Harsha de Silva and Ratna Kaji Tuladhar Jakarta, 2 October 2005

1. Smart Subsidies and Preconditions for their Success The Experience of Expanding Telecoms in Rural Nepal Harsha de Silva and Ratna Kaji Tuladhar Jakarta, 2 October 2005

2. Agenda • Introduction • Expectations from the subsidy • Outcomes of the subsidy • Issues and conclusions • Discussion from a research perspective

3. Why and what Least Cost Auction? • Problem, from a telecom perspective • Universal Access socially desirable  social NPV>0 • But not always commercially viable  private NPV<0 • One solution • One-time investment subsidy for private operators willing to provideuniversal access service via a competitive bidding process  Least Cost Auction (to ensure costs are kept at a minimum )

4. Why a LCA in Nepal? • Very low penetration in rural Nepal • In 2000, 56% of 3,914 VDC had no telecom services • Despite liberalization, prospects of rural expansion bleak • Weak regulatory environment; No RTDF • Economy and business climate not conducive for investors to come in unsupported • Introduce LCA scheme to create a business case for private participation • LCA for the Eastern Development Region; 534 VDC • One-time (phased) subsidy • 5 year exclusive license; 10 year renewable license • Right to obtain NLD and ILD licenses

5. LCA Good; but could have been better • Then • In many VDC poor rural citizens of Nepal had no access to telecommunications • With EDR project; at start • Telecom services available to some but at 18 times the tariff of incumbent; whether in or outside the same area • Now • 6 times tariff of incumbent but uncertain future; could very well go back to square one if issues not addressed

6. Design expectations • (Affordable) telecom services to rural Nepal through private investment • EDR: 534 VDC; 2 public access lines in each VDC • Mandatory Local, NLD and ILD; optional Internet services etc. • Low license fees (NPR 100,000 for 10 years) • Technology neutral • Wireless or VSAT (or hybrid) • Competitive bidding, as opposed to negotiated contract • Eligibility (operations, finance, local participation) • Required subsidy (Maximum available not specified) • NTA to regulate NTC • No discriminate against RTS; no anti-competitive preferences or cross-subsidies to own RTS service operations

7. Implementation expectations

8. Sustainability expectations • Will be sustainable over the long term given the design; exclusivity over the short term (5 years) but competition thereafter • Did not require business plan; not a beauty contest • Assumed bidding party had a viable plan • No limit on expansion • First install the specified 534 VDC to collect subsidy; then follow internal business plan • Demand will be generated; value added services also • Minimum RTS license fee, exempt from frequency fees, exempt from levies on value added services; no RTDF levy for 5 years • Conducive political and regulatory environment • Maoists wont disrupt operation. NTA will ensure fair competition

9. LCA outcome: December 2003 • 1st round Sept 2000 LCA failed; winning bidder pulled out due to deteriorating security situation • Issue was not in EDR, but generally in Nepal • Consultants made the offer more attractive • “reasonable” set of consumer tariffs (x18), speeded up payment, alternate sites if security situation worsened • 2nd round February 2003 successful • Total VSAT Solution by STM Telecom Sanchar; USD 11.9 m

10. Project as at August 2005 17/18 0/17 0/14 0/19 0/37 37/41 55/57 0/40 0/25 District Head Quarters 29/31 24/27 XX = VDC installed XX/YY YY = VDC allotted 4/10 Rural Telecommunications Services in 16 Districts of the Eastern Development Region 37/80 15/24 6/17 47/77

11. Design issues • Did bidder make right technology choice? • Why not a hybrid solution including VSAT? • RFP details not comprehensive; did bidder understand EDR Nepal? • Lack details on EDR terrain and economic activity • No demand forecasts or any other indication of revenue; but initial license envisages sustainability for 10 years • STM is a VSAT manufacturer • Catch 22 • Need to expand service within the ‘safe’ VDC to survive; but unable because of high terminal costs. Could have done with other technology (say WLL)

12. More design issues • Were sufficient safeguards taken to counter poor regulatory framework? • Unrealistic 5 year exclusivity • Exclusivity of 100+ VDC of STM already violated by NTC • No room for 2 operators in rural VDC • Unsustainable retail tariff (x18; now x6) • No local tariffs; only “VSAT tariff” • Arbitrary IUC of 55% of NTC VSAT tariff applied on STM • Was keeping coverage to winning bidder’s prerogative the right call? • STM took the easy route; no service in rugged mountains, less in hills. Basically in flat river plains (least need for VSAT)

13. STM site area in EDR

14. Implementation issues • Overwhelming security problem • Difficult to install; not safe on road, helicopter? • All 542 sites closed (Feb 05); 25 opened (May 05) now 183 open; rest and remaining  do not know • Allow within ½ km from Army post • New list from Army entirely different from original (except 16); overlapping with NTC areas

15. More implementation issues • Administration and bureaucratic delays • VDC lists incorrect? (STM says 1999 lists given in 2003) • Customs delays, decision making delays… • Need to deal with both HMGN and Maoists • Failure in enforcing service availability and quality • Licensee required to maintain service for 10 years; Should be open everyday at least 8 hours • But, unable to monitor; no reporting mechanism • Not sufficient emphasis on selecting ‘local operator’ • No systematic way of selecting; no business plan; no help nor checking; only NPR 35,000 deposit and NPR 7,500 pre-payment

16. Sustainability issues • Demand (quantity demanded) is low • Cost of call is high; disposal income is low • NPR 9 per minute (4.95 IUC); brought down to 3 per minute at 1.95 loss per minute. Now IUC 2.75 • July-Aug 05 for 174 sites, avg min. of use/day  0.36 • NTC figures are NPR 20,000/VSAT station (reasons) • High operational costs • NPR 8.6m per month (according to STM) • 90% sites do not have power; solar • Restriction to expand services is not good • Unless all VDC served; no value add services, cannot install in other VDC even at own cost

17. More sustainability issues • Poor regulatory environment not helping • Interconnection issues not solved • ISD license not granted; due Jan 1 2004; STM not paying license fee? • Estimated market USD 36m/year • But, could be the savior in these difficult times • Exclusivity condition violated • Competition by NTC expansion • 1m CDMA phones in 5 years including EDR; signal will cover almost all VDC in Tarai, many areas of Hills at much lower tariff

18. Conclusions • Technically, the Leased Cost Auction methodology has been successful; but… • Implementation slow • Security situation out of NTA hands… • Sustainability is an issue • Investigate possibility to introduce cheaper technology within the RTS license • A hybrid solution by brining in WLL to tarai and shifting existing VSAT to difficult terrain could reduce the cost to USD 6.8m; saving of USD 5m • STM refutes; says would cost at least USD 15m • Consider if ongoing subsidy (ADC type) would be more appropriate for the remaining DR

19. Conclusions • Still on sustainability… • Regulatory environment must be improved to reduce anti-competitive behaviour • Stop exclusivity violations • Correct IUC distortion; possibility for asymmetric IUC? • Provide ILD license • Reduce political pressure to ‘give lines’ via NTC • Perhaps more intervention from HMGN/World Bank? • More pressure on the Regulator? • STM complains of ‘no god father for us!’

20. Conclusions “This massive subsidy has resulted in the most expensive calls for the poorest people of Nepal” -Anonymous

21. Discussion: From a research perspective • Design • Technology • Poor regulatory environment • Mid course correction ability • Economics • Lop-sided coverage • Implementation • Alternative arrangements in terms of security • Monitoring and evaluations • Selection of local partners • Sustainability • High cost  Arbitrary “IUC” • Unfair competition • Demand-side support?

22. Thank you. Harsha de Silva. desilva@lirne.net Ratna Kaji Tuladhar. aarketi@wlink.com.np