The auction of radio frequency spectrum for the provision of third generation (or 3G) mobile telecommunications services in Hong Kong is expected to take place during the week beginning 17 September 2001. This article outlines the 3G auction rules and looks at some of the key issues in relation to licensing 3G services in Hong Kong.
30 licences available Four 3G licences will be available. Each licence will allocate 2 x 14.8 MHz paired spectrum plus 5 MHz paired spectrum. Each licence will be in the form of a mobile carrier licence granted for a term of 15 years.
Following consultation, the auction has been designed as a hybrid selection method comprising a relatively light pre-qualification exercise followed by an auction involving all applicants that successfully pre-quality. Auction bids for the spectrum utilisation fee will be for a royalty percentage of network turnover.
Applications for 3G licences
A duly completed application form (which is a standard form developed by the ITBB) must be delivered to either OFTA or the ITBB, together with all required supporting documentation, between 9 a.m. and 5 p.m. on either 17 September 2001 or 18 September 2001.
Once an application form has been submitted, the application may not be withdrawn. Submission of an application commits the applicant to making a bid at the reserve price, subject only to the applicant successfully pre-qualifying.
Auction reserve price
The reserve price for the royalty percentage of network turnover is 5%. At that percentage, the minimum guaranteed payment for each of the first 5 years of the licence term would be HK$50 million. As explained below, the minimum guaranteed payment will increase gradually from year 6 of the licence term until the end of the term. At the reserve price of 5%, the minimum total payable by each licensee in respect of the spectrum utilisation fee for the full 15 year term of the licence would be approximately HK$1.3 billion.
The authorities are particularly concerned to prevent collusion between bidders in connection with the auction. They believe that collusion will be prevented by making the auction "blind", i.e. none of the bidders should know of either the identity or the participation of any of the other bidders, or of the levels at which they are bidding. To further this objective, each bidder is, together with its insiders, required to keep confidential the participation and interest of the bidder in the auction. An insider is any person to whom confidential information has been disclosed. Confidential information is any unpublished information relating to a bid or a final offer. Arguably those 2G operators that have announced their intention to participate in the auction may already have breached this rule.
Bidders and their insiders are also prohibited from conveying or attempting to convey confidential information to any other bidder or its insiders in any form and under any circumstances. Lastly, bidders and their insiders are prohibited from attempting to collude, or to manipulate the course of the auction.
Joint bids by 2G operators
Any proposed joint bid by two existing 2G operators or their commercial groups must be pre-approved by the Telecommunications Authority (TA) in order for the bidding consortium to be allowed to participate in the auction. The reason for requiring pre-approval is the TA's concern that two 2G operators that obtain a 3G licence may wield too much market power. The deadline for submitting a request for pre-approval is 6 weeks before 18 September 2001. There has been speculation that the 3G auction, and subsequent 3G licensing, will be the catalyst for consolidation within the mobile industry in Hong Kong (there are currently six 2G operators and only four 3G licences available), though it is perhaps more likely that any consolidation will occur after the auction, i.e. assuming all six 2G operators participate, when the winners and losers are known, rather than before. The TA's proposals to secure greater control over mergers and acquisitions in the telecommunications industry, as set out in the recent consultation paper, are made at least in part in anticipation of such consolidation.
Pre-qualification is intended to be quick and light so as to promote entry to the auction. Applicants should be confident when submitting their applications that they will successfully pre-qualify. As well as submitting a completed application form, applicants will be required to certify their current and future compliance with the auction rules, that there are no other bidders under the same common control (this may be difficult to do with any degree of certainty given the rules on confidentiality) and that they have not deliberately arranged any connection with any other bidder. If there are any known connections, these must be declared.
Applicants will have to certify their acceptance of licence, rollout and quality of service conditions. Existing 2G operators will also have to commit to allowing domestic roaming by new entrants (if any) onto their 2G networks for a period of 5 years after the new entrant is granted its licence.
Finally, a deposit of HK$250 million must be paid either in cash or by way of a letter of credit. The deposit is refundable and interest will be paid on cash deposits.
As mentioned above, applicants are required to declare whether or not they are connected to another bidder. Detailed connected bidder rules (which are beyond the scope of this article) have been published which endeavour to ensure that competition is not compromised by too much market power ending up in too few hands.
The key features of the connected bidder rules are that (1) bidders under common control will not be permitted to enter the auction; (2) a bidder that is closely related to more than one 2G operator will require the TA's authority to participate in the auction and (3) any two or more of the provisional auction winners that are connected should be required to separate. Control for these purposes means 50% or more of the shares. The tests for "closely related" and "connected" are whether there is a participation or indirect interest and whether there is common ownership respectively of 15% or more of the shares in the bidder.
The auction is expected to take place shortly after pre- qualification has been completed and to be completed within a single day. Each bidder's representatives will for the duration of the auction be confined in a room with no contact with the outside world other than with the auctioneer. As mentioned above, bidding will be for a royalty percentage of network turnover. Network turnover means revenue arising from or attributable to the provision of any telecommunications services over any telecommunications network using the frequency bands to which the spectrum utilisation fee relates. It therefore excludes revenue from, for example, handset sales and from 2G operations. Each bidding round will cover an increment of 1% (i.e. the first round of bidding will be to pay a royalty percent- age of between 5.00% and 5.99%). Each bidder will be required either to confirm that it is willing to pay a royalty percentage higher than the top of the current bidding round (i.e. in the first round, a percentage of 6% or more) or to specify the percentage within the current bidding round that it is willing to pay (i.e. in the first round, a bidder may specify that it is willing to pay up to 5.93%). Bidding will continue until four bidders remain. The royalty percentage payable by all successful bidders will be set at 0.01% above the percentage at which the last unsuccessful bidder withdrew. If the auction ends through the withdrawal of two bidders at the same percentage level, the tied bidders will be given the opportunity to submit one more final bid. If the bids are still tied, the winner will be decided by an unspecified, random method. When the four provisional winners are known, the auctioneer will require them to re-confirm they have no connections and may independently satisfy himself that no connections exist. If there are no connections, the auction will proceed immediately to the third phase. If a connection is discovered, the party that created or that controls the connection will be required to give an irrevocable undertaking to remove the connection within 6 months. If no such undertaking is given, the connected provisional winners will each submit a single cash bid. The highest bidder will be granted a licence. The last unsuccessful bidder to leave the auction will, assuming it has no connections, then take the place of the unsuccessful connected provisional winner. The royalty percentage payable by all licensees will drop to 0.01% above the level at which the previous unsuccessful bidder withdrew. The third and final phase of the auction will determine which licensees will be allocated which blocks of frequency spectrum. This will be determined by cash bids, the highest bidder getting the first choice of spectrum.
Grant of 3G licences 3G licences will be granted shortly after the conclusion of the auction. Licensees must support mobile number portability from the launch of their services. The ad- ministration has stated that no additional mobile licences will be granted before 2005. Existing 2G licences that are due to expire in 2002 and 2003 will, if the licensee requests, be extended by 3 years.
Minimum guaranteed payments and royalties
In the first 5 years of the licence term, every licensee, will (regardless of its actual network turnover) pay the same minimum guaranteed payment. The amount of the minimum payment will be determined by reference to the royalty percentage that results from the auction, but is instead of the royalty. In this way the Government is guaranteed some income in the early years of 3G services, while network turnover is likely to be low.
In years 6 to 15, licensees will pay the higher of the royalty percentage of actual network turnover and the minimum guaranteed payment for the relevant year. The minimum guaranteed payment will increase gradually from year 6 to year 15 (e.g. if the royalty percentage is 5%, the minimum guaranteed payment will rise from HK$60 million in year 6 to HK$151 million in year 15).
Licensees are also required to keep in place for the term of the licence a rolling performance bond for the aggregate value of minimum guaranteed payments for the next 5 years (or for the remainder of the term if it is less than 5 years).
The spectrum utilisation fee will be payable in arrears on the anniversary of the date of grant of the licence.
Open network access (ONA) requirement
The ONA requirement is a unique feature of 3G licensing in Hong Kong. The government's stated objectives are to promote competition and to enable operators who fail to obtain spectrum to participate in the 3G market.
Under the ONA requirement, each licensee is required to make available on request and on a non-discriminatory basis 30% of its network capacity from time to time to non-affiliated service providers (NSPs). NSPs must be given access to the same transmission and supporting capabilities (such as data rates and intelligent network functionality) as the host mobile network operator (MNO) makes available to its own subscribers and affiliated service providers. Non-affiliated in this context means the ANO exercises influence (if any) over less than 15% of he shares of the service provider.
The MNO may develop its own methodology for measuring the capacity that is made available to NSPs. However, its methodology should be consistent with the TA's published principles otherwise the TA may modify the V1NO's methodology.
Once the 30% capacity threshold is reached, there is 10 further obligation on MNOs under the ONA require- 11ent. The ONA requirement may make network planning and provisioning difficult for licensees since they will have to plan capacity they are obliged to provide the demand for which is uncertain.
NSPs are divided into mobile virtual network operators (MVNOs) and content and service providers (CSPs). An MVNO is an operator that provides mobile services to subscribers through access to, and interconnection with, the radio access network and, where the MVNO requires, the core network or part of it, operated by an MNO. MVNOs are expected to provide their own switching and gateway infrastructure, to enter into their own interconnection and roaming agreements, to provide their own billing and customer management systems, to maintain their own Home Location Registers and to issue their own SIM cards. MVNOs will be allocated their own number blocks and may be allocated a Mobile Network Code. CSPs are essentially all service providers that do not qualify as MVNOs.
MNOs will be required to publish a reference MVNO contract and to publish its wholesale tariffs available to CSPs. Such tariffs must not discriminate between the MNO's affiliated CSPs and non-affiliated CSPs.
Regulation under the ONA requirement
Where an MNO and a non-affiliated MVNO fail to reach commercial agreement on the terms of access or interconnection, the TA may intervene to determine such terms. Charges are likely to be determined on the basis of the change in total cost to the MNO as a result of providing the service to the MVNO. This charging basis would include a cost of capital element and an element of variable cost reflecting the spectrum utilisation fee. The TA has also stated that he would expect an MVNO contract to be for a minimum of 3 years and to include minimum volume purchase commitments.
Where, notwithstanding its published wholesale tariffs, an MNO fails to agree access terms with a non-affiliated CSP, the TA may intervene at either party's request or in his own discretion. The TA will first compare the MNO's published CSP tariffs with those available to affiliated CSPs to ensure there is no discrimination. Assuming there is none, the TA will then consider whether the tariffs are either unfair or anti-competitive.
MVNOs will require a special form of public non-exclusive telecommunications service (PNETS) licence yet to be developed. CSPs may require licensing depending on whether or not they establish or maintain a means of telecommunications and/or provide a public telecommunications service.
A number of recent 3G licensing rounds in other jurisdictions, such as France and Singapore, have elicited fewer applications than there are available licences. While the Hong Kong 3G auction rules have been designed to be simple and efficient, and the spectrum utilisation fee (based on a royalty percentage of network turnover) has been designed not to overburden licensees during a difficult period for the industry financially, it will be interesting to see how Hong Kong and its mobile industry fare when its turn comes.
First published in Asian Lawyer in August 2001.