PLDT-Digitel deal

MANILA, Philippines—For more than half a century, the country’s telecommunications sector was dominated by a private monopoly, Philippine Long Distance Co. (PLDT). During this period, our telecommunications sector was in a dismal state as indicated by the long waiting time of up to more than 10 years for owning a telephone.

Due to underinvestment in the sector, a huge telephone backlog existed, telephone service was generally unavailable and where it was, the quality of service was unreliable.

Opening up

All this changed with the opening up of the telecommunications sector in the late 1980s up to the early 1990s. The entry of new players led to rapid growth in the industry as foreign investment increased and new services emerged.

Despite the entry of new players, PLDT continued to dominate the industry due to its ownership of the backbone network and largest share in the total number of fixed lines.

Being the owner of the domestic backbone system, PLDT was able to influence not only the speed but also the terms and conditions for interconnection and revenue-sharing arrangements.

First Pacific

As this developed, First Pacific bought control of PLDT and consolidated its position in the Philippine telecommunications industry by synthesizing the operations of PLDT and First Pacific’s Smart, the leader in the cellular phone market.

During that time, Smart and Piltel (PLDT subsidiary) had a combined share of 68 percent of the cellular telephone subscribers. PLDT and Smart also accounted for a combined 43 percent of the installed lines.

The merger of the dominant firms in the landline and mobile phone markets reinforced PLDT’s position.

Its combined telephone and cellular phone subscribers of 3.87 million accounted for 48 percent of the total. With this strategic move, PLDT has retained its market power.

After the consolidation, two companies, PLDT-Smart, along with Globe, emerged as the formidable telecommunications companies in the country. Competition was muted as the two telecommunications giants offered basically the same prices for their services. For instance, text messages cost P1 each.

Unlimited calls

In 2003, Sun Cellular of Digital Telecommunications Philippines Inc. (Digitel) entered the market and started offering 24/7 unlimited calls and text messaging. The top two companies immediately charged Sun Cellular of predatory pricing. They filed separate petitions before the National Telecommunications Commission (NTC) to stop Sun Cellular’s service, fix call rates at P5.50 per minute and bar Sun from charging much lower rates.

After the NTC ruling in favor of Sun, Smart and Globe also offered fixed rate or “bucket” plans for voice and text services. However, both Smart and Globe were forced to apply restrictions after experiencing network congestions during peak times. They even resorted to suspending their promos during holiday seasons.

Intense competition

Overall, after the entry of Sun, competition in cellular mobile service has become intense. The telecommunications companies (telcos) have continued to fight for market share largely focused on unlimited plans and aggressive bucket offers.

Globe’s Super All Txt 20 allows a subscriber to send 200 text messages to any network for P20 a day. Smart Buddy’s AllTxt Combo Plus at P25 gives a subscriber 100 text messages to another Smart subscriber, 10 texts to other networks, plus five minutes of calling.

Sun Cellular’s P25 Superloaded Call and Text Unlimited has free 30 minutes of mobile Internet on top of unlimited Sun-to-Sun calls and 10 texts to other networks.

While traditional revenue sources like international and national long distance (IDD and NDD) are already on the decline, demand has been strong for new revenue sources like broadband Internet services whose prices have also been declining due to unlimited plans and bucket offerings.

For P50 a day, a Globe subscriber is given unlimited access to the Internet using a Globe Tattoo Broadband USB or mobile phone for one day. Smart also offers unlimited mobile surfing for P50 per day, while Smart Broadband has its unlimited Internet access promo at P200 for five days. Sun Broadband prepaid has a similar offer for P50.

Margins under pressure

With intense competition, the telcos’ margins have come under pressure even as demand for more network services increased.

PLDT chair Manuel Pangilinan pointed out that while daily outbound text messages increased from between 800 million and 900 million to 1.2 billion, yields declined from 18 centavos to 13 centavos per text. In 2010, revenues from cellular data and text dropped 13 percent to P31 billion despite a 25-percent increase in volume.

Globe’s postpaid average revenue per unit (Arpu) fell to P1,168 while Smart’s postpaid Arpu remained steady at P1,257.

Growth driver

With mobile telephony now considered a mature industry (cellular penetration exceeding 80 percent), broadband Internet services are expected to be the sector’s new growth driver. Smart and Globe continued to report strong growth in their broadband business segment, according to Business Monitor International.

Total broadband subscribers for the two operators crossed the 2-million and 1-million mark, respectively, and wireless broadband take-up is the main subscriber-growth driver for Smart and Globe.

It is amid this setting of falling revenues in cellular services (an industry segment nearing maturity) but with high prospects for broadband Internet services (another segment which is still in its infancy and expected to compensate for the decline in cellular revenues) that PLDT recently acquired Digitel.

Duopoly

The deal would result in a duopoly with PLDT’s Smart, Talk N’Text (Piltel), Red Mobile (Cure) and Sun (Digitel) on the one hand and Globe Telecom and TM on the other. PLDT now controls 70 percent of the total cellular subscribers while Globe controls the remaining 30 percent. Digitel has 400,000 broadband subscribers to be added to PLDT’s 2 million subscribers.

Advantages

How will this reconcentration in the industry affect overall welfare?

It is important to distinguish between welfare-enhancing mergers and acquisitions (M&As) and welfare-diminishing M&As. In the former, M&As between firms can be an effective way of developing competitive advantage, optimizing the benefits of complementary strengths and taking advantage of economies of scale and scope.

M&As can also work as an important discipline upon poorly performing management. All this could lower the operating costs of PLDT. M&A activity can thus improve efficiency to the benefit of consumers in particular and the country in general.

Existing Sun subscribers can benefit from PLDT’s wider network coverage. Smart can also expand its network capacity if it is able to use Sun’s 3G frequency which could lead to less network congestion and improved wireless connectivity. Note that radio spectrum is an essential input for wireless telecommunications such as mobile telephony or wireless Internet access. Access to this essential resource is restricted to those owning a license.

Three of the four 3G licenses awarded by NTC are now owned by PLDT (Smart, Sun and Cure, a new player which was eventually bought by Smart in 2008). [3G technology provides high-speed data transmission and supports multimedia applications such as full-motion video, video conferencing and Internet access, alongside conventional voice service.]

Disadvantages

On the other hand, M&As can result in a decline in the number of players in an industry, at least in the short run. In some cases, particularly where there are significant barriers to entry, M&As can lead to increased industry concentration and increased market power which may run counter to national welfare.

It is not easy to enter the industry due to existing barriers such as separate franchise requirement for each telecommunications sector and constitutional restrictions limiting foreign participation to 40 percent.

Obtaining a congressional franchise is difficult and costly, apart from the need to have political influence. Moreover, access to radio spectrum is another constraint to new entrants, especially if this is concentrated in the hands of only one player. Until these entry barriers are addressed, competition will be limited and the industry will continue to reap oligopoly rents.

Lift barriers

To ensure that mergers and acquisitions do not create or enhance market power, which can damage emerging competition, it is necessary to remove barriers to entry and have laws and policies that would ensure market contestability and regulate anticompetitive business conduct or practices. For instance, in the United States, Japan, Korea and Singapore, mergers and acquisitions are controlled when they tend to stifle competition substantially or create a monopoly.

Substantial assessment of mergers is conducted using important criteria such as market structure and efficiency arising from the merger or acquisition.

Regulatory reforms

If effective competition has to emerge, the government must pursue regulatory reforms toward the creation of competitive market and industry structures. Regulatory barriers include the need for a congressional franchise, foreign equity limitations and access to radio spectrum.

Given these high entry barriers along with the absence of effective competition law, PLDT’s recent acquisition of Sun may pose some risks for competition. Our past experience shows how PLDT behaved in the face of increased competition from new entrants.

Without effective laws acting as safeguards for fair competition, it may be difficult to control mergers and acquisitions, particularly those that lead to substantial increases in industry concentration.

Along with the difficulties posed by the high barriers to entry, the PLDT-Digitel deal may endanger both competition in the industry and any welfare improvement arising from the deal.

Rafaelita M. Aldaba is a senior research fellow at the Philippine Institute for Development Studies.)