Presentation to FWACC 25th October 2000

1
Award of 3.4 GHz and10 GHz Licences
FWACC 13th December 2000
2
Steve Jones Introduction
3
Introduction

• www.radio.gov.uk
• 26th January 2001

4
James Kinsley Overview
5
Today.

• Overview of Programme to Date.
• Scenarios modelled
• Summary of preliminary findings
• Markets/Revenue Report
• Technical/Costs Report
• Financial/Valuation Report
• Economic Report
• Way forward

6
Basic Programme
steering group
Analysis (Stage 2)
Analysis (Stage 4)
Late February!
Industry group
7
Licence Scenarios

• Look at a range of business cases
• 48 licence scenarios !!
• Defined generic licence types
• New and existing operators

8
Main Licence Scenarios x 6
City
Regional
National
New Venture
Existing operator
9
Main Licence Scenarios

• City 9 cities combined area of 4,500 km2
• Regional rest of the country - City area of
  240,000 km2
• National City Regional

10
Licence Scenarios

• Defined generic licence types
• New and existing operators
• 4 cellular configurations

11
Licence Scenarios x 24
City
Regional
National
A B C D
A B C D
A B C D
New Venture
A B C D
A B C D
A B C D
Existing operator
12
Licence Scenarios

• Defined generic licence types
• New and existing operators
• 4 cellular configurations
• Basic and optimistic (lucky break) cases

13
Licence Scenarios x 48
City
Regional
National
Basic
Basic
Basic
A B C D
A B C D
A B C D
New Venture
Lucky
Lucky
Lucky
Basic
Basic
Basic
A B C D
A B C D
A B C D
Existing operator
Lucky
Lucky
Lucky
14
Preliminary Findings (1)Limiting factors

• Size of spectrum - this dictates
• subscriber density that is supportable (i.e.
  market share is not really limited by competition
  from other access technologies or by subscriber
  take-up), and therefore.
• ..nature of overall usage (i.e.
  infill/complementary)
• ..initial targeting of customers
  (cherry-picking, because demand is likely to
  exceed supply).
• upgradeability - an increased hunger for
  bandwith from the customer base over time will
  effect overall viability of the business case of
  the spectrum on offer
• number of licences per region (i.e. 1-2)
• Backhaul costs - these are high, unless you use
  microwave

15
Preliminary Findings (2)Limiting Factors

• Rural areas unattractive to operators
• Banks cautious about lending to sector
• FSA letter sent to banks following review by FSA
  of 34 banks exposure to telecoms sector. (FT
  8/12/00)
• Banks are capping the amount of exposure to this
  sector (FT 8/12/00)
• banks expect conditions to improve in about 6 - 9
  months

16
Preliminary Findings (3)City vs Regional vs
National

• Regional licences (i.e. assuming no rural
  roll-out) and national licences are viable.
• Regional licence is more attractive than National
  licence.
• City licence is not viable
• high capital costs (i.e. more base stations)
  associated with smaller cell radius
• assumption of no microwave backhaul

17
Preliminary Findings (4)Cellular configurations

• 4 cellular configurations - allows us to model
  the relative impact on the main business case
  scenarios of different cell radii
• lower (infrastructure) costs and lower
  (subscriber) revenues
• vs
• higher (infrastructure) costs and higher
  (subscriber) revenues
• NB A B are more profitable than C D

18
Preliminary Findings (4)New vs Existing
Operators

• Business cases for new operator and existing
  operator are broadly comparable
• new operator will have more ambitious aspirations
  than existing operators, thus revenues will be
  higher, especially in the early years
• ...new operator will have a higher cost base,
  which goes someway to redress their advantage in
  terms of higher revenues

19
Preliminary Findings (6)Licence Configuration

• This is clearly critical to the success of the
  award programme.
• No business case for a combined City licence
• Licence configuration based on (artificial)
  geographical boundaries/regions is
  inappropriate.
• configuration based around a detailed knowledge
  of potential subscriber locations, is critical
• Further discussion on configuration of licences
  later in this presentation.

20
Bérangère Mira-Smith Qualitative Market Research
21
Progress

• Interviewed a further 10 companies
• Operators
• Eurobell, Internet Central, Balloon-A-Gram
• Manufacturers
• Adaptive broadband, PipingHot Networks,
  Tandberg TV
• Banks
• Royal Bank of Scotland, Citibank, Deutsche
  Bank, and Bank of America

22
Industry ViewsServices and target market

• Services
• Always-On/Fast link to the Internet
• Voice telephony
• Market share expectations
• Large operators 10-15
• Small operators 00s or 000s of subscribers
• Target markets
• Primarily SMEs and SOHOs
• High-end residential market

23
Industry ViewsOverview of Access Technologies
24
Industry ViewsLocation of target market

• Prime location is suburban areas of cities, towns
  and business parks
• strong competition in city centres (fibre, copper
  and in July 2001 ULL)
• need to target densely populated areas to achieve
  base station fill factor and adequate return
• No business case to roll out in rural areas

25
Industry ViewsOperators strategies (1)

• For large operators the spectrum will be
  complementary to existing portfolio
• e.g ASDL other spectrum e.g at 28GHz or 2GHz
  and support overall strategy do not put all your
  eggs in one basket
• Smaller operators will only have FWA

26
Industry ViewsOperators strategies (2)

• Rollout approach will
• Start from existing points of presence
• Go where demand/population density is highest
• But above all go where competition is not strong
  to establish footprint

27
Industry ViewRegulatory licensing matters (1)

• Large operators want a national licence
• Small operators want a regional licence (but
  wasteful at boundaries)
• The amount of spectrum can only support one
  licence holder
• Licence duration needs to be 15-20 years

28
Industry ViewRegulatory licensing matters (2)

• Some licence clauses would be acceptable, e.g.
• Use It or Lose It
• Rollout clauses with deadlines penalties
• No backhaul on band
• Service clauses would make the licence
  unattractive

29
Industry ViewsAuction vs Comp. Selection

• Comparative selection is the preferred award
  mechanism
• auctions might be clear cut but take money out of
  the industry
• comparative selection has the means to ensure
  that the licence will be used
• the banking community would not support an auction

30
Nicholas Blades Market Scenarios
31
Market Revenue Model

• Objectives
• addressable market sizing based on three
  geographic areas
• cities nine UK urban centres modelled as one
  whole
• regional remaining UK suburban areas
• coverage assumptions consistent with cost model
• revenues generated
• telephony, Internet access value added
• service take-up tailored to match max. subscriber
  density
• focus on most profitable subscribers / services

32
Model Outputs

• Series of revenue forecasts
• city, regional, whole UK licence
• Consistent assumptions with cost model
• Opex
• interconnect, other CoGS (e.g. CPE
  installation)
• marketing, SGA costs
• Subscriber forecast for input into cost model

33
FWAs Position in the Market

• FWA is small component of overall broadband
  market
• limited spectrum
• large number of competing service providers
• over 100 service providers for DSL
• cable modem available to 50 of households

34
Sensitivities

• Spectrum usage and build assumptions
• limits the services and subscribers which can be
  addressed
• restricts market share aspirations
• Rollout impact
• denser networks take longer to rollout
• revenues come on stream later
• impact on return?

35
Nat - Sensitivity to Build Assumptions
Half spectrum per cell - baseline cell size
Full spectrum per cell - baseline cell size
Half spectrum per cell - reduced cell size
Full spectrum per cell - reduced cell size
0
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
36
Result of Spectrum Allocation

• Lack of spectrum limits the maximum subscriber
  density achievable
• spectrum driven subscriber density below the
  market share objectives assumed for most
  scenarios
• operators will focus on the highest margin
  customers
• lower likelihood of small businesses and
  residential customers being addressed

37
Abdul Ladak Infrastructure Rollout Cost Model
38
Stage 2 Work

• Outline Planning and Dimensioning
• Outline Design
• Infrastructure and Rollout Costing
• Radio Modelling
• Further Work - Stage 4

39
Outline Planning and Dimensioning
UK Footprint (1991 Census Data) 20,000 Sq. Km
56 Population therefore reasonable to
assume 40,000 Sq. Km 70 Population
40
Capacity Planning
Half Spectrum
Full Spectrum
F 7 MHz (3.4 GHz) or 14 MHz (10 GHz)
F 3.5 MHz (3.4 GHz) or 7 MHz (10 GHz)
41
Cell Capacity
Assuming 4QAM or QPSK
42
Traffic and Services
43
Design Models
44
Subscribers
45
Outline Design ArchitectureDesign Model A
46
Outline Design ArchitectureDesign Models C and D
47
Lucky Break

• 3.4 GHz and 10 GHz Site Sharing
• Low Site Acquisition Overheads
• Maximised Economies of Scale
• Rock Bottom Equipment Prices
• Increased Microwave Backhaul
• No Dark Fibre Lease
• Discounted Rate for Backbone Bandwidth

48
Backhaul Proportions
Normal
Lucky Break
49
Radio Modelling - ITU-R 525/526/530
High Resolution (2m) 3D Data City Suburban
Region 1 Suburban Region 2
50
Radio Coverage - City
City Centre - Building Height 100m
3.4 GHz
10 GHz
51
Radio Coverage - Region
Suburban Region 1 - Building Height 35m
3.4 GHz
10 GHz
52
Radio Coverage - Region
Suburban Region 2 - Building Height 32m
10 GHz
53
The Way It WorksConceptually
54
Radio Modelling - Interference ITU-R 452
3.4 GHz Class 1 Subscriber Antenna
Mask Back-to-Front Ratio or Side and Back Lobes
Reduced by- 0 dB 81 Interference 10
dB 54 Interference 20 dB 2 Interference
55
Conclusions and What Next ?

• Cell structure D works.provided..
• Optimum cell radius reduced cell radius
• 16QAM is reasonable
• Target dense subscriber regions
• FDD vs TDD - co-existence
• Access Technologies co-existence
• Spectrum surveys and interference

56
Saule Zhonkebayeva Financial Modelling
57
Purpose of the financial model

• Examine under what conditions, operators of FWA
  licences will have a viable business
• Model sensitivities to spectrum allocation

58
Financial Modelling
FINANCING Loan repayment term Loan interest
rates Financing Charges
COST DATA Capital Expenditure Licence
Value Operating Costs MARKET
DATA Revenue Direct Costs
FORECAST FINANCIALSTATEMENTS Profit loss
account Balance sheet Sources application of
funds Cash flow
Operating Margin
VALUATION IRR - 18
59
Licence Valuation (base case)
City
Regional
National

• Viable

• Viable

• Not Viable

New Venture

• Not Viable

• Viable

• Viable

Existing operator
60
Licence Valuation (lucky break)
City
Regional
National

• Viable

• Viable

• Not Viable

New Venture

• Viable

• Viable

• Viable

Existing operator
61
Ian Jewitt Economic Analysis
62
The Economic Objective

• EV CS PS a x LV
• a gt 0 ?
• Shadow price of funds
• estimated in US at 0.3
• Appropriately Discounted?
• Discount EV at different rate than used in market
  and financial models?

63
Consumer and Producer Surplus
Price
CS
p
PS
marginal cost
Quantity
q
64
Efficient Entry
initial supply
EV ABC
A
P
cost existing
B
C
cost entrant
Q
q1
q2
65
Inefficient Entry
initial supply
EV A-B
A
P
cost entrant
B
cost existing
Q
q1
q2
66
Modelling Assumptions

• But predicted market shares must be modelled
• Demand and Cost Conditions
• Usual assumptions OFTEL, KPMG, ...
• Linear demand
• Constant Unit Costs
• Strategic Model
• Base model, Cournot competition

67
Competition with other means of access.

• The market is for access, it competes with other
  products/bandwidth.
• Leads to consideration of vertically
  differentiated products.

68
Number of Licences Competition versus Bandwidth

• Splitting spectrum enhances competition at lower
  (bandwidth) end of market.
• Possibly at expense of competition at the upper
  (bandwidth) end of the market.

69
Number of Licences Competition versus Bandwidth
(II)
70
Summary of Aims

• Aim to get licences to firms which have lowest
  costs of providing access.
• To enhance competition.
• Especially in areas where it is currently weak.
• Especially in areas where close substitute
  services are not available.

71
Nicholas Blades Way Forward and Spectrum Packaging
72
Influencing Factors (1)

• Business case
• modelling can point to the key drivers in the
  business case
• will not cover all of the possible variants
• shows that a business case is possible not that
  it will be the one used by any potential bidder
• Rollout
• licence clauses and packaging should enable as
  wide a roll-out as possible in terms of consumer
  coverage, not geographical coverage
• avoid sterilising areas containing customer
  concentrations that any spectrum package winner
  will not address
• Spectrum efficiency
• dont break up the licences into too many
  packages so that spectrum is wasted

73
Influencing Factors (2)

• Market Sentiment
• operators are likely to borrow to pay for both a
  licence and the network capex
• the level and the terms of lending are critical
  to understanding what the financial markets will
  support
• although analysis may point to one licence value,
  this assumes that there is a highly liquid
  capital market
• Simple and robust process
• the configuration and process should be driven by
  the influencing factors
• tempered with pragmatic approach to a workable
  process
• Enhance competition
• not as dominant a requirement in the cities and
  suburbs where xDSL and cable modem will provide
  choice in the delivery of broadband

74
Way ForwardMain Outputs from Stage 5

• Influencing factors
• Inputs from Stage 4 Modelling

Spectrum Package(s)
Delivery Processes

• Allow viable business cases to bid
• Avoid sterilisation of rural areas
• allows rural cases to be explored by the market
  Rural White Paper
• Efficient spectrum usage
• Simple and robust process

75
Five Options for Spectrum Packaging (1)

• National Licences
• one to four depending on whether 3.4 10GHz are
  packaged together
• Regional (Critical Mass) Licences
• creating areas of critical mass, not just using a
  standard regional definition
• Hot Spots
• licences for metropolitan areas (cities and
  suburbs) have proved viable in the Stage 2
  analysis
• viability of each hotspot can be tested further
• packages likely to sell? - market test
• further work needed to define approach to rural
  areas

76
Five Options for Spectrum Packaging (2)

• No sale at present
• reflect market sentiment
• wait until more spectrum is available
• Use for purpose other than FWA

77
Stage 4 Modelling

• Model 3.4 GHz and 10 GHz separately
• increase granularity of modelling and focus on a
  few likely scenarios, selecting those with
  combination of
• best business case
• highest EV
• look at impact of inclusion of rural areas, as
  well as effect of de-averaged pricing
• look at impact of price declines

78
Ian Jewitt Award Process
79
The Process?

• Variables under consideration are
• Licence Configurations
• Means of Payment
• Conditions on Licences
• Method of Assignment

80
The Process? (II)

• Licence Configuration
• National
• Regional
• Other
• Hotspots
• Critical mass

81
The Process? (III)

• Means of Payment
• Cash up front?
• Annual fees?
• Royalties?
• Conditions on Licences
• Roll out conditions?
• Penalties
• Credits
• Use-it-or-lose-it?

82
The Process? (IV)

• Method of Assignment
• Auction
• pre-qualification?
• sealed tender, ascending open ...
• Comparative Selection
• criteria ...
• Hybrids
• comparative selection with fee as one criteria
• incentives for roll out
• First-come-first-served (in rural areas?)
• Lottery