TELECOM UPDATE: GRP ENCOURAGES INTERNET TELEPHONY

UNCLAS SECTION 01 OF 03 MANILA 005983

SIPDIS

STATE FOR EB/IFD/OIA; EAP/MTS
STATE PASS USTR FOR BWEISEL AND DKATZ
STATE PASS USAID
TREASURY FOR OASIA FOR AJEWELL
USDOC FOR 4430/ITA/MAC/DBISBEE

E.O. 12958: N/A
TAGS: ECPS EINV ETRD ECIN RP APEC
SUBJECT: TELECOM UPDATE: GRP ENCOURAGES INTERNET TELEPHONY

REF: MANILA 2282

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SUMMARY
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1. The National Telecommunications Commission (NTC) issued
recent rulings lowering entry barriers to encourage the
development of Voice Over Internet Protocol (VoIP) services.
The decisions should reduce international rates but will
have less impact on lucrative cellular services, which have
eclipsed fixed line services to drive industry growth.
Incumbent telecom firms have reacted by threatening
lawsuits, aggressively marketing broadband and sharply
lowering international rates for broadband subscribers.
Analysts expect incumbents to demand high interconnection
fees in order to limit competition from VoIP service
providers, particularly in the termination of incoming
international calls. The NTC plans to implement a stronger
competition policy to limit anti-competitive behavior by
dominant firms. USAID has assisted the NTC in drafting the
VoIP rulings and continues to support its enhanced
regulatory role. End Summary.

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BOOMING CELLULAR MARKET
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2. The telecommunications sector has grown sharply since
2000, primarily through rapid expansion of mobile phone
services. Cellular subscribers increased from 6.4 million
in 2000 to 32.9 million in 2004 with two main operators,
Smart and Globe, accounting for 14.6 million and 12.5
million subscribers, respectively. Roughly half of wireless
revenues come from text messaging, immensely popular in the
Philippines due to its low cost. Optel telecommunications
analyst Gary Anonuevo estimated that 99% of cellular
revenues come from pre-paid cell phone users who spend an
average of 350 pesos ($6.50) per month for prepaid cards.


3. As cellular services have become more convenient and
affordable, the relative importance of fixed line services
has declined. As of 2004, there were 6.5 million fixed
phone lines, including 2.9 million with the dominant
carrier, the Philippine Long Distance Telephone Company
(PLDT),which owns Smart. PLDT/Smart reported that its
fixed line division provided 39% of revenues but only 6% of
profits in 2004 after losing money in 2003. According to
the NTC, the four dominant carriers reported 42% average
annual growth in wireless revenues from 2000-2004 compared
with 1.3% average annual growth in fixed line revenues over
the same period.


4. VoIP services are already available to broadband users,
but Internet penetration remains limited to less than 2% of
the population. The NTC estimates that Internet
subscriptions rose from 350,000 in 1999 to 1,200,000 in

2004.

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VOIP CLASSIFIED AS A "VALUE ADDED SERVICE"
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5. NTC's recent decision to classify VoIP as a "value-added
service" (VAS) allows companies to offer VoIP services
without going through the long and arduous process of
obtaining a congressional franchise. The ruling removes
uncertainty over the status of VoIP services that were not
foreseen and categorized by the 1995 Public
Telecommunications Policy Act (RA 7925). This law limits
the provision of traditional telephone services to "Public
Telecommunications Entities" (PTEs) holding a congressional
franchise, but exempts VAS providers from the franchise
requirement.


6. NTC registration guidelines established additional
requirements for VoIP service providers, notably a 5 million
peso performance bond, a 10 million peso minimum capital
requirement and, most importantly, a valid interconnection
agreement. NTC Common Carrier Department Director Edgardo
Cabarios explained that RA 7925 has no provisions to
penalize telecommunication service providers, so the bond is
intended to protect consumers from "fly-by-night" companies.
He underscored the need for NTC to balance its role in
protecting consumers with its interest in ensuring market
access and competition.

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DOMINANT FIRMS REACT
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7. Several incumbent PTEs vowed to challenge the NTC
rulings in court, arguing that VoIP service providers will
have lower overhead costs and can charge lower rates than
existing companies that invested heavily in fixed and
wireless networks. Several telecom analysts doubted the
legal merits of these lawsuits but portrayed them as
delaying tactics. ATT Managing Director Romulo Carlos
suggested the incumbents may use legal threats to pressure
the NTC into accommodating their interests on the important
issue of interconnection rates. As of December 14, Cabarios
reported that the NTC had not been formally notified of any
legal challenges to its decisions. If the lawsuits do gain
traction, two proposed bills (House Bill 3476 and House Bill
3644) would strengthen the NTC's authority to define and
regulate VoIP services.


8. Dominant PTEs are most concerned about the threat VoIP
services pose to their profitable international direct
dialing (IDD) services. According to Optel analysts, U.S.
firms have offered termination rates of approximately 1.5
cents per minute for several years, but Philippine firms
have maintained outgoing rates of 40 cents per minute (for a
profit margin exceeding 90%) until the VoIP decision.
Termination fees are particularly important since the volume
of incoming calls is ten times the volume of outgoing calls
and termination fees for VoIP-mediated calls are easier to
control than interconnection fees for outgoing calls.
Collusion to raise termination rates led to a dispute with
US carriers in 2003, reported in reftel.


9. Incumbents have reacted to this threat by stepping up
their marketing of broadband services and sharply reducing
international rates for broadband subscribers. For example,
PLDT announced a new International Direct Dialing (IDD)
service available to DSL subscribers at 10 cents per minute,
75% lower than its usual international rate. Globe
countered with a similar service offering rates as low as 5
cent per minute. Globe also reduced standard rates from 40
cents to 10 cents/min for regular outbound calls. Former
PLDT/Smart Financial Advisor Peter Lawrence explained that
PLDT plans to promote VoIP services while increasing
broadband subscriptions to compensate for the expected
decline in fixed line revenues. Globe Telecom, the
country's second landline/cellular provider recently
purchased U.S. VoIP technology to expand their broadband
service offering and broaden their revenue base.


10. Lower international rates for VoIP services should
provide substantial benefits to U.S. consumers and U.S.
firms. The Philippines is the third-largest destination for
outgoing international calls from the U.S. and the estimated
four million Philippines-born Americans stand to gain from
lower international rates of VoIP service providers. The
VoIP ruling has attracted U.S. firms interested in joint
ventures with local VoIP providers to offer pre-paid cards.

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INCUMBENTS MAY SET INTERCONNECTION RATES
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11. Industry analysts expect incumbent PTEs to impose high
interconnection rates to delay the spread of VoIP services.
Lawrence noted that interconnection rates should account for
the higher level of investment by incumbent PTEs in fixed
and cellular networks. Observers point out that PLDT/Smart
can pressure other firms to maintain high interconnection
rates by threatening to raise connection fees and limit
access to its network.


12. The VoIP guidelines allow the NTC to intervene to
impose interconnection agreements if VoIP providers and
incumbent PTEs cannot agree on rates. Neither Carlos nor
Optel analysts believe that the NTC will be aggressive in
forcing incumbents to lower rates. Cabarios acknowledged
the danger of collusion among PTEs to limit connectivity for
VoIP service providers but he underscored the NTC's aim to
allow market forces to determine rates. He pointed to NTC
moves to increase broadband frequencies in order to further
promote competition for interconnection rates.


13. The NTC signaled its willingness to regulate
interconnection rates when it issued a "Consultative
Document on the Development of a Competition Policy
Framework" for the ICT sector. The NTC estimates that two
main fixed line carriers account for three quarters of this
market while two main cellular carriers control 96% of the
wireless market. It criticized the "unregulated price-
squeezing behavior of dominant licensees" and expressed
concern that dominant firms could use similar strategies to
impede the spread of VoIP services. The NTC has proposed to
impose "Significant Market Power" obligations on dominant
firms, establish unbundling requirements, allow the resale
of services and enhance NTC's role in ensuring reasonable
interconnection rates.

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COMMENT
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14. The NTC's progressive stance should encourage
competition and lower international rates, but incumbent
firms are likely to use their control of local connectivity
to delay the spread of VoIP services. The NTC can further
ensure the spread of VoIP services by pursuing the more
active regulatory role outlined in its draft competition
policy. Although VoIP services should reduce traditional
fixed line revenues for dominant firms, they will have less
impact on cellular services where profits and growth are
highest. USAID continues to support the NTC as it consults
with stakeholders to strengthen its regulatory role.


15. The VoIP ruling, explanatory memo and guidelines are
posted on the NTC website at: www.ntc.gov.ph.

JONES