11 February 2008 Ministry of Finance Department of Economic Affairs ____________________________________________________ Sub: Telecom Fees and Charges and Spectrum

Pricing
1.

After the meeting between the Finance Minister and the

Minister for Communications on 30 January 2008, there were three rounds of discussion between the Finance Secretary and Secretary (Telecom). Secretary (Telecom) sent a note (dated 8 February 2008) summarizing the discussion (copy attached). This sequel note from DEA attempts to set out the current position regarding telecom fees and charges and pricing of spectrum, and defines the issues for decision:
2.

Currently, there are three types of levies on Unified Access

Service License (UASL) holders of both GSM and CDMA technologies. These are:
i. ii. iii.

Entry fee Licence fee (as a share of revenue) Spectrum Usage Charge (as a share of revenue)

Entry Fee
3.

Entry fee is a fixed upfront charge and is circle-specific. If

an operator operates in all the 23 telecom circles of the country, the entry fee aggregates to Rs.1650 crore. This entry fee was fixed on the basis of a TRAI recommendation of October 2003 that entry fee for UASL be pegged in the highest bid price of the 2001 auction. This fee has not been revised since 2003. The 121 licenses issued in January 2008 were also based on this fee (There are already 180 UASL licenses across the 23 telecom circles). DoT has taken the position that entry fee is not in the nature of license fee or spectrum usage charge. License Fee
4.

Currently, license fee is levied as a share of the Adjusted

Gross Revenue (AGR). With effect from 1.4.2004, the license fee has been 10% of AGR for Category-A, 8% of AGR for Category-

B and 6% of AGR for Category-C. The yield from this levy is estimated at Rs.8300 crores for 2007/08 and Rs.11000 crores for 2008/09.

Spectrum Usage Charge
5.

Spectrum usage charge is pegged to the bandwidth and is

calibrated as a percentage of the AGR. The range is from 2% of AGR for 4.4 + 4.4 MHz, 3% for 6.2 + 6.2 MHz and 4% for 10 + 10 MHz in the case of GSM operators. Spectrum usage charges is marginally different for CDMA operators. For both GSM and CDMA operators there is extra rate of 5% and 6% for spectrum of frequency beyond 10 MHz. But spectrum of this frequency has not yet been allotted. The revenue yield from spectrum usage charge is estimated at Rs.2000 crores for 2007/08 and Rs.2500 crores for 2008/09.

Allocation and Pricing of Spectrum – Current Regime
6.

Under the current regime, spectrum is allotted free of cost.

A start-up spectrum of 4.4 + 4.4 MHz is allotted along with the license or at the earliest time spectrum becomes available after the issue of a license. Thereafter, eligibility for additional spectrum is linked to the subscriber base. As soon as an operator reaches a prescribed subscriber base, additional spectrum corresponding to the increased subscriber base is allotted to him subject to availability of spectrum.
7.

This Note does not deal with the need, if any, to revise the

entry fee or license fee. This note addresses issues surrounding: (i) revision of spectrum usage charge; (ii) pricing of spectrum; and (iii) allocation of spectrum. This entire discussion covers only 2G spectrum.

Revision of Spectrum Usage Charge
8.

As indicated in paragraph-5, spectrum usage charge is

linked to the bandwidth, and is levied at the rate of 2%, 3%

and 4% depending on the quantum of spectrum allocated to an operator.

9.

A levy linked only to the bandwidth allotted to an operator

which is uniform across the country does not capture the circles specific scarcity value of spectrum. For example, there is a higher premium on spectrum in metro circles like Delhi and Mumbai than in the far flung telecom circles of the North East. The spectrum usage charge should be calibrated to reflect the circle specific premium on it.
10.

The optimal way of doing this would be to categorize the

country into telecom categories based on aggregate AGR per MHz. However, the 23 existing telecom circles in the country

already stand divided into 5 categories. Although not strictly based on a scientific metric like AGR/MHz, the existing categorization has a rough correspondence to the volume of business in each category.
11.

The question is should we attempt a more scientific

categorization or stay with the existing categorization. The balance advantage might lie in staying with the existing categorization rather than attempting a fresh categorization. Accordingly, spectrum usage charges could be revised from the current rate of 2%, 3% and 4% linked to bandwidth to a percentage based on volume-of-business categorization as follows:

Proposed Revised Spectrum Usage Charge ---------------------------------------------------------------------------------------Category Spectrum Usage Charge % of AGR

---------------------------------------------------------------------------------------Metro-I (Delhi, Mumbai) Metro-II (Kolkata) Category-A Category-B Category-C 8% 8% 8% 6% 4%

---------------------------------------------------------------------------------------12.

MoF and DoT are agreed on this revision. If spectrum usage

charge is revised as above, the revenue yield in 2008/09 will go up

from an estimated Rs.2500 crores to Rs.3600 crores.

Pricing of Spectrum
13.

This present regime of allocation of spectrum free of

charge has failed to capture its scarcity value, yields monopoly rents to operators, and is clearly inefficient. There is a strong and fairly self-evident economic, business and revenue case of pricing spectrum. DoT has also indicated that it will be possible to price spectrum at the time of allocation in addition to levying the spectrum usage charge.
14.

The only argument against spectrum is that it will raise

the costs for operators which they will inevitably pass onto the users. Such an outcome will go against the national objective

of broadening and deepening telecom access. This is a valid concern. However, a full or even partial pass through is not inevitable. It can be argued that if we maintain a competitive market, the poor will not be priced out.
15.

If we decide to price spectrum, there are two options. Either

we auction it or charge a market determined fixed price. These alternatives are discussed below:

Auction of Spectrum
16.

Auctioning spectrum suggests itself is as a clear first choice.

It has several merits.
i. ii. iii. 17.

Best method of discovering price Is more transparent and provides a level playing field Promotes competition

However, it will be problematic for us to adopt the auction

route at this late stage mainly for ‘historical legacy’ reasons. A number of operators have already been given spectrum free of charge. The spectrum available for auction, therefore, will

be quite limited (DoT has not been able to indicate the precise quantum of spectrum that will be available for allotment). Efficient price discovery becomes possible only if the supply is large and

there are a number of potential buyers: a thin market has clear limitations in signaling a price. It may turn out that the ‘discovered price’ is either too low or too high. In its August 2007 report (para 2.79), TRAI too advised against auctioning of spectrum on the ground that it will trigger issues of level playing field.

18.

Auction will be viable if we can increase the quantum of

spectrum available. This can be done by withdrawing the spectrum already allotted to existing operators and putting all of it on auction. Both existing and new license will then bid on a clean slate. This is evidently an extreme measure, and has significant practical and legal implications.

Market Based Price Determination
19.

If auction is ruled out, what are the alternatives for

determining an appropriate market based price for spectrum?
20.

The value of spectrum embedded in the entry fee provides

a possible reference frame for pricing spectrum. Currently, 4.4 MHz of spectrum is allotted at the entry level on payment of an entry fee of Rs.1650 crores for pan-India operation. This translates to an embedded price of Rs.375 crores/MHz. This price was discovered in 2001 and fixed in 2003/04. Using this reference frame price, there are two options for determining the current price of spectrum.

Price Determination – Option 1
21.

The first option for pricing is to take this reference price and

inflate it for the cumulative inflation between 2003/04 and 2007/ 08. The cumulative inflation during this period was approximately 20%. Applying this on the reference price of Rs.375 crore/MHz yields a current price of Rs.425 crore/MHz. This is evidently too low and does not reflect the phenomenal change in technology and business models during the intervening years. This pricing model is therefore, not acceptable.

Price Determination – Option 2
22.

A simple single indicator of the growth in telecom business

in a given circle is the AGR/MHz aggregated across all operators in that circle. We can estimate the number of times (multiple) the aggregate AGR/MHz grew in each circle bet 2003/04 and 2007/08.

The reference price embedded in the entry for each circle can be multiplied by this multiple.

23.

Assume a pan-India operator, operating across all the 23

circles in the country. A rough estimate made by DoT shows that across the country AGR/MHz has increased by 3.5 times between 2003/04 and 2007/08. So the operator will be charged Rs.1312 crore (Rs.375 crore x 3.5) on allocation of 1 MHz of spectrum for operation on a pan-India basis. Since most operators operate only in some of the circles, this price determination can be done on a circle specific basis.
24.

This price determined as above should be charged on both

existing and new operators. Those who do not choose to pay should be asked to surrender the spectrum allocated to them.
25.

If spectrum is not auctioned but priced as above, allocation

of spectrum will continue to have to be linked to the subscriber base.

What amount of spectrum should be priced?
26.

The next question is whether all the spectrum allocated to

an operator should be priced or only spectrum beyond the start-up allocation of 4.4 MHz.
27.

Clause 43.5(i) of the UAS License Agreement provides as

follows: “Initially, a cumulative maximum of upto 4.4 MHz + 4.4 MHz shall be allocated in the case of TDMA based systems ………or a maximum of 2.5 MHz + 2.5 MHz shall be

allocated in the case of CDMA based systems ……… on a case by case basis subject to availability”
28.

DoT is of the view that it is not advisable / possible to price

the start-up allocation of a 4.4 MHz on the following argument. Allocation of 4.4 MHz spectrum is part of the license Agreement. This start-up spectrum was given free of cost in the past. The new entrants who were given licenses in January 2008 paid the entry fee on the understanding that they would get this start-up spectrum would be a breach of this understanding. It will also disturb the level playing field between the existing operators and

the new licencees. This may also trigger litigation.

29.

DoT is agreeable to pricing of spectrum beyond 4.4 MHz.

However, they have suggested a differentiated pricing regime. According to them, there should one price of spectrum between 4.4 MHz and 6.2 MHz (1.8 MHz), and another price for spectrum beyond 6.2 MHz. In August 2007, TRAI recommended a price for licencees who seek spectrum beyond 10 MHz. DoT wants to apply this price for spectrum between 4.4 MHz and 6.2 MHz. for spectrum beyond 6.2 MHz, DoT is agreeable to using the price determined as at paragraph 22 above.
30.

Ministry of Finance differs from the above position of DoT.

There is no contractual obligation to allot a start-up spectrum of 4.4 MHz to every licencee free of cost. The entire range of the spectrum allotted should be priced. The issue of level playing field can be addressed by charging this price even on existing operators.
31.

Moreover, the differentiated pricing suggested by DoT,

viz. one price for spectrum between 4.4 and 6.2 MHz and a different price for spectrum beyond 6.2 MHz will be clumsy, non-transparent and legally questionable. It will be neat and transparent to fix a single circle-specific price for spectrum across the entire bandwidth.

Mergers and Acquisitions (M&A)
32.

It is likely that the market will see considerable M&A activity

over the next few years. It should be Government’s endeavor to ensure that this consolidation happens in an efficient and healthy manner. One question that arises is whether the Government should get a premium out of an M&A transaction. Since spectrum has not been auctioned but priced heuristically, it is likely that the rent, if any, involved in the price of spectrum will form part of the M&A transaction which would typically involve a host of other assets and liabilities, is a complex task. TRAI is best positioned to think through and advise on this issue. The ToRs to TRAI in the regard should be: (i) What should be the guidelines for M&As

between UASL operators? (ii) Should Government get a premium out of M&A activity? And (iii) if yes, how can this premium be determined?

Issues for Decision
33.

The following issues need to be decided in respect of 2G

spectrum.
i. ii. iii.

Should spectrum usage charge be revised (paragraph 9) Should spectrum be priced? (paragraph 13, 14) If spectrum is to be priced, is auction a viable option? (paras 16-18)

iv.

If spectrum is to be priced, is auction a viable option or is the pricing method suggested at paragraph 23 acceptable? If not, what is the alternate pricing model?

v.

Should the initial spectrum of 4.4 MHz be given free or should this also be priced? (paras 27-28 & 30)

vi.

Should there be a differentiated pricing regime as suggested by DoT or should there be a single price across the entire bandwidth? (paras 29 & 31)

vii.

Should the issue of M&A be referred to TRAI (paragraph 32)

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