Network spending in decline as regulation puts further pressure on profitability

2nd July 2008, London: Europe’s mobile industry is cutting back spending on new networks and services as a growing regulatory burden from the European Union puts profitability under pressure. To justify the imposition of retail price caps, the European Commission has claimed that mobile operators are making excessive profits, but the European mobile industry’s return on capital employed (ROCE) was just 9% [1] in 2006 compared with more than 20% in software, pharmaceuticals and several other sectors, according to management consultancy A.T. Kearney.

 
In its response to the European Commission’s public consultation on the voice roaming regulation, the GSMA, the global trade body for the mobile industry, warns that European mobile operators, on average, are only just covering their weighted cost of capital and some of them are making an economic loss. A.T. Kearney estimates that ROCE for the mobile industry in 2007 was equal to or slightly lower than the 2006 figure.

 
The European Commission predicted that the introduction of regulated price caps on voice roaming calls last summer would lead to a major increase in usage – thereby offsetting possible revenue losses of operators. Yet A.T. Kearney calculates that voice roaming call volumes have increased by only 11% year-on-year to July 2008 while operators’ voice roaming revenues have decreased by 26% [2]. 

 
Historically, one of the leading investors in Europe, the EU mobile industry’s capital spending has slipped from 13% of revenue in 2005 to 12% in 2006 to 11% in 2007. However, heavy capital investment is needed to ensure the widespread availability of advanced 3G networks, which enable mobile users to access the Internet and other multimedia services at broadband speeds. While the mobile industry’s technology roadmap envisages further dramatic improvements in network performance and capacity, the speed of deployment of new networks may be constrained by the mobile industry’s relatively low level of profitability.
 

“Europe’s mobile industry is in the midst of another major investment cycle to deploy new services, such as mobile broadband, video downloads, mobile television and mobile email, which enhance Europeans’ daily lives and the economic competitiveness of the continent,” said Tom Phillips, Chief Government & Regulatory Affairs Officer of the GSMA.  “However, it is clear that the high level of investment required to provide these services across Europe won’t happen if regulators continue to distort the market by setting prices.”

 
In contrast to rising prices in other sectors, the average price of mobile services is falling rapidly. In the EU25, domestic mobile voice prices fell by about 13% per annum from 2004 to 2007. Moreover, the average price of data roaming services in the EU fell by 25% in the 12 months to April 2008, while the average price of SMS roaming services fell by 18% in the same period. Recent announcements by individual operators suggest average prices will continue to fall and the GSMA believes there is no need for the European Commission to also introduce price caps on these services.

 
Drawing on analysis by Professor David Newbery of the University of Cambridge’s Faculty of Economics, the GSMA consultation response also warns that retail price regulation undermines basic microeconomic principles. The most efficient way for a business to cover its costs is to set low mark-ups on products aimed at price-sensitive customers, such as those on low incomes, subsidised by higher mark-ups on products aimed at more affluent customers. This is the logic which explains higher prices for hotel rooms booked in peak holiday season, flexible airline tickets or newspaper advertisements placed on the front page. The primary beneficiaries of the voice roaming regulation are international businesses with relatively low price sensitivity.

 
“Using different price structures for different customer groups and services to maximise total demand for mobile services is economically efficient, bringing down costs for users,” said Professor Newbery.  “But the price caps imposed by Europe’s roaming regulation risk undermining the principle of differentiated pricing, limiting mobile operators’ ability to cover the overhead costs of supplying services for lower-income or more price sensitive customers.”

 
“The Commission built its case for roaming regulation on two flawed arguments,” added Mark Page, a partner at A.T. Kearney. ”Sharp price cuts have not been offset by a corresponding increase in the volumes of calls; and the mobile industry does not earn exceptionally high profits which could offer a buffer against the loss of revenues. These are the facts to counter the Commission’s assertions and anecdotes. We can only hope that they look at the full body of evidence as they consider the future of the roaming regulation.”

A full copy of the GSMA’s response to the European Commission’s public consultation on the voice roaming regulation, will be available later today at: http://www.gsmworld.com/roaming/data_docs.shtml

 
About the GSMA:

 
The GSM Association (GSMA) is the global trade association representing more than 750 GSM mobile phone operators across 218 countries and territories of the world. The Association's members represent more than 3 billion GSM and 3GSM connections - over 86% of the world's mobile phone connections. In addition, more than 200 manufacturers and suppliers support the Association's initiatives as key partners.

 
The primary goals of the GSMA are to ensure mobile phones and wireless services work globally and are easily accessible, enhancing their value to individual customers and national economies, while creating new business opportunities for operators and their suppliers.