Merger Control of the Telecom Industry in Hong

Kong

27 June 2007

OCED Seminar, Jeju Korea

Herbert FungSenior Economic Advisor

Office of Telecommunications Authority

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Agenda

1. The Legal Framework

2. Cases Studies

3. Further Issues and Developments

Part I: The Legal Framework

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A sector-specific regime

Anti-competitive practices prohibited for the telecom & broadcasting sectors only

Merger control for the telecom sector only

No competition law for other business sectors in Hong Kong for the time being

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Telecom Ordinance (Cap.106)

Section 7K – anti-competitive practices

Section 7L – abuse of position

Section 7P – Authority may regulate changes in relation to carrier licensees

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Chronology 1995: licence conditions of the fixed-t

elephone incumbent prohibit anti-competitive practices & abuse of position

2000: licence conditions overridden by provisions in Telecom Ordinance

2004: Merger control enacted

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M&A control: policy objectives

Fair competition for enhancing consumer interests

Transparent and efficient regulatory regime for M&A activities

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Light-handed approach

Characteristics of merger control for the telecom sector in Hong Kong: applies to “carrier licensees” only safe harbours voluntary pre-notification public benefit defence

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The TA’s Statutory Powers

To investigate an M&A involving telecom carrier licensees

to opine whether the M&A has, or is likely to have, the effect of substantially lessening competition (SLC) in a telecom market in Hong Kong

if yes, to direct remedies

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Procedures The TA has a discretion to investigate

an M&A on an ex post basis

The parties may request the TA, on an ex ante basis, to give: an informal advice – confidential but not

binding on the TA; or a formal consent – binding on the TA but

not confidential

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Timetable Decide whether to investigate within

2 weeks after completion of the M&A

If yes, investigation to be completed: within 1 month for simple cases within 3 months for complicated cases

An appeal, if any, must be lodged within 14 days after the TA’s decision

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Appeal Mechanism Appeal to whom?

Telecommunications (Competition Provisions) Appeal Board

Chairman and board members appointed by the Chief Executive of the HKSAR Government

Appeal Board may refer a Question of Law to the Court of Appeal

Appeal Board’s decision final

Who may appeal? The aggrieved subject licensee, the acquirer, the ac

quired (if itself not the subject licensee) Third parties have no right to appeal

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Triggering point: A “change”

S7P only operates where there is a “change” in relation to a licensee

when a person’s (either alone or together with any associated person) beneficial ownership or voting control of the voting shares in the licensee crosses certain specified thresholds

Three thresholds: 15%, 30% & 50%

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Safe Harbours

2004 M&A Guidelines screening device & a rule-of-thumb

If within SH presumption of no SLC If falls outside no presumption

either way, further enquiry necessary to give transparency not intended to replace case-by-

case analysis

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Safe Harbours

Two safe harbours :

1. CR4 Ratio test adopted in Australia & Canada

2. Herfindahl-Hirschman Index (HHI) adopted in US & EU

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The Competition Analysis The economic test

whether or not the change has, or is likely to have, the effect of substantially lessening of competition (SLC) in a telecommunications market

The “counterfactual” a “future-with-and-without” analysis

A “teleological” approach Integrated analysis not a step-by-step, “check-list” exercise

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The SLC test … the “effect”…

“purpose” or “intent” not sanctioned

… of “substantially”… Appeal Board: “must be at least significant

but need not be big”

… “lessening competition”… Creation or enhancement of market power Market power could be unilateral or collective A structural test

… in a “telecommunications market” No jurisdiction if the effect is not in a

telecommunications market

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Matters to be taken into account

1. Barriers to entry

2. Market concentration

3. Countervailing power

4. Potential increase in prices & profit margins

5. Dynamic characteristics (growth, innovation and product differentiation)

6. Removal of a vigorous and effective competitor

7. Extent to which effective competition remains

8. Vertical integration

9. Import competition

10. Substitutes

11. others…

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Public Benefit Defence

if the change has, or likely to have, a benefit to the public and the benefit outweighs any detriment of SLC

“Public Benefit” need to be real, likely to be realized within a reasonable period after the merger, likely to be sustainable

Examples: consumer benefits, innovation, higher capacity or better quality of services, etc.

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Remedies The TA gives directions to eliminate or avoi

d the effect of SLC

Structural Remedies e.g. divestiture

Behavioural Remedies e.g. merged firm be directed not to do certain a

nti-competitive act after the merger

Part II: Case Studies

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Overview

7 cases since enactment of merger control: 2 granted with ex ante formal consent 5 ex post decisions not to commence

an investigation no formal ex post investigation yet

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Cases

1. China Netcom acquiring PCCW shares (Apr 05)

2. PCCW acquiring Sunday (Jul 05)

3. China Mobile acquiring Peoples (Dec 05)

4. Merger of CSL & NWPCS (Mar 06)

5. Joint ownership of Asia Netcom & C2C (Aug

06)

6. Pacific Internet acquired by parent of Asia Netcom (Feb 07)

7. General Electric acquiring AsiaSat (May 07)

Case 1:China Netcom acquiring PCCW’s shareholding

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Case 1: the transaction

50% 100%

External Cable-based FTNS

External Cable-based FTNS

Market for the Provision of External Bandwidth to

and from HK

compete Compete

Acquire 20% shares

Mainland fixed network operator buying into HK incumbent fixed network operator

Both parties are parents to “carrier licensees” A “change” to the carrier licensee under PCCW

Reach Networks & Reach Cable

China Netcom (HK) Operations

&Asia Netcom

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Case 1: the relevant market

A “teleological” approach: PCCW’s and CNC’s businesses overlap

only in external bandwidth services (EBS)

The relevant market for EBS: Route-by-route definition of market too

narrow because supply-side substitution from transit routing is strong

Cable (overland and submarine) and satellites are included

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Case 1: competition analysis Market share analysis sensitive to

the choice of measures: Activated capacity Equipped capacity Upgradeable capacity Revenues

Excess capacity abundant Persistently falling prices

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Case 1: conclusion

No SLC

Ex post decision not to commence an investigation

Case 2:PCCW acquiring SUNDAY

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Case 2: the transaction The incumbent fixed network operator

acquiring control of a mobile network operator A “change” to SUNDAY

2G & 3G Mobile Services

Fixed-line Services

Acquire 59.87% shares

Fixed carrier licenc

e

Mobile carrier licenc

e

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Case 2: the relevant market A “teleological” approach:

PCCW’s and SUNDAY’s businesses overlap only if fixed & mobile telephony are in the same market

Treating fixed and mobile as a combined market can most readily identify and analyze any potential competition concern

Market definition may well be different for other cases or purposes

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Case 2: analysis and conclusion

If fixed & mobile is a combined market: within safe harbours by CR4

If fixed & mobile are separate markets: No change in market structure for fixed o

r mobile

No SLC, therefore not to commence an ex post investigation

Case 3:Merger between CSL and New World PCS

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Case 3: the transaction

A merger between two mobile network operators:

CSL, owned by Telstra, holds mobile carrier licences for both 2G and 3G mobile services

NWPCS holds a 2G mobile licence only, but its parent New World Group also holds a fixed carrier licence

A “change” to both CSL and NWPCS

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Case 3: the relevant market

retail market mobile voice & data services

(complements) MNOs + MVNOs (supply substitution) both 2G and 3G networks

strong demand substitution from 2G to 3G

Separate markets for fixed and mobile One-way demand substitution from mobile

to fixed not strong

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Case 3: competition analysis Competition effects of a reduction fro

m 6 to 5 MNOs marginal

Porting and churn statistics revealed that CSL and NWPCS had not been the most direct competitors due to business segmentation

Better prospects for the merged entity to take on the market leader, HTCL

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Case 3: conclusion

No SLC

Formal ex ante consent granted

Case 4:China Mobile acquiring Peoples

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Case 4: the transaction

5 other HK MNOs

compete

competeOther

Mobile Operators in China

e.g. China Unicom

compete

Inbound Roaming

Outbound Roaming

compete

Acquiring 100%

shares

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Case 4: the transaction

Mainland China’s incumbent mobile network operator to acquire all the shares of a mobile network operator in Hong Kong

A “change” to Peoples, a carrier licensee

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Case 4: the relevant market A “teleological” approach

No horizontal overlap of businesses in HK Possible vertical effect of a speculated

preferential roaming arrangement between the parties

Convention of reciprocal arrangements between inbound and outbound roaming

Effect of any roaming arrangement should be on retail-level competition

Relevant market defined accordingly to analyze the retail effects of reciprocal roaming arrangements

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Case 4: competition analysis Roaming arrangements is a classic case of

cross-border tacit collusion Roaming prices substantially higher than local

calls Escalated to a political controversy in Europe

“With-or-without” analysis: limited competition to date can’t get worse with a preferential arrangement Nothing to lose

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Case 4: competition analysis The potential effects of a preferential

roaming arrangement: Does it make commercial sense for China Mobile

to reject roaming revenues from other operators? China Mobile is not the only mobile operator in

mainland China with national coverage Financial damage to competitors cannot be

simplistically regarded as damage to competition Likely to trigger other operators to break the

roaming cartel and cut prices pro-competitive!!!

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Case 4: conclusion

No SLC

Formal ex ante consent granted

Other cases

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Other cases: common themes

No ex post investigation, either because of no change in market structure or the change fell within the safe harbour

Horizontal or vertical merger of smaller firms is pro-competitive, as the merged entity takes on the leading firms

Part III: Further Issues and Development

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Shortcomings of the present regime

Legal drafting issues:

e.g. the meaning of “indirect share ownership” and “voting control”

No power to investigate non-licensees

The anomaly of a sector-specific approach

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The Communications Authority

A “merger” of broadcasting and telecom regulation has been proposed

Extend merger control to the broadcasting sector?

Presumption that market power comes mainly from “carrier licensees” dubious

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A cross-sectoral approach The HKSAR government is contemplat

ing a cross-sectoral competition law

May or may not include a merger control regime

The sector-specific regime may be overridden, repealed or left unchanged

Q&A

Thank You