Putting Digicel-Claro merger into perspective

There has been renewed concern about the Digicel-Claro merger since the Office of Utilities Regulation (OUR) reported that the previous administration had removed the condition that the Digicel and Claro networks be operated separately. I wish to bring some perspective to this discussion.

Claro's entry into the Jamaican market was based on regional competition in which they employed a counteroffensive attack in response to Digicel's entry into their markets in Honduras and El Salvador. An effective counter-attack is to invade the attackers' main territory (Claro's entry into the Jamaican market) so that it will have to pull back some troops or resources to defend the territory.

The approach by Claro was classic counteroffensive. It invaded Digicel's market by acquiring MiPhone and had a promotional blitz which was so attacking that it felt like a campaign for a general election. Claro also cut prices for calls to $10 and improved its product offering with the roll-out of 3G.

Claro's advertising blitz was so ubiquitous that Digicel staff would not want to turn on their radios at work for fear of hearing 'Clarorific is so swaggerific'. Claro's stated aim was to become the market leader by 2012, an impossible task based on the nature of the local telecommunications market. Claro had no intention of remaining in the Jamaican market. Its objective was to remove Digicel from its sphere of influence, and this it achieved.

The business model for mobile carriers is evolving. Most cellular providers have acted as a conduit for voice and data. This model is simple and profitable, but it severely limits growth. Companies like Apple, Facebook and Google are offering ways to make free phone and video calls over the Internet.

Industry analysts posit that the ultimate risk for mobile carriers is becoming 'dumb pipes' providing only the data connections and not selling any more sophisticated communications services. One article succulently explains that the focus is shifting from things the provider has controlled to a focus on the phones and the software they are running and the user experience that software provides. This is compounded by trends that indicate the sale of basic phones are declining or remaining flat and smartphone sales are increasingly rapidly. Carriers are trying to figure out how to increase revenues from cell data especially with declining revenues from voice.

In response to these trends, Digicel and many other service providers have decided, as Gartner (an information technology research and advisory firm) explains, to use its network backbone to expand its service offerings to include managed and hosted services and professional services to companies. Digicel offers cloud computing, including cloud backup and cloud telephony, IT-managed services and business convergence solutions.

Digicel has also consolidated its position in Jamaica by acquiring Claro, which will not give them a huge increase in its customer base because most Claro customers may also have Digicel phones. The acquisition, however, gets rid of a formidable competitor in superpower entrepreneur and owner of Claro, Carlos Slim, ranked number one on the Forbes rich list with a net worth of US$74 billion.

Next-generation 4G

Claro's departure also gives Digicel the necessary scale to maintain profitability and to invest in next-generation 4G mobile infrastructure. Digicel has already announced that it will roll out the 4G next-generation High Speed Packet Access (HSPA) later this year. Digicel will, therefore, have two '4G' technologies operating simultaneously, HSPA for mobile and Wi-Max for data services.

The move to roll out HSPA may have been precipitated by the former prime minister's removal of an onerous requirement of the Claro acquisition, the maintenance of separate networks. This requirement was never a solution but more of a tactic to buy time to make amendments to the regulations.

Digicel executives are shrewd business people. And they may have exerted pressure or made a compelling case, legal, commercial or otherwise, to convince the then prime minister to scratch the offending clause before last December's election.

The regulatory agencies, particularly the Office of Utilities Regulation (OUR), the national agency responsible for advising the Government on, inter alia, telecommunications issues, was never consulted, nor was aware until Claro customers started to complain of inadequate service. This deal within a deal was a Machiavellian move at best.

Without this deal, LIME was suffering under the weight of the structure of the market, which allows Digicel a monopoly position, and its own ineptitude. LIME has, without success, tried to use litigation to block the deal and has given vibrant support to the Fair Trading Commission to reverse it. As a tactical, though risky ploy, it would not have been far-fetched for LIME to have floated the idea that it may be shutting down operations in Jamaica. This would put pressure on the new minister to intervene post-haste.

All indications are that LIME is desperate: It lost $1.3 billion for the first quarter of 2011-12, and there is nothing to suggest that it will not continue to haemorrhage. Despite its dire position, neither the telecommunications industry nor the economy can afford for LIME to close down. However, if the current market structure remains the same, it may have no choice but to close or sell.

According to Graeme Samuels, in a perfectly competitive market the need for regulation would be inconsequential; competition itself would do the work of the regulator. Perfect competition is all theoretical. The Government and, by extension, the regulator's role must be to promote the long-term interest of the consumer by promoting competition, interconnectivity, and the efficient use of and investment in telecommunications infrastructure.

The current Jamaican market structure, despite what Digicel says, does not promote the consumer's interest. I want to discuss two of the many remedies that have been proposed - termination rates and market size.

One of the remedies that is being proposed to stimulate competition, and one that I have supported, is for the OUR to regulate termination rates. Regulatory agencies in other jurisdictions have done this to stimulate competition.

Based on a 2006 research by Market Research Services (this is the most recent data found), Digicel account portfolio is skewed towards individual account holders (77 per cent), while LIME is skewed towards organisations (57 per cent). Seventy-six per cent of individuals reported using Digicel only, while only 11 per cent used LIME only. In the absence of price differentiation between both competitors, it is conceivable that LIME may lose additional market share to Digicel, especially in the individual-customer segment.

Duopoly trend

An examination of several other markets appears to indicate a duopoly trend: Japan's two largest telecommunication providers, NTT DoCoMo and au Japan, control 77 per cent of the market. In the European Union wireless market, on average, the two leading providers control approximately 70 per cent of the market.

In the region, Barbados and Trinidad both have duopolies with an approximate equal split between Digicel and C&W in the former, and Digicel and TSTT in the latter.

Post-acquisition, Digicel will now have approximately 80 per cent market share. We could poke some fun and argue that Digicel was a duopoly it was briefly forced to maintain separate networks, but in fact it was a near-monopoly.

In the Jamaican cellular market, we, therefore, have a boomerang effect, progressing from a pre-1999 monopoly, to vibrant competition from 2000 onwards and near-monopoly again in 2011-12. Every company would like to be a monopoly, and monopolies, if left unchecked, will abuse their power, regardless of name, Digicel or LIME.

Based on Jamaica's market structure and general consolidation in the international market to leverage scale and provide a range of services beyond voice, it is highly unlikely that a third player will enter the Jamaican market. If the regulators were to somehow make the Jamaican market similar to US market, where there is very little differentiation among providers, coverage, network speed, and where pricing is all similar, how effective a competitor would LIME be?

Paul Golding is associate professor, dean of the College of Business and Management, University of Technology, Jamaica. Email feedback to columns@gleanerjm.com and pgolding@utech.edu.jm.