Session 1: What does a regulator require from a Beijing, 26
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Session 1 Regional Seminar on Costs and Tariffs for SG3RG-AO Members Session 1: What does a regulator require from a robust and transparent cost model? Beijing, 26th March 2010 Jim Holmes © Copyright Incyte Consulting 2010 Discussion Agenda Objective Fit for purpose Cost modelling choices Cost principles Cost standard Concluding observations Model Results and Regulatory Decisions 2 © Copyright Incyte Consulting 2010 Objective: My objective in this session is to suggest, based on my experience in cost modelling for Regulators in the Asia-Pacific Region, what they require – or should require – in cost models that they might use. 3 © Copyright Incyte Consulting 2010 Sources and a caveat Recent sources of experience and comments ITU Cost Modelling Training in Auckland (July 2009) and Bangkok (November 2009) Costing and access projects in Samoa, Bhutan, Bangladesh, Fiji, Australia, PNG, Saudi Arabia, and Palestine Survey and assessment of interconnection and cost methodologies in 15 Pacific countries (April 2010) Earlier costing and access projects (not all for regulators) In Singapore, Malaysia, Korea, Australia, New Zealand, Kyrgyzstan, Hong Kong, China Training and workshop programs for APECTEL, PITA, APT Caveat The Asia-Pacific region is huge and diverse and changing – but what Regulators need is much more uniform General conclusions need to be drawn with great care about what Regulators need 4 © Copyright Incyte Consulting 2010 Fit for purpose The cost models that regulators need must be fit for purpose So what are their typical purposes? Ex ante Ex ante Ex ante Ex post Retail prices and tariffs Accounting Separation Interconnection and access charging ? Assessing retail price proposals Cost side of accounting separation Seldom used for this - non-cost factors are uppermost, especially for retail consumer service prices Limited use, since the main point is the rules for allocation of shared, common and overhead costs 5 © Copyright Incyte Consulting 2010 No. 1 App. Most frequent reason to develop a cost model Cost allocation to assess anti-competitive behaviour claims, such as price squeezing Fit for purpose The cost models that regulators need must be fit for purpose So what are their typical purposes? Ex ante Ex ante Ex ante Ex post Retail prices and tariffs Accounting Separation ? Assessing retail price proposals Interconnection and access charging Cost side of accounting separation Seldom used for this - non-cost factors are uppermost, especially for retail consumer service prices Limited use, since the main point is the rules for allocation of shared, common and overhead costs No. 1 App. Most frequent reason to develop a cost model Cost allocation to assess anti-competitive behaviour claims, such as price squeezing I will concentrate now on interconnection as a major application – often the main driver for cost modelling 6 © Copyright Incyte Consulting 2010 Cost principles With call termination in a Calling Party Network Pays Regime (the most common regime in the region) the terminating network operator may only recover efficient costs – that is the costs of an efficient operator using efficient systems and processes. Let’s concentrate on the concept of efficiency Not a term of praise or abuse It is descriptive, and is particularly associated with latest processes and operational scale Here are good policy reasons why only efficiently incurred costs should be the basis of compensation through the call termination charge – consider the problems of inefficient operators being able to pass their costs to competitors 7 © Copyright Incyte Consulting 2010 Cost standard – more on this in session 2 Current rather than historical costs. The model will be used for economic not accounting decisions. Standards that reflect price setting in an efficient market – where prices tend to long run incremental costs LRIC approach in some form is therefore to be preferred FAC TSLRIC + Pure LRIC ? BAK ? Evolution of cost standards for call termination models 8 © Copyright Incyte Consulting 2010 Cost model choices – Top Down or Bottom Up? Top Down Models These models cost the network as it exists and as it is described in the accounts of an operator Bottom Up Models These cost a network designed by the model based on efficient management of traffic and efficient service provision to subscribers 9 © Copyright Incyte Consulting 2010 Top-down models Strengths Weaknesses Based on actual costs Accounting for potential efficiency gains Accounts for all costs Requires substantial up-front investment Includes capital and operating costs Data sources and data confidentiality Historic costs only Strong audit trail Needs to be re-calculated annually Top-down models are typically used by incumbent fixed network operators 10 © Copyright Incyte Consulting 2010 Bottom-up models Strengths Weaknesses Start with the network elements required to deliver service increment Account for theoretical operational efficiency Avoid data confidentiality problems and reduce reliance on operator cooperation Enable cost forecasting Little resemblance to actual costs May omit some costs Cannot easily deal with operational costs Bottom-up models are more commonly used for mobile networks and by regulators 11 © Copyright Incyte Consulting 2010 Observations on regulators’ needs at present Regulators need cost models that are robust under a range of input data variations and in practice. Such models must : Be transparent to enable stakeholder review and regulatory amendment – bearing in mind that transparency and review enhances legitimacy of the methodology Be as little reliant as possible on the cooperation of operators for data and other inputs Be bottom up Use a form of LRIC defensible in the circumstances 12 © Copyright Incyte Consulting 2010 Observations on regulators’ needs in the near term Many countries in the region have 2G or 2.5G mobile systems, but will move to 3G soon (of course, many have been there for some time) There is a requirement for 3G models that reflect the way that 3G networks are typically rolled out on top of 2G platforms and the way that traffic is shared The ITU will undertake training using a 3G mobile model in the region – in Bangkok from 14 – 18 June. 13 © Copyright Incyte Consulting 2010 Observations on regulators’ needs in the medium term Theory suggests that cost modelling should be based on the sort of networks that operators would build today if they were starting over – today that would be an IP-based NGN, not a circuit-switched narrowband fixed network Current practice is nowhere near this stage of development Clearly there is not yet a standard or agreed network topology or settled cost relationships to support an accepted modelling approach. Individual networks can be costed but the allocation of network costs to service costs is a matter for future work (what are the services and their parameters? And where is the reliable forecast of demand?) 14 © Copyright Incyte Consulting 2010 Are cost models just a passing phase – or will we always need them? The current number 1 application for cost models by regulators is for determining interconnection charges But charges for call termination on fixed networks have been under pressure for 15+ years and there is renewed scrutiny of charges for call termination on mobile networks (see EC final recommendation of 7 May 2009) Policy rather than costs is driving mobile call termination down in Europe – to 1.5-3 cpm by the end of 2012 – and the cost standard is changing to pure LRIC to support that policy The support in Europe for BAK is palpable and trembling on the end of being crystallised Conclusion: BAK is a policy decision – it needs rules but no cost model support Beyond call termination, however, the need for models will remain much as it is today 15 © Copyright Incyte Consulting 2010 Concluding Observations Models are for modelling and testing relationships between inputs and outputs. Cost models now and in the future are only tools – their calculations do not constitute a regulatory decision. There are many considerations between a model calculation and a regulatory decision on call termination charges, including the following overlapping issues: Consumer welfare Legality Symmetrical and asymmetrical charging Step function and glide path change Likely impact on competition, investment and utilisation Economic sustainability Many regulators heave a sigh of relief when they complete data input and get a result from their costs models. They think that their work has been completed. In fact it has only started. 16 © Copyright Incyte Consulting 2010 Thank you for your attention Jim Holmes jrh@incyteconsulting.com +61 3 9752 7828 © Copyright Incyte Consulting 2010
