation, the retention of the A2A policy has (to date) not significantly 2

3 skewed the carrier-to-carrier commercial negotiations. This is because the retained A2A policy was balanced with clear language that the carriers providing the interconnected services were entitled to be compensated and thus no free riding would be tolerated. 11. The above should not be surprising. If a service provider must give away its service (per the A2A policy), why would another service provider be willing to pay a fair market rate (i.e. the FMIC case)? On the other hand, the entitled to payment position in the LAC decision, ensures no free riders and encourages commercial negotiations (which in the LAC case is exactly what is happening today with substantial success). 12. The above is presented for one simple reason. If the Communications Authority ( CA ) is minded to withdraw Statement No. 7 but retain the A2A policy, and that does appear to be the CA s chosen path, then such a partial deregulation may skew commercial negotiations as free riding may be inadvertently promoted. The solution is simple and straightforward (and proven). If Statement No. 7 is to be withdrawn, then the CA should adopt the entitled to payment approach of the LAC deregulation and avoid (or at least substantially reduce) the chance of skewing the market and the commercial negotiations. Thus: Statement No. 7 would be withdrawn; The A2A policy would apply; The fixed carrier providing call termination services would be entitled to be compensated for the use of its network; and Replacement regulatory guidance would be issued by the CA to assist the CA in making a determination of the relevant charges presently covered by Statement No. 7 in the event that a party can point to a market failure and justify a request for a determination. 13. The second issue not addressed by the Consultation Paper is LAC bypass (including future LAC bypass for mobile origination and termination). LAC bypass has been recognized by the CA on numerous occasions to be a substantial problem and one it continually acts to combat with the industry. In short, LAC bypass cheats the industry and harms users. 14. LAC bypass traffic is terminated at Local Interconnection Charge ( LIC ) rates rather the higher LAC rates. Thus, any proposal to deregulate LIC rates should consider the impact of such an action on LAC bypass. 3

4 Without the entitled to payment language it is a real possibility that the proposed deregulation could inadvertently increase the LAC/LIC arbitrage and thus further encourage LAC bypass. 15. In sum, including the entitled to payment language properly balances the retention of the A2A policy, creates a level playing field for negotiations, best ensures the success of such negotiations, and discourages LAC bypass. There is no downside to including such language and such language was wisely incorporated in the TA s LAC deregulation statement. 16. HKT s detailed responses to each of the questions raised in the Consultation Paper are as follows: Question 1: Do you think that there are justifications to maintain Statement No. 7 (Third Revision) (Option 1)? If so, please state your justifications. 17. The basis for OFCA s current review is that there have been market, regulatory and technological developments which may now render it unnecessary to retain Statement No. 7. In the Consultation Paper, OFCA cites the following examples as developments which may justify the withdrawal of Statement No. 7: While there has been a significant growth in broadband, mobile voice and data services over the past two decades, none of these services are covered by Statement No. 7; Sunsetting of mandatory Type II interconnection at the telephone exchange level in 2008 has encouraged the rollout of self-built fibre Customer Access Networks. However, fibre networks are not subject to regulation and hence OFCA suggests Statement No. 7 will have increasingly little application to future Type II interconnection; Carriers are gradually migrating from traditional circuit-switched networks to packet-switched NGNs. However, the interconnection arrangements between such networks are currently outside the scope of Statement No. 7 2 ; and 2 OFCA suggests that, since the charging principles set out in Statement No. 7 only apply to a determination of interconnection charges for circuit-switched narrowband interconnection, Statement No. 7 will become increasingly out of place. HKT would, however, highlight the 4

5 With market competition progressively established over the past decades, the Telecommunications Authority ( TA ) has already deemed it appropriate to deregulate certain obligations and interconnection charges, i.e. mandatory Type II interconnection, fixed-mobile interconnection charges, ex ante control on the interconnection charges of HKT and the LAC for origination and termination of external traffic. Given that the provision of fixed line services is today subject to keen competitive restraints, the TA considers it no longer justifiable to continue regulating fixed-fixed interconnection and hence proposes to withdraw Statement No These developments do not, however, change the fact that a significant amount of traffic is still being carried over circuit-switched networks and there are still network costs (establishment and usage costs) associated with the delivery of traffic. The owner of the terminating fixed network needs to be recompensed by the sender of the traffic for incurring those costs. On this basis, the obligation to pay interconnection charges relating to local traffic passed between fixed line networks (i.e. LIC), which is derived from Statement No. 7, needs to be maintained: Fixed carriers must pay for the costs that they cause other fixed carriers to incur when interconnecting. 3 [Emphasis added] 19. The simplest way to ensure payment (i.e. the obligation to pay) would be to make this clear in the Statement when the CA finalizes its decisions on this consultation. An alternative would be to remove the obligation to pay interconnection charges (i.e. by withdrawing Statement No. 7) and, at the same time, also remove the A2A obligation from the carrier licences. 20. Should the obligation to pay LIC be withdrawn without either noting the obligation to pay or removing the A2A obligation, free riding will occur, costs will not be recovered and the already serious problem faced by the industry regarding LAC bypass will be exacerbated. At present, unscrupulous IDD service providers disguise their traffic as local calls in order to avoid payment of the LAC interconnection charges. If the obligation to pay LIC is removed, however, and terminating operators are unable to collect any LIC (but they are still obliged to take the traffic due to the A2A connectivity requirement) then fact that today (and well into the future) a significant amount of traffic is still being carried over circuit-switched networks. 3 First bullet point in paragraph 7 of Statement No. 7. 5

6 the incentive to bypass LAC becomes even greater since inbound IDD calls, which are disguised as local calls, will now effectively become free of any interconnection charges. This would substantially harm both Hong Kong network operators and users. 21. As long as the obligation to pay interconnection charges is maintained, the level of charges would likely be agreed between the two operators concerned just as in the LAC example. This approach would be wholly consistent with that adopted by the TA in respect of the LAC 4 in which the obligation to pay LAC was maintained but the level of LAC was allowed to be commercially agreed between the parties. 22. For LAC, the TA has also issued a set of costing principles 5 to which he (or now, the CA) can refer in the event that a request for determination of the LAC is accepted. However, HKT notes that in the Consultation Paper OFCA has made no mention of a corresponding set of costing principles being published for the interconnection charges (and any other associated charges) dealt with under Statement No. 7 in the event that it is withdrawn. 23. Such an omission could be highly disruptive to the industry. There are a number of interconnection activities and call types covered by Statement No. 7. If Statement No. 7 is simply withdrawn without any replacement guidance being provided in respect of each of the matters covered by the Statement, commercial negotiations as to: (i) whether there is any obligation to pay charges; and if so (ii) what are the level of charges for each type of activity and call type dealt with within Statement No. 7 could take a long time to resolve if there are no guidelines to assist the operators in their discussions. For instance, while Statement No. 7 presently dictates that the cost of setting up physical links for Type I interconnection are to be shared equally among the parties involved, once Statement No. 7 ceases to apply, each party s respective obligation to share such costs and the level of such costs borne by each party could be a source of contention if no clear replacement guidance is issued on this matter. 4 Refer to the Statement of the Telecommunications Authority on New Regulatory Regime for Local Access Charge issued on 23 December Refer to the Regulatory Guide of Local Access Charge published by OFTA on 23 December

7 24. To avoid such a result, and to facilitate commercial negotiations, the CA is advised to issue replacement regulatory guidelines in the event that it decides to withdraw Statement No. 7. Question 2: If you support Option 1, do you consider that (a) Statement No. 7 (Third Revision) should be maintained without any revision; or (b) certain revisions should be made to Statement No. 7 (Third Revision)? If you support (b), please clearly specify the revisions that are required and provide the justifications. 25. To HKT, the most important matter is to maintain the obligation to pay interconnection charges. This could be done by preserving the principles under Statement No. 7 either via issuance of replacement guidance by the CA to conclude this consultation, or retaining a skinny version of the present Statement No. 7 which has been modified to remove any provisions which are considered unnecessary. 26. If the CA decides to retain Statement No. 7, HKT considers it necessary to make certain revisions. The amendments proposed by HKT relate to some of the General Principles outlined in paragraph 7 of Statement No. 7 which HKT considers to be outdated in view of the state of the market, or are simply unreasonable. They are as follows: In calculating the LRAIC for Type I interconnection charges, the TA will make reference to the network configuration of the most efficient fixed carrier wherever appropriate. Interconnection charges should be based on the actual network configuration and actual network costs pertaining to the operator involved. It would be unreasonable to calculate the charge based on the costs that would be incurred by any other operator regardless of how efficient that operator s network configuration is. On this basis, this principle should be eliminated from Statement No. 7. [T]he TA will use the current or replacement cost standard, but will consider applying a cap based on the historical cost standard on all or part of the cost components in the LRAIC, particularly those cost components related to land and buildings. There are no sound economic reasons to apply such a hybrid costing method in mature and competitive markets. As far as HKT is aware, no 7

8 other jurisdiction applies such a costing basis. Capping the level of certain cost components distorts the actual costs involved and will result in an operator under-recovering its costs. This is unfair to the operator and discourages network investment. On this basis, this principle should be eliminated from Statement No. 7. In making reference to the most efficient fixed carrier, the TA may do all things that are necessary in order to eliminate any network inefficiency and he may take into account all relevant factors in providing the interconnection service when deciding the reasonable relevant costs of interconnection. This principle is too generally worded and would effectively allow the CA to pick and choose which costs to be included as part of the cost of interconnection, and adjust costs to its liking until it comes up with a total cost which is considered reasonable. This makes the costing process a highly subjective process and very difficult to verify. On this basis, this principle should be eliminated from Statement No HKT has no comments on the rest of the provisions contained within Statement No. 7. Question 3: What are your views on the proposed withdrawal of Statement No. 7 (Third Revision) (Option 2), in particular the potential impact on carriers and consumers? 28. In paragraph 28 of the Consultation Paper, OFCA has already calculated the financial impact on the carriers of withdrawing Statement No. 7 to be in the region of $9 million per annum. This assumes that no interconnection charges will be paid between the fixed line operators if Statement No. 7 is removed. However, this figure only represents the net financial impact on the industry as a whole. The impact on specific carriers may differ significantly. Further, no account has been taken of the financial impact arising from increased LAC bypass. The figure calculated by OFCA may therefore not be quite accurate. 29. In any case, in deciding whether or not to withdraw Statement No. 7, there are other equally important considerations which must be taken into account, i.e. the need to maintain the principle of LIC interconnection cost recovery. If fixed network operators are not able to recover the costs they incur in delivering the traffic received from another fixed line operator then they will be disincentivised to continue investing in their networks. Facilities-based competition would suffer and in the end, consumers would be adversely 8

9 affected. Of course, if carriers on a bilateral commercially negotiated basis agree not to charge each other for such interconnection then that would be acceptable. Further, LAC bypass should not be inadvertently encouraged. Question 4: What are your views on the proposed transitional arrangements for implementation of Option 2 as outlined in paragraphs 30? 30. In line with previous transitional periods involving the deregulation of interconnection charges, if Statement No. 7 is to be withdrawn, HKT would suggest it appropriate to adopt a transitional period of at least 18 months. An 18 month transitional period is currently being adopted for LAC and a 24 month transitional period was adopted when the regulatory guidance in respect of fixed-mobile interconnection charges was withdrawn. 31. The LIC issue is not as straightforward as described in the Consultation Paper. LAC bypass, the ongoing LAC negotiations, and the need to negotiate follow-on LIC arrangements all take time and impact each other. 32. At the outset, HKT considers it important to maintain the obligation to pay LIC to the terminating operator. This could be done by preserving, one way or other, this principle as currently contained in Statement No It is important to maintain this LIC payment obligation to enable terminating operators to recover the costs they incur in delivering traffic and so as not to further encourage LAC bypass. 34. If Statement No. 7 is withdrawn, replacement regulatory guidance dealing with all of the matters covered by Statement No. 7 should be issued by the CA in order to facilitate commercial negotiations. Submitted by Hong Kong Telecommunications (HKT) Limited 14 January