Spectrum Pricing

1. Spectrum Pricing 30th April 2013 Sudhir Gupta Principal Advisor Telecom Regulatory Authority of India

2. Disclaimer The views expressed in this presentation are purely of the presenter and they do not reflect the position of TRAI

3. AGENDA • Spectrum: • What is it? • Factors affecting its value • Spectrum Pricing • Objectives of Spectrum Pricing • Factors affecting Spectrum Valuation • Various Approaches of Spectrum Pricing • Administrative pricing: i.e. Cost Oriented/Incentive pricing /Opportunity Costs • Market based methods • International Trends • India Story

4. SPECTRUM • Radio Spectrum is a finite, non exhaustible common access resource • Extends between Frequencies 3KHz to 3000GHz • Like Land, Spectrum can be put to many public and private uses • Use of spectrum is traditionally determined through international coordination

5. DEMAND FOR SPECTRUM • In recent years, marked increase in use of and demand for radio based services • Popularity of Mobile telephony and Wireless Broadband • Development of new Technologies • Exponential Increase in the availability of high speed data applications • Increase penetration of Smartphones

6. RELATIVE VALUE OF SPECTRUM BANDS • Propagation Characteristics of the spectrum band • Scarcity in a frequency band • Whether internationally harmonized • Usage conditions imposed by the Administration: • Whether spectrum rights are flexibly defined • Whether sharing and/or leasing of spectrum is permitted? • Whether Trading of spectrum is permitted? • The pricing will be lower if there are ‘use it or lose it’ conditions attached • Licence duration

7. ROLE OF THE STATE • Use of Spectrum is closely managed by Govt Agencies world over • Management by Governments is predicated on Protecting Property Rights Promoting benefits associated with coordinating use National Security • Most countries use Licensing to manage spectrum- i.e. users require a License from the Govt to access radio spectrum (assignment of Spectrum)

8. SPECTRUM PRICING • Refers to a range of Spectrum Management activities and tools • Involves alignment with Governments’ and Regulators’ Revenue goals and objectives • Spectrum Users pay for - • Spectrum Use • Covering Management Costs • Spectrum efficiency • Achieving economic and social development goals

9. GOALS AND OBJECTIVES OF SPECTRUM PRICING • For any resource including Radio Spectrum, the primary economic objective is to maximize the net benefits to society such that there is efficient distribution of the resource resulting in maximum benefits to society. • Broad Goals of Spectrum Pricing include: • Optimum utilization of Spectrum • To promote competition and adoption of innovative Services • To balance requirements of Commercial and non commercial users • Public Interest • Maximization of economic and social benefits • To cover costs of spectrum management borne by the concerned Authority • Revenue for the Government

10. MARKETS AND EFFICIENCY • In all cases, Prices should be set in a manner that creates incentives for the licensee providing high value services to provide them at the least cost • When markets set the price this happens automatically – providing participants with the right incentives to behave efficiently and to keep their costs low , making it good for society as a whole i.e. using resources efficiently leaving resources to be used for other societal purposes. • When a Regulator sets the price, it should mimic the efficiency and incentive effects of market based pricing as far as possible

11. METHODS FOR VALUING SPECTRUM • Spectrum can be valued using prices in market transactions- Auctions, Spectrum trading or Leasing. • This allows users to estimate the commercial value of spectrum based on their own as well as the markets’ expectations around the benefits to be derived from its usage • Administrative Methods for assignment of Spectrum could simply result in a recovery of cost of management of spectrum plus targeted revenue • Administrative Pricing could also use modeling and analytical tools to reflect the underlying value of spectrum

12. VARIOUS APPROACHES OF SPECTRUM PRICING Spectrum is either valued using prices in market transactions (auctions, spectrum trading or leasing) or by administrative means. Common practices are: • Administrative Methods : • Cost Orientation, • Incentive Pricing, • Opportunity Costs /Administrative Incentive pricing and • Market mechanisms like auctions.

13. COST ORIENTED APPROACH • In cost oriented approach, the method employed simply results in a recovery of spectrum management costs. • Costs associated with the management and administration of all related processes are considered. • The related processes are application and assignment of frequencies, national and international co-ordination, as well as interference management. • This is a very simple approach. However, a major disadvantage of this simple approach is that fees designed to recover administrative costs are not tied to the value of the spectrum used, and therefore may not stimulate spectrum efficiency.

14. INCENTIVE PRICING • Incentive Price is determined keeping in mind certain pre-determined goals such as promoting efficient spectrum use. There can be socio-economic policy goals also such as revenue generation and universal and affordable telecom services. • Incentive price is linked with many parameters. Some of them are: • Amount of spectrum used (bandwidth and permissible geographical area) • Population covered (population density in the area covered) and location of use: Higher values for urban areas. • Frequency band: higher values in bands that are internationally harmonised, bands with better propagation characteristics • Type of service: higher fee for public mobile as compared with other services. • Level of exclusivity.

15. OPPORTUNITY COSTS /ADMINISTRATIVE INCENTIVE PRICING • The opportunity cost is a calculated value that tries to simulate the market value of the spectrum. Calculation of opportunity cost requires complicated financial analysis, estimation of demand etc. Various models can be prepared to access the opportunity price. • In the least cost alternative approach, spectrum cost estimates can be derived from valuing the cost savings from access to additional spectrum. These costs can be estimated by calculating the impact of a hypothetical marginal change in spectrum on cost of an average firm in the sector assuming the level of output and service quality were kept constant. • In the models based on the additional revenues, the value of spectrum can be based on the net revenues that additional spectrum may generate by its increased capacity or better quality of services. It accounts for the expected net present value (NPV) of the future returns from using the spectrum taking into account all other inputs (including capital) at their market price.

16. OPPORTUNITY COSTS /ADMINISTRATIVE INCENTIVE PRICING • Market benchmarks can also be used to derive opportunity cost estimates. However, these are relatively of lesser use because there are relatively few comparators; and national markets and timing of auctions differ considerably. The volatility in market renders the prices based on early values unreliable for indicating the opportunity cost at a later date.

17. MARKET BASED METHODS • Administrative methods for spectrum management including its pricing are suitable when the demand for the spectrum is comparatively less. Otherwise, these methods may fail to price the spectrum in a transparent manner. • Although the opportunity cost method also relies on estimating market prices, only auctions are considered as full market approach for determining the economic value of spectrum. • In an auction, spectrum is allocated by bidding among competing spectrum applicants. • There are certain fundamental advantages of auction process such as it is a transparent, fair and objective process. It ensures allocation of resources to the players who will value it most and generates maximum revenue to the Government.

18. MARKET BASED METHODS • Positive outcome in an auction is possible only when the demand for spectrum exceeds the available supply i.e. there are sufficient viable bidders. • Auctions may raise competitive concerns. For example incumbents may be willing or able to bid more than new entrants to strengthen their monopoly or oligopoly (limited number of competitors) positions. Therefore, in order to promote competition, it may be necessary to impose additional safeguards such as “Bidding credits” (discounts) and instalment payments to new players and limits on how much spectrum an entity may purchase. • Avoidance of collusion between participants, encouraging sufficient number of bidders particularly new market entrants, setting of appropriate reserve prices etc are key to successful auction.

19. AUCTION FORMATS • First-price sealed bid auction: In this auction, each bidder is asked to submit a bid. The highest bidder wins the auction but pays an amount equal to his bid amount. The bid amount of a bidder depends on what he believes other bidders are bidding. The first-price sealed-bid auction has the merit of being extremely simple. • Second-price sealed bid auction (Vickrey auction): The second-price sealed-bid auction also asks buyers to place a bid on the object. The highest bidder wins the object but pays an amount equal to the second highest bid. • Dutch auction (descending price auction): The auctioneer sets a high price on the object initially and lowers it continuously. A bidder who expresses his willingness to buy the object first wins the auction at the current price. Theoretically, this auction is equivalent to the first-price sealed-bid auction.

20. AUCTION FORMATS • English auction (ascending price auction): The seller starts the auction at a very low price (possibly zero). The bidder who wants to win the object increases the price. The auction ends when there is no price increase. The last bidder to bid wins the object and pays his bid amount. Notice that a bidder can be silent for most of the auction and bid at the end. • Japanese auction (ascending price auction/clock auction): The seller starts the auction at a low price (possibly zero). Bidders express their willingness to buy the object at every price. If the number of bidders who want to buy the object at the current price is more than one, then the seller increases the price by a pre-determined amount, called the bid increment. The auction stops when there is exactly one bidder who wants to buy the object. Usually, there are activity rules which require each bidder to express his willingness to buy the object at every price in the auction, and once a bidder says no to buy the object at a price, he is no longer allowed to participate in the auction.

21. AUCTION FORMATS • Simultaneous multi-round ascending auctions In this type of auction, all lots are simultaneously on offer over multiple rounds of bidding. Bidders may bid on any lot or combination of lots in each bidding round. At the end of each round high bids are disclosed and all bidders can bid again in the next round to become the high bidder. In general, after a round with no more bids, the bidders holding the high bids in the previous round win the lots. SMRA auctions were developed for use when there are spectrum lots that are complementary or substitutable for the buyers’ business purpose, as they allow flexibility in bidding • Combinatorial clock auction The Combinatorial clock auction (CCA) is a price clock-based auction format used to sell multiple lots for different categories in a single process. It provides bidders with the flexibility to bid on different combinations of lots. The CCA format also creates incentives for bidders to bid their full value for the lots.

22. INTERNATIONAL TRENDS OF SPECTRUM PRICING • Internationally, there is a trend of relying more strongly on market forces in spectrum management. • There are many markets which permits flexible use of spectrum. There are some markets for spectrum such as Australia, New Zealand, UK and USA; those have introduced some form of change of ownership via secondary markets. • For calculating the Administrative prices, there is no clear international methodology and no harmonized approach (e.g. formulas), although pricing of spectrum is according to the amount of bandwidth used.

24. INDIA STORY– 2G LICENCES In March, 1992 the DoT invited tenders for grant of GSM based cellular mobile telephone service license in four Metropolitan cities of India and eight (8) CMTS licenses in the four Metros were awarded to private companies in November 1994 on beauty contest principle. DoT adopted a process of competitive selection by awarding licence to user/s who score highest against a group of pre-set criteria (such as rural coverage or fulfilment of rollout obligation), whereas licence fee was pre-determined as given in the table below. (Rs. in Crore) *4th year onwards @ Rs. 5 Lakh per 100 subscribers or part thereof; subject to the minimum shown in table above

25. INDIA STORY – 2G LICENCES In year 1995, after following competitive bidding process, 34 Cellular Mobile Telephone Service (CMTS) licences were awarded in 18 state service areas. The licensee was required to pay licensee fees annually. No bids were received for Jammu & Kashmir and Andaman & Nicobar Islands Circles. Licence fee was fixed based on the bidding, as given in the table below: (Rs. in Crore)

26. INDIA STORY – 2G LICENCES • Privatization of Mobile sector did not yield intended results. Most of the operators were facing financial problems as the initial growth was below the projections. The Government viewed this with concern as it adversely affected the further development of the Telecommunication Sector and recognized the need to take a fresh look at the policy framework for Telecom sector. • Government announced its National Telecom Policy 1999 to provide the required impetus for further growth in the sector; which allowed these licensees to migrate from fixed licence fee to revenue sharing arrangement. • PSUs (MTNL/BSNL) were given CMTS licence in 1997 for Delhi and Mumbai and in 2000 for the rest of the country • The fourth cellular operator was chosen through a multi-stage bidding in the year 2001 and licences were issued in 2001/2002.

27. INDIA STORY – 2G LICENCES • UAS Licences were given in 2003, 2004, 2006, 2007 and 2008 following the principle of First Come First Served (FCFS). • TheEntry Fee discovered in the 2001 auction was applied for all the UAS licences.

28. OTHER SPECTRUM LEVIES IN INDIA SPECTRUM USAGE CHARGES (SUC)

29. INDIA STORY – 2G LICENCES • There was no separate fee for the assignment for the spectrum, which was bundled with the spectrum. Initially, 2x4.4 MHz of 900/1800 spectrum for GSM or 2x2.5 MHz of 800 MHz for CDMA service providers was allotted and subsequently additional spectrum was assigned based on the subscriber linked allocation criteria administratively. • Vide its order dated 2nd February 2012, the Hon’ble Supreme Court declared the process of allocating 2G licenses through FCFS as “wholly arbitrary and unconstitutional action” and cancelled all the licenses and the spectrum, which were awarded in the year 2008. • The court later allowed the companies affected by the order to continue providing services until 18th Jan. 2013 and asked the government to complete the auction and allotment of bandwidth before that.

30. HOW INDIAN CASE OF 2G SPECTRUM ASSIGNMENT IS DIFFERENT FROM OTHER COUNTRIES • The methodology followed by most of the countries for 2G spectrum assignment was ‘beauty contest’. • In these countries, the assignment of 2G spectrum was done mostly prior to 2000, when there was not much demand for the spectrum. Therefore, there were no disputes. • In India, the 2G spectrum was made available in trenches. Therefore, its assignment continued as late as 2010. Till that time, auctions became the preferred methodology of assignment of spectrum rights. In India also, the award of 3G /BWA spectrum was done through Auctions only. • The continuance of administrative assignment (using FCFS) of 2G spectrum in India, even when there is scarcity of spectrum vis-a-vis its demand, created the question of its legitimacy.

31. 3G AUCTION IN 2010

32. BWA AUCTION IN 2010

33. AUCTIONS HELD IN NOV 2012 OF SPECTRUM IN 1800MHZ AND 800 MHz BANDS OBJECTIVES OF THE AUCTIONS • Obtain a market determined price of Spectrum in 1800MHz and 800MHz bands through a transparent process; • Ensure efficient use of spectrum and avoid hoarding; • Stimulate competition in the sector; • Promote rollout of the respective services; • Maximise revenue proceeds from the Auctions within the set parameters

34. LIBERALISED SPECTRUM There were no restrictions on the technology to be adopted for providing services within the scope of the service license using spectrum blocks allotted through this auction. RESERVE PRICE Rs. 14000 crore (US$ 2800 mn) for 2x5 MHz for spectrum in1800 MHz band. Rs. 18200 crore (US$ 3640 mn) for 2x5 MHz for spectrum in 800 MHz band (ie 1.3 times that of spectrum in 1800 MHz band).

35. RESULTS OF THE AUCTION 800 MHz Auction: • Two companies, initially filed applications. Later on, both of them withdrew. So, there was no bidder. 1800 MHz Auction: • There were total 5 bidders. • Auctions were conducted on 12.11.2012 and were concluded on 14.11.2012 after 14 rounds. • Total 102 blocks (each of 2x1.25 MHz) were sold in 18 service areas. • There was no bid for 4 service areas (Delhi, Mumbai, Karnataka & Rajasthan) • Total Amount = Rs. 9407 crore (ie US$ 1880 mn).

36. RESULTS OF THE 1800 MHz AUCTION More spectrum was sold in the circles where the reserve price was comparatively less and where there is greater growth potential, such as in Cat ‘C’ Circles.

37. ANOTHER ROUND OF AUCTION IN800/900/1800 MHZ BANDS • In March 2013, there was another round of auction. This time following spectrum was put to auction: • 800 MHz Band: All Circles after reducing the reserve price by 50%. • 1800 MHz Band: In 4 circles, where there was no bidder in the Nov’12 auction. • 900 MHz Band: In 3 Circles, where renewal of licences is due in 2014. • There was no bidder for 900 MHz and 1800 MHz band and only one bidder for 800 MHz band. The bidder was one of the licensees whose licences were quashed by the Hon’ble Supreme Court in 2012. It won 2x3.75 MHz spectrum in 8 circles.

38. KEY TAKEAWAY • While Auctions do reveal the intrinsic value of a Spectrum Band , the winning bid in a past auction reflects a lot more than just the pure value of spectrum • A Winning Bid reflects the value of a specific Spectrum Band in a particular time and space • Value bidders were willing to pay at the time of the Auction maybe different from the value today. • Value of Spectrum depends on various factors : pent up demand for spectrum at the time of the Auction, number of bidders, interest rates, general state of the economy, cellular revenues at the time of the auction, regulations imposed on the winner (which can vary between bands), extent to which the band has been cleared and cost of clearing it, availability of the band internationally, use of adjacent spectrum bands at the time of the Auction.

39. KEY TAKEAWAY • Reserve Price should not be set very low otherwise it will be irrelevant and it may lead to collusion amongst bidders. • If the reserve price is very high, it may lead to a situation of no bidders. • The reserve price of a spectrum band depends on various factors such as • Technical parameters of the spectrum, • Scarcity in a frequency band and • International harmonization of the spectrum band. • Therefore, linking of reserve price of two spectrum bands based on only one of the above parameters (say technical parameters) may not be appropriate.

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