Chap 10 2003

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A Review of Telecom Regulatory Authority of Indias Tariff and Interconnection Regulation 239

A REVIEW OF TELECOM REGULATORY

AUTHORITY OF INDIAS TARIFF AND

INTERCONNECTION REGULATION

Rekha Jain

Tariff rebalancing and interconnection regulation plays a

critical role in reforming the telecom sector, characterized

by rapid technological changes and monopoly service

provision by the incumbent. Due to rapid advances in

technology, the prices of long distance communication have

fallen more dramatically and incomparably more than that

of the wire line local access. Further, competition in the

long distance segment has resulted in a sharp decline in

prices, almost bringing them near costs. However, the decline

in long distance prices may not be accompanied by cost-based local access rates. They may have been historically

kept low due to political reasons. The below cost rentals and

call charges may not invite private participation. On the

other hand, it may not be possible to have above cost long

distance charges (usually used to subsidize the below cost

rentals and local call charges) in a competitive environment.

Tariff regulation to rebalance these by increasing local call

charges as a means to encourage private entry and

corresponding reduction in long distance charges creates the

appropriate incentives for investment. Tariff rebalancing as

a regulatory tool can ensure adequate incentives to the

incumbents for the transition to a competitive environmentby specifying the road map and protecting its revenues.

Interconnection to the Fore

With multiple players in the industry, interconnection has

become a critical issue, especially as the incumbent usually

has a large spread out network. The challenge before

regulators is to provide a framework that addresses not only

the technical, economic, and commercial aspects, but also

provides for technological changes. The regulator must adopt

policies that encourage the emergence of a competitive

market, despite the reluctance of the incumbent to provide

interconnection to the new entrant. With the deregulation

of the Indian telecommunications sector and the move from

monopoly to duopoly and finally to oligopoly in the telecom

sector, the choice for the end user has increased. However,

this has also placed demands on the regulator to ensure

implementation of policies for efficient operation of the

sector with interconnection as one of the critical issues in

enhancing competition.

One of the most crucial and debated issues in

interconnection regulation is interconnection charging as itforms a major part of both the expenses as well as the

revenues for a telecom operator. Interconnection charging

can be a significant factor in the viability of the business

of an interconnection-seeking private telecom operator as

well as for the interconnection-granting incumbent. The

access charges, if passed on to the consumers, also affect the

retail price of services offered. Therefore, the charging regime

has to be efficient, fair and unambiguous to protect the

interests of all the players. TRAI began tariff balancing as

early as in 1999, and the exercise has gone through two

phases (Box 10.1).

PRIOR EVENTS

In May 1999, the TRAI allowed fixed service operators to

provide WLL services using CDMA as it would be strongly

in the interest of the subscribers. Technologically, this was

a cellular service1. However, TRAI had limited the mobility

that could be offered on these networks to the Short Distance

Charging Areas (SDCA). The spectrum for these services

was given on a first come first serve basis and the players

1 For a detailed discussion of this initiation and the likely fall

out see Annexe Table 10.1, Jain and Sanghi (2002).

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240 India Infrastructure Report 2004

Box 10.1

Tariff and Interconnection Regulation (The Earlier Phases)

THE FIRST PHASE

TRAI began the tariff rebalancing with a second consultation paper in September 1998 and specified the tariffs in the first TelecomTariff Order, March 1999 (TTO 99) (http://www.trai.gov.in/order.html).

Tariff Rebalancing

For fixed services, the TTO 99 was the first step in the process of tariff rebalancing. The tariffs were specified in terms of standard

packages that all providers were obliged to offer. However, there was provision for both fixed and cellular service providers to offer

alternative packages in terms of monthly rentals and per minute charges. The TTO 99 envisaged an increase in monthly rentals

and a decrease in NLD and ILD tariffs to bring them near costs in 3 phases over a 3-year period. The phasing would help to

cushion the impact of changes. The TTO 99 categorized the users as rural and urban (based on classification as per census) and

further within each category, the users were divided into low, general, and commercial. The rentals for the different categories varied

and also depended on the exchange capacity to which the subscriber was connected (Annexe 10.1).

The categorization into low and general user was based on the usage in terms of MCUs. For both the urban and rural users,

low users were those who made less than or equal to 500 MCUs per month, while general users were those who belonged to neither

commercial nor low user categories. The definition for commercial user was left to be decided in the future after a due processof consultation. For the time being, commercial users were those who opted for a rental under the commercial category. For rural

subscribers, if MCUs were less than or equal to 500, then the per call unit charge would be Rs 0.80, additional MCUs would

have a charge of Rs 1.00 per unit, while for urban areas, the corresponding charges were Rs 1.00 and Rs 1.20, respectively. The

per minute charge did not vary within the specific sub-categories (low, general, or commercial). The rural and urban subscribers

got 75 and 60 free MCUs per month.

The paper provided for a change in rentals for every year for the 3-year period for the period 1 April 2000 to 31 March 2002

only for the general category. For the long distance and international calls, the TTO 99 specified a pulse rate and charge on different

distance slabs. These were expected to reduce over the 3-year period. For the rural subscriber the minimum and maximum charges

for a one minute long distance call at pulse charge of Rs 0.80 per minute would be Rs 0.80 (for a call within 50 km) and

Rs 20.00 (for a call distance of greater than 1000 km). These were expected to be Rs 0.80 and Rs 14.40, respectively by 31 March

2002. For the urban subscriber the corresponding rates would be Rs 1.00 and Rs 25.00, expected to go to Rs 1.00 and Rs 18.00,

respectively, over the 3-year period. The above elements were a part of the standard package which all service providers were required

to provide. For cellular services, the TTO specified cost based rentals (Rs 600 per month) and air time tariffs (Rs 6 per minute).

Interconnections

Interconnection regulation had been in terms of interconnection charges (set up charges) and revenue share (usage charges) a . The

basic framework was laid down in TRAIs consultation paper on Telecom Pricing (9 September 1998) and TTO 99. Key aspects

of the framework were: Interconnection prices were based on costs and usage charges were based on a percentage of revenue share.

For interconnections between fixed services providers, the provision for the local calls was on the basis of bill and keep, for NLD

calls the revenue share proportion was 40:60 for the originating and terminating service provider, respectively. For ILD services,

revenue share proportion was 45:55 between the originating and terminating network, in this case, the DoT.

For interconnection between fixed and mobile services, the Receiving Party Pays principle was followed, with no revenue share.

The called party would pay the airtime. For calls between the mobile to fixed services, the originator would pay the airtime as

well as the Public Switched Telephone Network (PSTN) charges (as applicable). The PSTN charges were to be passed on to the

fixed service provider in toto for the long distance and the international component.

TRAI proposed a shift to the CPP regime in September 1998 but shifted the implementation to August 1999, as the implicationsof the National Telecom Policy 1999 (NTP 99) that was likely to be announced in March 1999 also needed to be factored in.

The NTP 99 changed the annual licence fee to a 1-time entry fee and an annual revenue share. This had implications on the

cost-based tariffs. TRAI subsequently reviewed the tariffs and reduced the cap on rentals (from Rs 600 to Rs 450) and airtime

(from Rs 6.00 per minute to Rs 4.0 in metros and Rs 4.50 in circles). The revenue share for NLD and ILD continued as before.

For fixed to mobile local calls, TRAI specified a charge of Rs 2.40 for the first minute and Rs 1.20 for each successive minute.

Along with it, the revenue share was mandated as 33:67 per cent between the fixed and mobile operator specified as a mobile

terminating charge. Due to MTNL and others filing a case in the High Court requesting for a stay on the CPP regime on the

grounds that this would lead to (i) increased costs due to network upgradation, bill collection, and bad debts, and (ii)TRAI having

no jurisdiction to issue or to make regulations to regulate arrangements amongst service providers. The courts held that TRAI did

not have powers to alter the terms and conditions of the licence (through specifying the revenue sharing regulation). Subsequently,

the government issued the TRAI Amendment Ordinance 2000 in January 2000. This changed the composition and powers of

TRAI, specifically giving TRAI the power to fix interconnectivity terms, and setting up the Telecom Dispute Settlement Appellate

Tribunal (TDSAT). In addition to the scope of the disputes in the earlier act, the tribunal would also be the appeal mechanism

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would have to follow the associated roll out obligations. The

cellular operators had regarded this as a backdoor entry for

fixed service operators to provide cellular services, without

having to pay the high licence fees for spectrum that they

had paid in the auctions. The Cellular Operators Association

of India (COAI) had taken this issue to the Telecom Dispute

Settlement Appellate Tribunal (TDSAT), that had agreed

with TRAIs decision to allow WLL (LM) services. The

COAI had then appealed against the TDSAT decision in

the Supreme Court. The Supreme Court had allowed the

roll out of WLL (LM) services while enjoining the TDSATto examine the issues of level playing field raised by the

COAI. Any disadvantage to the cellular operators due to the

regulation was to be neutralized.

The COAI considered WLL (LM) services as unfair

impositions in the market. Therefore, when Tata Teleservices,

a fixed service provider, rolled out its CDMA-based WLL

(LM) network in mid-January 2003, the cellular operators

denied it interconnectivity with their networks. Since there

was no formal interconnect agreement of the fixed service

operators with cellular operators, Tata Teleservices started

routing its calls through the BSNL/MTNL network. But

the cellular operators were able to block such calls too. In

retaliation, BSNL and MTNL cut off access to selected

cellular operators. Subsequently, the then Minister for

Information Technology and Telecommunications, Pramod

Mahajan, after a meeting with cellular operators, announced

that he would be willing to arbitrate in the dispute to

ensure fair and equitable outcomes and all networks should

conform to the need for interconnectivity with others.

THE THIRD PHASE OF INTERCONNECTION

REGULATION

Since the March 1999 consultation dealt only with

interconnections of the various service providers with DoT,

TRAI brought out a consultation paper on 14 December

2001 to address the interconnection issues and to develop

a General Framework for Interconnection (GFI) in the

context of private NLD operators entry into the telecom

service market. This provided a methodology for charging

carriage of a long distance call in a multi-operator

environment and to discuss issues relating to equal ease of

access by subscribers to the NLD networks particularly

relating to Carrier Access Code (CAC), pre-selection, and

default carrier (http://www.trai.gov.in/intpap.doc).

for the decisions of TRAI. The decisions of the tribunal could be appealed against only in the Supreme Court. (for a detailed analysis,

see Sinha 2001)).

THE SECOND PHASE

The second phase of the rebalancing was to be effective from 1 April 2000 but was postponed to July 2000, as due to the lagin the availability of data for the required period of operation, the TRAI could not do the necessary review. This was further postponed

by a month to August 2000. During the review process the service providing arm of the erstwhile DoT, called Department of Telecom

Services (DTS), (now BSNL) mentioned that due to tariff rebalancing, (the long distance calls becoming cheaper), it had earned

lower revenues by Rs 20002200 crore during 19992000. The flexibility of the alternative tariff package had been utilized to

the extent of not charging rent for subscribers making 200 MCUs. This had led to a further loss of Rs 10001200 crore.

However, in TRAIs assessment, due to the delays in implementation of the second round of rebalancing, declining cost of telecom

equipment and overall revenue increase due to lower priced STS/ISD calls, the effects of the rebalancing in the first phase had

not been very severe. As it expected the DTS to bring about efficiency changes to further reduce its costs, TRAI decided to go

ahead with the second round of rebalancing which would be applicable until 31 March 2002. The longer time frame would enable

elasticity of demand to manifest itself, and give greater time to the incumbent to make structural adjustments.

The STD rates were expected to decline by nearly 11.5 per cent, while the rentals were not expected to significantly change

during this period. While the original plan had envisaged an increase in rentals for the general subscriber category, the TRAI decided

not to implement it, as it felt that the total loss on this account would be about Rs 200220 crore. This amount, as a percentageof total revenues of DTS was very small and could be made up by greater number of STD/ISD calls and improved efficiency of

the incumbent. It felt that not increasing the rental would help in the increase of teledensity.

Since TRAI was in the process of working out the cost-based tariffs on the basis of forward looking costs and a different

methodology, both of which were going to be a part of a further consultation process, it deferred an increase in rentals. The revised

tariffs were to be effective from 1 October 2000.

In August 2000, the National Long Distance Competition policy that would allow private operators to offer long-distance services

was announced and it was expected that this would bring down long-distance prices. A revision in the cellular air time to Rs 3

per minute was also affected.

a The Set up Costs of Interconnection is specified as the initial cost of any engineering work needed to provide the specific interconnection facilities

requested and the Usage Charge is specified as the charge levied by a service provider for carriage of telecommunication traffic on its network.

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Subsequently, consultations with the stakeholders as well

as the TRAI consultation paper 2001/5 dated 14 December

2001 led to regulation for interconnection charges and

revenue sharing for WLL (LM). These were as per the fixed

service licences. TRAI felt that given the changed marketconditions (introduction of greater competition in cellular,

introduction of players offering WLL (LM), and competition

in the NLD and ILD segments) in the interim, the tariffs

for other categories needed to be reviewed. By this time the

long-distance tariffs had fallen considerably (and in excess

of those stipulated in the TTO 99), due to the introduction

of competition. Annexe 10.2 gives the existing NLD calls

as well as those specified in the TTO 99.

Events in 2002 and 2003

The third phase of rebalancing consisted of 2 parts. Thesewere implemented through TTO dated 14 March 2002 and

TTO dated 24 January 2003, respectively. In the TTO

dated 24 March 2002, TRAI decided to club the categories

of general and low user into a single category of non-

commercial user subscriber. Since a tariff review was under

way, TRAI decided to implement the tariffs as per the earlier

order and only for the commercial user subscriber. The

service providers were required to identify the commercial

user subscriber and implement the tariff package accordingly.

The free calls were reduced to 30 and 45 for the urban and

rural commercial subscribers (Annexe 10.3).

In July 2002, TRAI came out with a framework for aReference Interconnect Offer (RIO). The RIO specified the

framework and the unbundled network elements to be

taken into account while calculating the IUC, that was

applicable in a multi-operator context. The players with

significant market power (players with more than 40 per

cent of the relevant market share) were required to publish

the RIO.

TRAIs consultation paper on Tariffs for Cellular Mobile

Telephone Services dated 8 July 2002 (www.trai.gov.in/

cellular%20cons%20paper-final.htm) related to the changes

in cellular tariffs that had happened because of changes in

the cost structure of the cellular operator due to decreasingcosts and increasing subscriber base. A review of the

competitive trends in basic services was undertaken by TRAI

(http://www.trai.gov.in/consultbasicpaper.htm) in September

2002. This paper laid out the basis of tariff rebalancing and

the possibility of using ADC. It laid out the framework for

estimating cost-based tariff, various means of addressing the

access deficit, and mechanisms to estimate the IUC.

TRAI came up with the TTO 2003 and the accompanying

Telecommunications Interconnections Usage Charges

Regulation. These formed the basis for the third phase of

rebalancing. The regulation covered arrangements amongst

service providers for payment of IUC for telecommunication

services covering basic, including WLL (M), services,

cellular mobile service and long-distance services. The

interconnection charges would continue to be governed by

the Telecommunications Interconnections (Charges and

Revenue Sharing) Regulation 2001, except to the extentthat it was modified by the current regulation.

Access Deficit

Since the first tariff review, while the NLD and ILD tariffs

had been substantially reduced, adequate increments in

rentals and local charges had not taken place. As per TRAI,

this had created an access deficit for the fixed service provider.

This was due to rentals and local call charges continuing

to be below cost.

The tariffs in the TTO 2003 were, as earlier, based on

an affordability criterion and the objective of increasingteledensity. TRAIs studies (http://trai.gov.in/24thamend

ment.htm) indicated that users would not like rentals and

local call charges to be increased. On this consideration,

TRAI did not increase rentals and local call charges. The

access deficit could only be compensated through NLD

and ILD charges. The ADC was to be recovered through

IUC.

Consideration of acceptable rentals based on Consumer

Price Index increments was rejected because the increase

could have implications with respect to the differential of

rentals between fixed and WLL (M) and cellular services.

As per TRAI, the rentals for fixed services were to bedetermined so that changes are not brought about in a

manner which reduces the spread of the basic fixed line

services called Plain Old Telephone Systems (POTS), which

is considered an essential service in a developing country like

ours. (www.trai.gov.in/consultbasicpaper.htm, page 36) The

commercial users were to pay higher rentals, while tariffs

for the non-commercial users was not changed in the interest

of affordability and increasing teledensity. A new rental

category was defined for senior citizens (definition was the

same as for payment of income tax).

The pulse duration for local charge was reduced to 2

minutes from the earlier three minutes. Given thecompetition in the NLD, there was forbearance, subject to

a ceiling of Rs 8.40 per minute for peak time. On the ILD

segment, there was total forbearance.

The IUC included the ADC payable to the fixed service

operators which they must get in order to keep the rentals

as well as local calls affordable (http://www.trai.gov.in/

consul25.htm, page 6, point 1). The IUC determination

was based on the detailed data given by the service providers

based on an assessment of the various cost items

attributable to the network elements involved in the

different stages in setting up of a call in a multi-operator

environment.

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ADC Computation

For Cellular Mobile and Wireless in Local Loop with limited

mobility (WLL-M), the Access Deficit Charge is not

applicable as the rentals and call charges have been left to

market forces and have not been kept below cost by

regulation, as is the case with fixed local telephone service

(POTS) (www.trai.gov.in/consul25.htm, page 8, point 8).

For fixed services, the ADC was assessed by fixing an

affordable level for rental/ local call charges, such as monthly

rentals, local call charges, special concessionary local call

charges in the rural areas, provision of free calls, and other

below cost tariffs that the regulator specified to make the

fixed services affordable to the common man to promote

both Universal Service and Universal Access as per NTP 99

rather than leave these to the market. In order to reach the

final estimates of IUC this Regulation takes into accountthe requirements of Access Deficit Charge arising out of the

Tariff Order being issued (www.trai.gov.in/consul25.htm,

page 8, point 7).

For calculating the IUC, cost data from BSNL and

MTNL, which are the dominant operators providing fixed

and NLD services, was taken. For deriving the capex, TRAI

took the audited figures of BSNL, for the financial year

20012 (Annexe 10.4). The components included data on

depreciation charges during the year, net block, capital

works in progress, current assets, current liability, employees

remuneration and administrative expenses. Information on

the number of DELs at the end of the period was alsoprovided. CAPEX + Depreciation costs and OPEX costshad been converted to cost per line against these heads by

dividing the costs with the DELs as on 31 March 2002. The

derived values were adjusted for costs attributable to

telephone service with the assumption that only 95 per cent

of total revenues are derived from these services (Annexe

10.5).

The overall CAPEX and OPEX were allocated to different

portions of the network by allocating these costs in the same

ratio as was done by the BSNL in its RIO Schedule report

cost data submitted to the TRAI. Thus, based on BSNL

inputs, the aggregate amount of CAPEX + OPEX had beenallocated to network elements based on Mean Capital

Employed for each un-bundled network element as shown

in Annexe 10.6. On this basis, the rentals were calculated

as Rs 424 per month. The average recovery of BSNL on

the rentals was Rs 165175 per month. TRAI suggested

that the access deficit on rentals amounting to Rs 249259

needed to be recovered through ADC. In order to calculate

the total amount to be recovered through the ADC, the free

calls and the 300 below cost metered call units (MCUs)

provided in rural areas were factored in (Annexe 10.7).

The ADC-incorporated local charges were estimated as

Re 1 per minute, while those for long distance were Re 1

per minute plus the cost of long distance carriage. But since

the per minute charges had been fixed at Rs 0.80, Rs 1.00

or Rs 1.20 per two minute duration, the portion of the

access deficit not recovered from the local calls was to be

recovered from the long distance charge.For the rental portion, the capex up to the SDCC, licence

fee (revenue share), and spectrum charge (12 per cent) were

taken. Local charges were taken on the opex for that part

of the segment distributed across the minutes of usage. A

similar principle of relevant costs (based on the work done)

distributed over minutes of usage for computing the long

distance charge was used. In this case licence fee (revenue

share) was taken as 15 per cent. Both origination and

termination charges for fixed line to fixed-line calls were

taken as equal. For the long distance charge, the access deficit

on account of below cost local charge was also added. It was

also decided that the IUC (including the ADC component)would be uniform (independent of the distance slabs) due

to current technologys inability to implement differential

IUCs. With the ADC loaded to the IUC, the new NLD rates

were higher than the then prevailing NLD prices.

The fixed to cellular calls would be chargeable at Rs 1.20

for 90 seconds in metros and Rs 1.20 for 60 seconds in

circles. For cellular services, a mobile termination charge,

based on costs of termination was specified. With this, the

receiving party was not required to pay for the incoming

calls. In effect, this implemented the CPP. The cellular

operator would get Rs 0.30 as mobile termination charge

(MTC). The balance would be retained by the fixed service

provider. For intra circle calls, the charge was Rs 1.20 per

minute and the cellular operator would get Rs 0.40 per

minute for termination.

For cellular to fixed line, the cellular operator would give

Rs 0.50 in metros and Rs 0.60 in circles, respectively. An

additional Rs 0.20 would be paid to transit Level II tax in

circles. These charges were based on the existing subscriber

base, a quarterly annual growth of 25 per cent for January

to March 2003 and an annual growth rate of 70 per cent

over the period April 2003 to March 2004. The opex was

based on data of 25 metro and circle operators based on theannual audited figures reckoned to work out opex as on

31 March 2004. The per minute usage figures of 220 minutes

was expected to go up to 250 minutes (Annexe 10.8).

Unlike the earlier CPP introduction, this time TRAI felt

that the additional costs to be borne by the fixed subscriber

(to pay for the MTC) were not high. The MTC had come

down due to fall in prices of the network elements, increasing

subscriber base and additional revenue from value added

services (VAS). On the plus slide, the TRAI felt, it would

enhance the call completion rates as the called party would

not have an incentive to keep the handset off to avoid

unwanted calls.

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The changes in tariffs were viewed as significant due to

the shorter call duration, reduction in number of free phone

calls (from 75 to 30 for urban), and what was viewed as

differential pricing for BSNL/MTNL subscribers making

calls to cellular/WLL(LM) phones. While earlier, a 3-minutecall from a landline in a metro to cellular subscriber in the

same service area cost Rs 1.20, the same would cost Rs 3.60

and a call to WLL(LM) would cost Rs 2.40.

The Political Fall Out

Due to political pressure and the media coverage of this

issue, the then Minister for Information Technology and

Telecommunications, Arun Shourie, was summoned for a

meeting with the Prime Minister, the Deputy Prime Minister,

the Union finance minister, and the BJP president, M

Venkiah Naidu to discuss the political fallout of the tariff

increase. This led to an announcement of a partial roll backof the tariff increase. The number of free calls for BSNL

subscribers was raised to 50 and 75 for the urban and rural

categories, respectively. The MTNL subscribers would get

60 free calls instead of the 30 announced earlier. The fixed

to cellular calls anywhere in the country would cost Rs 3.60

for 2 minutes.

TRAI also announced it would review its regulation on

the implementation of the IUC and sought comments and

held open house discussions as there were several concerns

regarding the treatment of ADC, its computation, and its

incorporation into the IUC.

THE ISSUES AND AN EVALUATION

We analyse the organizational and policy issues in the context

of this exercise of tariff rebalancing and subsequently focus

on issues relating to the treatment of ADC and IUC.

Independence of TRAI

Despite the TRAI Amendment Ordinance (2000), that gave

it the power to fix interconnectivity terms, TRAI has not

been able to enforce its mandate as is evident from the case

of cellular operators denying interconnections to WLL(LM)operators or BSNLs blocking of calls. By not enforcing the

interconnections, TRAI created space for intervention by

the minister.

Technology Neutrality

While TRAI professes to be technologically neutral, its

perspective that POTS through wireline is best for a country

like India does not reflect neutrality. In another instance,

exemplifying the same perspective (and contradictory to its

stand on ADC), it did not recommend increasing wireline

rentals as they would then compete with cellular and

WLL(LM) rentals, and, therefore, subscribers could prefer

them over fixed line. Creating price differentials through

regulation could create demand for a particular technology

that would not otherwise exist in the market. Such

interventions would be detrimental to the growth of the

sector. Technology choices should be left to the market.

The Extent of Tariff Rebalancing

While TRAI started out with a mandate for bringing about

full tariff rebalancing, its performance in this area has been

poor. The consultation paper on Tariffs for Basic Services

(23 September 2002, page 24) notes in the context of

rebalancing,the objective would be to make the access deficit

zero by raising the rental/local call charges to their cost-based

levels. In the following sections we identify the major issues

that needed to be resolved for achieving the objective.

The Segmentation Framework

The TTO 99 gave the right perspective by segmenting

subscribers as urban and rural and, within these categories,

as low, general, and commercial, and attempted to fix the

rentals accordingly. However, the basis for categorization

that was used for low users (MCUs) was not carried through

for general and commercial categories. In addition, the

rentals for the different categories did not indicate a clear

distinction between the subscriber categories (Annexe 10.1).

For example, a) the rentals for the low and general user in

the rural and urban categories were kept the same in the

first phase (from 1 April 1999 to 31 March 2000), b) the

rentals for the general and commercial categories both in

the rural and urban segments were kept the same during

the third phase (1 April 2001 to 31 March 2002), c) TRAI

clubbed the low and general categories into one category

non commercial, and d) after the first increase in rentals,

TRAI did not plan to increase them for the low user and

commercial categories during the subsequent periods. Thus,

TRAI was unable to leverage the differences in the

requirements for the 3 categories.

Basis for Increasing Rentals

TRAI could have been more aggressive about increases in

rentals, as in the years during the tariff rebalancing, the

Consumer Price Index had been increasing at 10 per cent

per annum. But it based its decision to a general sense of

affordability. While, despite the increase in consumer prices,

it may have been difficult to raise rentals for the low user,

the potential of commercial users to pay higher rentals was

not fully exploited. This was possibly not done as commercial

consumers may have demanded higher rentals to be linked

to better quality services (for example, flexibility in billing,

payments, etc.) which DoT/BSNL may not have been able

to commit to.

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Exploiting Alternative Tariff Packages

Even though TRAI was not very aggressive about the tariff

rebalancing, DoT/BSNL, should have easily foreseen the

emergent competition in NLD and offered alternative tariff

packages to the subscribers much earlier.The consultation

paper on Tariffs for Basic Services (23 September 2002,

page 24) notes that: It is pertinent to mention that while

rebalancing did allow for recalibration of commercial users

rentals, none of the service providers have raised these rentals.

The service providers have thus not rebalanced this element

although they had the opportunity to do so, and have

foregone some much needed resources.....

We estimate the extent of loss in revenues due to not

increasing the rentals. In March 1999, DOT/BSNL had

nearly 16 million DELs in non-metros (about 70 per cent

of them are urban, as per DoT/BSNL annual reports), and5 million lines in metro cities which went up to a total of

31 million lines and 6.8 million, respectively, by 2002. A

one-time conservative increase in the rentals of Rs 100 per

month in the commercial category would have yielded

additional revenues of Rs 1200 crore in 1999 going up to

Rs 2000 crore in 2002. (This assumes that in the urban

areas, 60 per cent lines are in commercial categories). This

calculation does not take into account the possibility of

higher revenues that could be generated by linking higher

rentals to lower per minute call rates, leading to greater

usage.

While operators had the option of alternative tariffpackages since 1999, they had not exercised this option

until May 2003. If the fixed service providers do not leverage

the flexibility (alternative tariff packages), they cannot claim

that they were not allowed to recover access deficit.

Freedom in Bundling Targeted Subsidies

Lower rentals need to be targeted only for those customers

who cannot afford to pay the true cost of service provision.

TRAI based its calculations of lower rentals on a study

which fixed them according to the level of affordability

for different categories. However, the TRAI consultationpaper does not provide a reference to the study and the

underlying assumptions. In contrast, a number of various

other studies have shown that the rural people spend

significant amounts on telecom services. The trade-off for

them is in terms of cost of alternative means of

communications (Jain and Sastry, 1997, 1999).

Categorization of all subscribers who live in rural areas as

qualifying for lower rentals and higher free calls is against

any economic principles. This leads to poor services in rural

areas (as operators are unable to recover costs), further

exacerbating the problem. The rentals should be based on

MCUs and subsidies should be targeted.

Before identifying the specific set of subscribers who

should receive subsidized access, there could be a process of

self-selection. The targeted subscribers for whom affordability

is an issue, could have a cap on usage charges. The total

bill for such customers can be generated with lower rentalsand lower call charges. The problem in such an approach

is that it could lead to a situation where subscribers opt for

multiple phones at lower rentals. This could be addressed

by requiring a proof of residence and having a searchable

database of addresses. In any case, this is the basic information

that is required for billing purposes and is not a huge

additional cost.

The Incorrectness of Data Values Supplied by BSNL

The values used by TRAI from the balance sheet of BSNL

should only be used for creating some possible scenarios andnot as a basis for decision-making. The balance sheet has

several underlying significant assumptions that are not

explicitly considered in the paper. For example, the basis of

arriving at the BSNL valuation at the time of corporatization

and, hence, the value of Gross Block and depreciation was

historic costs. Since BSNL did not have commercial

accounting practices, there were problems with this valuation.

Various other examples of problem areas are provided in

Annexe 10.9. The data problems are likely to remain unless

BSNL adopts commercial accounting practices. Other

examples of discrepancies are:

The Gross Block numbers used to calculate the capex

also reflects the investments made by BSNL for its cellular

services. As per the annual report a capacity of 4 million

cellular lines have been installed, of which 2.4 million lines

have been made operational. These amounts need to be

deducted for calculating the fixed cost per line.

While BSNLs ROR on capital employed is 9.6 per

cent, in calculating the pre-tax percentage for allocation to

capital, it has been taken as 13.78 per centfor a regulated

industry these are far too high2.

The values of net block have been arrived using the

historical cost. These reflect the inefficiencies of the past,

and do not take into account falling prices, at least in some

segment (exchange) centres, for land lines.

Treatment of Access Deficit

Much, therefore, depends on the flexibilities available

in the existing set of tariffs, that is, those relating to the

NLD and ILD sectors for rebalancing. The current paper

would need to factor in the changed competitive conditions

2 Indeed, for service providers, which are trying to take

advantage of network economies, by rapid growth of its network,

strategic pricing would, at that stage, mean low return.

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as well as the feasibility and desirability of using IUC as a

means to address the issue of access deficit. After stating

this, the consultation paper does not discuss the alternatives

for managing the access deficit. It assumes that IUC is the

best mechanism to manage it. There must be deliberationson whether it is indeed so.

USO as a Better Mechanism than IUC to Fund the AD

The IUC mechanism to implement the ADC is not

appropriate. The loading of ADC implies that subscribers

of all networks that interconnect to the BSNL/MTNL

network, in effect, subsidize all the subscribers including the

commercial and urban subscribers of the BSNL/MTNL

network. While the USO mechanism imposes a cap on

subsidy that is based on the revenues, the IUC (loaded with

ADC) is determined on the basis of subsidy that has

already been decided to be provided. The IUC (loaded with

ADC) does not provide any signals regarding the quantum

at which the ADC will be capped.

Inappropriate Unbundling of Costs and Revenues for

Rentals and Free Calls

In calculating the ADC, TRAI unbundled the costs of the

local network and free calls and reviewed them against the

revenue attributable to rentals as opposed to calculating the

total revenue in relation to the total cost.

Economically, there is no reason to presume that an

input that is used to provide a variety of different servicesmust have its cost recovered from a particular charge. Rather,

if one input is used to facilitate a large variety of retail

products, then any evaluation of the deficit or surplus

associated with that input needs to consider the entire

operations of the relevant firm.

From the subscribers perspective, in acquiring a

connection is the trade-off in the various costs (rentals,

local, long distance, international, Internet, cellular) balanced

against the benefits. From the operators perspective, it is

the collective revenue from all services that indicate the

profitability of the specific customer. If providing access to

a customer is profitable when all revenues and costs associatedwith that customer are considered, then there is no

meaningful access deficit for that customer.

But the access deficit has been calculated only with

regard to rentals and free calls ignoring any economic profits

that accrue to the fixed service providers including BSNL

from other telecommunications services. The availability of

other services, such as cellular and Internet over the same

network gives rise to additional calls, the revenue for which

accrues to the access provider as these calls originate at the

subscriber end. For example, the cellular to fixed line and

fixed to cellular calls constitute 70 per cent of the total

cellular calls.

The TRAI consultation paper assesses the ADC by

adjusting the fixed cost per line per year as Rs 5120.46

(Annexe 3.5), which has a pre-tax return of 13.48 per cent

built into it only against the rental of Rs 200 per month

plus the cost of free calls. However, it should also take intoaccount the revenue per line (Rs 7317 per year) after

adjusting for the opex of Rs 2243.34 per DEL per year. (As

per BSNL Annual Report: Total income from services

Rs 242,998,944 thousand, total DELs 332184198, which

gives an income per DEL per year as Rs 7317.) Since the

actual pre-tax return on capital for BSNL is 9.36 per cent,

the actual revenue generated by BSNL more than adequately

covers the capex and opex.

The Benefits to the Incumbent

Any access deficit calculation of revenue shortfall arisingfrom regulatory constraints should be significantly discounted

by a value ascribed to the strategic benefits that BSNL

derives from basic access. Being the incumbent and dominant

provider of all telecommunication services, it has certain

advantages that may balance the costs associated with access.

These are: a) as the provider of basic access, BSNL is

necessarily the preferred supplier of all call services. For

example, users must make a deliberate choice for a

competitive service provider, which may involve operational

shortcomings (for example, use of a conditional access code);

b) BSNL is able to include all services on one bill; c) being

the incumbent and the universal service provider bringsBSNL brand recognition; and d) as an incumbent BSNL

has certain cost benefits of network operations (for example,

early acquisition of sites for exchanges, towers), established

land access (for trenches), etc.

Desegregated Data for Different Service Components

And Accounting Separation

The revenue/DEL used by TRAI includes the long distance

and other revenues. The only way to arrive at desegregated

costs and revenues of the various segments is probably

through accounting separation of BSNL/MTNL into BSNLCellular, BSNL Long Distance, and BSNL Access. These

units would have to then offer their products and services

at non-discriminatory prices to any external party vis--vis

the various BSNL units. In such a scenario, if indeed BSNL

access has a deficit, then there could be a case for IUC (with

ADC).

Performance-Based ADC

While BSNL has justified its high long-distance charges due

to the social obligations of having to meet rural demand,

the recent (C&AG) report has identified that nearly 45 per

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cent of the village phones do not work. Similar results have

been reported in other studies (Jain and Sastry 1997, 1999).

Thus, BSNL has not only foregone revenues from call

origination but also from those phones in other parts of the

network wishing to contact the people in villages if thephone had been working.

During the monopolistic regime of DoT/BSNL, the

spread of the rural network had been poor. Even today, only

25 per cent of its DELs are in the rural areas. This implies

that without explicit performance criteria, it would be

difficult to ensure adequate rural coverage. The ADC recovery

through IUC does not provide for such a mechanism. The

quantum of deficit is first arrived at and then built into the

IUC. Even if the ADC-based IUC is to be implemented,

the ADC calculations should vary over the implementation

period, and provide for giving incentives to the compensated

firms to bring down the capex and opex values. For example,TRAI should specify the percentage points by which the

capex and opex values used in estimating ADC would come

down over a specified period. The TTO 2003 and the

accompanying regulation should also specify the time when

the next review would be undertaken.

The USO consultation paper has provided a framework

for assessing the access deficit (Annexe 10.10). Thus, the

only significant issue to be examined is whether the quantum

provided in the USO consultation paper is adequate, and

if not, best to increase it. It could be through an increase

in the percentage revenue of licence fee towards the USO

(say from 5 per cent to 7 per cent). Since the increment

is envisaged to come out of the existing licence fee, no

additional administrative changes need to be worked out to

manage a larger corpus.

Incorporating the Future Trends: Fixed Line and

Wireless Networks

The growth in wireless is expected to be extremely fast,

especially in the next 510 years. For example, during

20027, only 18 per cent of BSNLs future additions are

going to be in the fixed line category. The remaining 82 per

cent would be in the cellular and WLL categories3. Thefixed line that currently constitutes 95 per cent of BSNL

business will constitute only 60 per cent of its business by

2007.

The growing size of cellular networks (both the subscriber

base and minutes of usage) would ensure that revenues

contributed by the cellular subscriber would be verysignificant. An increasing number would come from the

non-urban areas. However, the ADC is based on fixed

networks. If using fixed networks becomes more expensive,

(because of the addition of ADC component of IUC), this

would cause a further migration to cellular networks

(especially as, by then, cellular networks would have reached

significant proportions of the total network size).

CONCLUSIONS

This chapter raises issues about the role of TRAI in the

context of facilitating competition through tariff rebalancing

and interconnections. While TRAI began the tariff

rebalancing exercise with the objective of completing the

same within 3 years, the target was ambitious to begin with.

Subsequently, it was not able to maintain the pace. A more

realistic timeframe would have led to a greater certainty and

credibility. TRAI lost significance of its role when it was not

able to enforce interconnections. Its perspective on assessment

of the ADC reflects the DoT/BSNL viewpoint rather than

an unbiased approach. The manner in which TRAIs

consultation papers on tariff regulation have segmented the

customer reflect a lack of technical expertise. TRAI wouldneed to ensure that its decisions reflect technology neutrality.

Otherwise the sector could see distorted growth due to

regulatory interventions. For this to happen, a change in the

mind-set of those responsible for making such decisions is

critical.

3 As per a news item in Economic Times, New Delhi: The

public sector telecom companies Bharat Sanchar Nigam Ltd and

Mahanagar Telephone Nigam Ltd would add about 3.95 crore

telephones by 2007. In the current 5-year plan (20027), BSNL

would add 81.70 lakh landline phones, 2.18 crore mobile phones

and 68 lakh Wireless in Local Loop (WLL) phones, meaning

thereby that the number of mobile phones added by BSNL would

far exceed fixed phones and WLL phone additions. The financial

outlay for BSNL has been earmarked at Rs 66,412 crore, an

official release said here. Another state-owned corporation MTNL

would add 16 lakh landline and WLL telephones and 11.57 lakh

mobile phones during the plan period. The private sector is

expected to add 2.55 crore Direct Exchange Lines (DELs) during

the period, it added.

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Annexe 10.2

STD Call Charge for Fixed to Fixed Calls (Call duration of 1 minute and pulse charge Rs 1.20 per metered call)

Distance category Peak tariff envisaged at Prevailing rate at present Percentage reduction

end of tariff rebalancing under

TTO 1999 (1 April 2002)

Intra Circle Inter Circle Intra Circle Inter Circle

Up to 50 km 1.2 1.2 1.2 Nil Nil

51200 km 4.8 2.4 2.4 50 50

201500 km 10.8 2.4 4.8 78 56

5011000 km 16.8 2.4 4.8 86 72

> 1000 km 21.6 2.4 4.8 89 78

Source: TRAI, Consultation Paper on IUC issues, 15 May 2003, page 39.

Annexe 10.3

Monthly Rentals for Rural and Urban Subscribers (Rs)

Exchange Rural Urban

System Capacity Type of User Type of User

Number of Lines Non-Commercial Commercial Non-Commercial Commercial

Up to 999 70 120

1000 to 29,999 120 160 120 160

30,000 to 99,999 180 220 180 220

1 lakh and above 250 310 250 310

Source: TRAI, The Telecommunication Tariff Order, 14 March 2002.

Annexe 10.1

Monthly Rentals for Different Subscriber Categories (TTO 1999) (Rs)

Urban Subscribers

Exchange From 1 April 1999 to From 1 April 2000 to From 1 April 2001 to

System Capacity 31 March 2000 31 March 2001 31 March 2002

Number of Lines Type of User Type of User Type of User

Low General Commercial Low General Commercial Low General Commercial

1000 to 29,999 120 120 160 120 140 160 120 160 160

30,000 to 99,999 180 180 220 180 200 220 180 220 220

1 lakh and above 250 250 310 250 280 310 250 310 310

Rural Subscribers

Up to 999 70 70 120 70 95 120 70 120 120

1000 to 29,999 120 120 160 120 140 160 120 160 160

30,000 to 99,999 180 180 220 180 200 220 180 220 220

1 lakh and above 250 250 310 250 280 310 250 310 310

Source: TRAI, The Telecommunication Tariff Order 1999, pages 912.

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Annexe 10.5

Calculations of CAPEX, Depreciation and OPEX Components per DEL based BSNL Cost Data for Year 20012

Total Number of DELs as on 31.3.2002 (in crore) 3.32

As per BSNL audited figures on 31.3.2002 (Rs in crore)

Depreciation charged during the year 8746.13

Depreciation per line in Rs 2632.91

Net Block 58,922.21

Capital Works in progress 10,826.24

Current assets 17,083.4

Current liability 20,369.55

Amount to be considered for multiplication by pre-tax weighted allocation of capital 66,462.3

Pre-tax weighted allocation of capital percentage 13.78

CAPEX Component 9158.5

CAPEX Component per line in Rs 2757.05

CAPEX + Depreciation per line in Rs 5389.96CAPEX + Depreciation per line in Rs attributable to telephone services (95 per cent) 5120.46OPEX

Employees Remuneration 3848.45

Administration 3995.79

Total OPEX 7844.24

OPEX per line in Rs 2361

OPEX per line in Rs attributable to telephone services (95 per cent) 2243.34

Source: TRAI, The Telecommunication IUC, 24 January 2003, page 30.

Annexe 10.4

Profit and Loss Account for the year ended 31st March 2002 (Rs 000s)

Year ended 31 March 02 Year ended 31 March 01

Income from Services 242,998,944 115,966,611

Other income 26,817,995 1,028,156

Total 269,816,939 116,994,767

Expenditure

Employees Remuneration and Benefits 38,484,520 20,700,739

Licence fee and spectrum fee (Ref. note 13, 14 on schedule U) 34,031,191 15,732,466

Administrative, Operating and other expenses 39,957,915 28,937,314

Financial expenses 4,682,106 2,742,899

Depreciation 87,461,309 38,580,811

Total 204,617,041 106,694,229

Profit before prior period adjustment and taxation 65,199,898 10,300,538

Prior period adjustments 3,321,938 -

Profit before taxation 68,521,836 10,300,538

Provision for taxation 5,400,141 2,830,000

Profit after taxation 63,121,695 7,470,538Appropriation:

Bonds Redemption Reserve 5,719,018 3,717,746

Surplus carried to balance sheet 57,402,677 3,752,792

Earnings per share 63,121,695 7,470,538

Basic/Diluted earnings per share (Rs) 12.62 1.49

Refer note 20 on Schedule U

Source: Annual Report 20012, BSNL.

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Annexe 10.7

Access Deficit Estimation

No. of fixed subscribers 40 million

Average cost-based rental Rs 425 per month

Average rental actually charged Rs 200

Deficit per fixed phone per month Rs 225

Annual deficit (per fixed line) Rs 225 12 = Rs 2700

Annual deficit on account of rentals for 40 million fixed subscribers Rs 10,800 crore

Average number of free calls 30 per subscribers per month Rs 1440 crore

Deficit on this account

Deficit on account of below cost calls between 0 to 50 km (706 calls per subscribers per year)

Per call deficit 25 paise per call Rs 750 crore

Total annual access deficit estimate Rs 13,000 crore

Source: TRAI, Consultation Paper on IUC issues, 15 May 2003, page 40.

Annexe 10.8

Illustrative IUC Charges and Prevailing Tariff for Different Type of Calls

>500 km 200500 km 50200 km 050 km

Inter Circle Intra Circle Inter Circle Intra Circle Inter Circle Intra Circle Inter Circle Intra Circle

F-F 5.1 5.1 4.75 4.75 4.45 2.45 0.5 0.7

F-W 3.6 3.6 3.25 3.25 2.95 1.95 0.85 0.95

F-C 3.5 1.2 3.15 1.2 2.85 1.2 0.75 1.2

W-F 3.6 3.5 3.25 3.15 2.95 1.85 0.85 0.85

W-W 2.1 2.0 1.75 1.65 1.45 1.35 1.2 1.1

W-C 2.0 1.0 1.65 1.0 1.35 1.0 1.1 1.0

C-F 3.5 1.2 3.15 1.2 2.85 1.2 0.75 1.2

C-W 2.1 1.0 1.65 1.0 1.35 1.0 1.1 1

C-C 1.9 0.8 1.55 0.8 1.25 0.8 1.0 0.8

Notes: F Fixed; W WLL(LM); C Cellular.

Source: TRAI, Consultation Paper on IUC issues, 15 May 2003, pages 434.

Annexe 10.6

Apportionment of CAPEX + Depreciation and OPEX to Different Network Elements Based on Audited accounts of BSNL for theYear 20012 based on the Mean Capital Employed by BSNL as given in Schedule 5 of RIO by BSNL

Network Element (NE) Share of Mean Capital Annual CAPEX + Depreciation Annual OPEX as

Employed per line as apport ioned for Network apport ioned for(in per cent) Element excluding licence and Network Element

spectrum fee

Access Loop 54.78 2805 1229

Local Exchange 20.38 1044 457

SDCC Tandem 1.27 65 29

Intra-LDCA (Level II Tax) 1.25 64 28

Inter-LDCC Intra-circle + Inter Circle (Level 1) 1.25 64 28LE-SDCC Transmission System 3.26 167 73

LE-SDCC Transmission Length (Avg. 10 km) 7.74 397 174

SDCC-LDCC Tax Trans. 0.66 34 15

SDCC-LDCC Tax Transmission Length (Avg. 40 km) 3.85 197 86

Inter-TAX Transmission Length (Intra-Circle) [SDH Rings] 0.31 16 7

Inter-TAX Transmission Length (Inter-Circle) 1.64 84 37Inter-TAX Transmission SDH-16 System (Inter-Circle) 0.33 17 7

Inter-TAX Transmission Length (Inter-circle) [SDH Rings] 3.27 167 73

Total 100.00 5120 2243

Source: TRAI, The Telecommunication IUC, 24 January 2003, page 31.

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Annexe 10.9

Examples of Problems with the BSNL Annual Report Data

As per the auditors report The accounting policies regarding depreciation of fixed assets are not uniformly applied across all the

circles.

The depreciation has been provided on fixed assets taken over from DoT as of 1 October 2000 on written down value method atrates as per the Companies Act, as if it were its original assets and has not calculated the rates for the remaining useful life of the asset

(page 48, BSNL, Annual Report, 20012). As per the auditors report, there are several places where it is mentioned that appropriate

commercial policies have not been followed in computing the depreciation. This has implications for the value used in calculating the cost

per line based on depreciation for the year (TRAI Consultation Paper 24 January 2003, Table 1, page 30).

The overheads (Establishment Expenses) are allocated as a percentage of capital expenditure at percentages prescribed by DoT and

not on the basis of directly allocable costs (page 50, Annual Report, BSNL 20012).

At several places the auditors have indicated that accounting practices recommended by the Institute of Chartered Accountants is

not being followed and amounts under several heads of account are unascertainable.

The fixed assets have not been revalued during the year.

It is not clear who (DoT, BSNL) will bear the incremental pension liabilities due to the pay increases on 1 October 2000.

Annexe 10.10

Relevant Excerpts from the USO Consultation Paper

In its consultation paper on USO, TRAI had suggested an imposition of a Universal Service levy that included both access, which means

public access through public or community telephone and provision of individual household telephones. Since the levy would support

both these activities, it has been called TRAI Universal Service Levy (USL)..

The Authority has recommended that implementation of USO should be divided in two clearly identifiable streams: First, for provision

of public telecom and information services and, second, for provision of household phones in net high cost rural/remote areas.

The Authority has recommended that support from Universal Service Fund (USF) be provided for Net Cost (that is, Cost minus

Revenue) of providing VPTs/PTICs and DELs in rural/remote SDCAs. Details on the relevant costs are in the main recommendations.

These include, for instance, no capital recovery for VPTs or phones installed before April 2002. For them, only operating expenses should

be taken into account for estimating net cost. However, both capital recovery and operating expenses should be taken into account for

VPTs, PTICs and phones installed after April 2002. Also, in a multi-operator environment, the lowest Net Cost computed by the proxy

model for the least cost operator in an SDCA, should be used as the basis to compute USF support available to all operators.

This figure that is, 5 per cent of the revenue of all the telecom operators, appears to be adequate to support Universal Service programmein its first phase of VPTs/PTICs as well as DELs in rural/remote areas. The amount of USL that is, 5 per cent of revenues, should come

out of the licence fee itself and should not be an additional levy. Hence, the licence fee realized may be bifurcated into two parts. The

designated portion of the Universal Service Levy may go the Universal Service fund and the balance to be Consolidated Fund of the

Government of India. In subsequent years, the Universal Service Administrator may revise this figure depending upon the requirement.

Jain, Rekha and Trilochan Sastry (1999) Assessment of Socio-

economic Impact of Rural Telecom Services: Implications for

Policy, Workshop on Telecom Policy Initiatives: The Road

Ahead.

Jain, Rekha and Trilochan Sastry (1997) Rural Telecommunication

Services, Workshop on Telecom Policy Research.

REFERENCES

Sinha, Sidharth (2001) Regulation of Tariffs and Interconnection:

Case Studies, India Infrastructure Report 2001, Oxford

University Press, New Delhi, India.

Jain, Rekha and Dheeraj Sanghi (2002) Untangling Wireless in

Local Loops, in 3iNetwork (2002), India Infrastructure Report:

Governance Issues for Commercial, Oxford University Press,

New Delhi.

Documents

Chap 10 2003