2. The recommended pricing approach

Issue 2.1:

Is the proposed incremental ODV approach, benchmarked against New Zealand and overseas spectrum values, a reasonable and appropriate approach in approximating a market value for management rights in the 800 MHz and 900 MHz bands? Why or why not?

26. In the event that a renewal offer is made for the spectrum rights in their entirety TelstraClear agrees that the incremental ODV approach benchmarked against New Zealand and overseas spectrum values is a reasonable and appropriate approach for calculating the renewal price.⁷ If some of the spectrum is reallocated to new entrants, this approach could still be used for the renewal price for the incumbents but should be checked against the auction price for reallocated spectrum. If the calculated renewal price is below the auction price for reallocated spectrum the auction price should be used as the renewal price. This would ensure that the renewal price approximated the market price and would ensure that incumbents were in no way subsidised relative to entrants.

Does this approach meet all policy objectives (fair market value, fair return to the Crown, transparent and simple to administer)? Why or why not?

27. The approach that would best meet these objectives would be reallocation of all of the 800 and 900 MHz Management Rights by auction. This is because the price that would be obtained would be an actual market value rather than a proxy as it is very likely that both incumbents and entrants would participate in the auction given the very desirable characteristics of this spectrum. An auction is also transparent and simple to administer.
28. However, TelstraClear accepts that for reasons of investment certainty it is appropriate to offer to renew the incumbents’ rights to some of this spectrum. If the Government decides to continue with this policy, then the approach proposed for calculating the renewal price provides a reasonable proxy for fair market value and therefore would give a fair return to the Crown. It is also “relatively transparent”, as noted by PWC-NZIER, though inevitably there is likely to be debate about factors such as what is the “optimal” network configuration and what is the optimal, modern equivalent network technology.
29. In this context, it should be noted that the Commerce Commission is at present undertaking a similar exercise of calculating the cost of providing at least some TSO services using cellular technologies. The Commission issued the relevant Draft Determination in December last year but the Commission has still yet to issue a final determination. A major reason for this is the complexity of estimating the network requirements for providing TSO services using GSM technologies and determining the appropriate cost. The incremental ODV calculation may be somewhat simpler but the Ministry should not be under any illusions that it will be a straightforward task.

Issue 2.2:

Are there factors or inputs that should or should not be considered in the proposed methodology? Why or why not?

30. The discussion paper describes incremental ODV as determining the renewal price by “calculating the incremental costs that a generic New Zealand cellular operator, operating an optimal network, would incur to maintain the quantity and quality of services to its customers if deprived of spectrum at the margin (maintaining the same revenue)”.⁸ TelstraClear is unclear as to the meaning of being deprived of spectrum “at the margin”. TelstraClear submits that the increment used for calculating the renewal price should be the quantity of spectrum subject to the renewal offer. In other words, the question being asked in the incremental ODV calculation should be what is cost of reconfiguring the relevant network if the operator in question were deprived of the quantity of spectrum that is being offered for renewal. Any other quantity of spectrum would not reveal the full opportunity cost to the right holder. It would therefore fail to meet the policy objective of a renewal price that approximates the market value of the spectrum.
31. The following example illustrates what we understand would be involved in calculating the renewal price: If an operator held 20 MHz of 900 MHz spectrum plus 2.1 GHz spectrum, the renewal price would be the cost of providing the required level of service (in terms of quantity and quality) using only its 2.1 GHz spectrum. Because 2.1 GHz spectrum is inferior to 900 MHz in reach and non-line-of-sight performance, the cellular network would need to be reconfigured and additional base stations, etc would be required. The renewal price would therefore be the total cost of this reconfiguration and additional equipment.
32. Making the increment used for the ODV calculation the quantity of spectrum being offered for renewal makes it straightforward to calculate the renewal price if some spectrum is reallocated to new entrants. That is, if the total quantity of available spectrum is 20 MHz and 10 MHz of this amount is offered to new entrants, the relevant increment used for calculating the renewal price to the incumbent is 10 MHz.

Issue 2.3:

Do you have any comments on the benchmarking to be applied to the ODV-calculated value?

33. TelstraClear does not agree that the 2G auction prices are the only relevant prices for this spectrum. This spectrum is starting to be used by Telstra and other operators for 3G and so 3G auction prices are also relevant. In addition, most 3G auctions are more recent than 2G auctions so 3G auction prices will incorporate market information that is directly relevant to renewal of this spectrum. In particular, 3G auction prices will better reflect the development of cellular market than earlier 2G auction prices.
34. TelstraClear also has reservations about adjustments for the intensity of competition and regulation in the market. If some of the spectrum is not reallocated to new entrants, the price needs to at least reflect the fact that if it were offered at auction the spectrum would also be sought by other players. To do otherwise would compromise the policy objective of a renewal price that approximates market value. In addition, it is important to bear in mind that the lower level of competition in New Zealand does not necessarily mean that the price of this spectrum at auction would be lower. In an auction the incumbents may well pay a premium to retain their rights to spectrum to maintain their duopoly position in order that they continue to have the ability to price above cost.

Issue 2.4:

Do you have any other comments on the recommended approach?

35. No.

Do you have any other comments on the consultants’ report and peer reviewers’ feedback released with this discussion paper?

36. No.

Issue 2.5:

If you do not agree with the proposed approach, what alternative approach would best meet all policy objectives?

37. As stated in response to Issue 2.1 the approach that would best meet all policy objectives would be to reallocate the rights by auction.

⁸Discussion Paper, paragraph 38, page 12.