3G in HK

A fascinating debate is going on in HK about how the Government should dispose of the radio spectrum needed to launch third generation (3G) mobile services. Two arms of the Li family, PCCW and Hutchison, appear on opposite sides of the spectrum debate. Auctioning the licenses could wipe out the budget deficit for several years, without introducing sales taxes or selling off the MTRC - Webb-site.com examines the issues.

3G in HK
9th June 2000

A fascinating debate is going on in Hong Kong about how the Government should dispose of the 60MHz of radio spectrum needed to launch third generation (3G) mobile services. The two main alternatives are a beauty parade (a merit-based approach, perhaps with scoring on a number of parameters) or a financial auction.

The auction approach has been given added weight by the UK's recent auction which raised GBP22.5bn (US$34bn). That's around US$600 per head of population. On the same basis, HK's spectrum would be worth US$4.2bn (HK$33bn), and possibly more than that, because the tight vertical geography of HK will make the networks considerably cheaper to build out than the UK's land mass, which is 240 times greater than HK. In addition, the operators will face lower tax rates in HK than UK. So estimates of auction proceeds range up to US$6bn (HK$47bn) if a real bidding war were to take place.

Perhaps the only damper on that would be the usual problem that HK has with land auctions of large sites, namely that there are only a few firms in HK with access to that kind of capital, and foreign operators might find the HK market too small and too difficult a market to participate, particularly if they are involved in expensive auctions in their home territories.

On the other hand, establishing a presence in HK could be a springboard to Greater China when WTO allows it. The likes of Deutsche Telekom and AT&T may prefer a practice run in HK to establish their credentials and experience to win future licenses in the mainland.

There are 6 existing operators of existing 2G services - Hutchison (GSM, PCS and CDMA), HKT (GSM and D-Amps), SmarTone (GSM and PCS), Sunday (PCS), People's Telephone (PCS) and New World Mobility (PCS). Not surprisingly, most existing operators prefer the "beauty parade" approach where licenses are awarded on merit (or beauty in the eye of the beholder). The Government is also deciding whether to grant 4 or 6 licenses - depending on how much spectrum (15MHz or 10MHz) is needed to deliver the service.

Hutchison has over 1.4m subscribers while HKT had 958,000 at 31-Mar-00. The combined interests of the Li family (assuming the takeover of HKT proceeds) will therefore add up to around 2.36m subscribers after the takeover. Figures from OFTA show that at the end of March, Hong Kong had 3.97m mobile subscribers. That gives the two Li companies a combined market share of 59%. There are no general monopoly or anti-trust laws in Hong Kong. Incidentally, of all the directly connected fixed lines in HK, over 96% are controlled by HKT (including over 93% of business lines and over 99% of residential lines).

Consequently, it might look rather bad if both arms of the Li family were awarded 3G licenses on merit. What's the merit for the public in perpetuating that kind of market share? But on merit, could HKT really beat Hutchison?

From the six operators' point of view, it is doubtful whether they will be viable 5 years from now without a 3G license. So those who do not win a license will end up merging with those who do, to retain and exploit their customer base.

Hutchison and its controller, Li Ka Shing, know this and have come out in favour of the auction process, which they have just been through in the UK. This is probably a calculated bet - they will always be able to claim that they were willing to pay for spectrum, even if the HK Government (which has never been an enemy of the family) decides to proceed with a beauty parade and grant them (and HKT) a licence each on merit.

By contrast to Hutchison, PCCW and HKT, which will be geared up the armpits in debt after the merger, favour a merit-based approach. Their bankers might not take kindly to the idea of another mega-loan (US$1.5bn anyone?) to bid for radio spectrum. Even without an auction, the group will need to spend heavily to build the 3G network. Telstra, which will own 40% of the mobile operations if it proceeds with a proposed joint venture with HKT, must be worrying about exactly that problem - presumably the cap would be passed down to Australia for a contribution. The only way out is to raise more equity. Australian bankers and credit-raters take note. Expect an early flotation of the HKT cellphone business, markets permitting.

From a fiscal point of view, the Government should go with an auction. How can you justify raising taxes, or introducing a sales tax (which can be very costly to collect) when you have just passed up the opportunity of enough easy money, collected in one swoop, to wipe out the deficit for several years?

Some argue that consumers would suffer higher prices or poorer service if operators have to bid for spectrum, but the counter-argument is that operators will compete on service and price and will only bid what they expect to recover from charges that the market will bear.

Anyone who bids too much will eventually go bust, but their assets (incuding the licensed spectrum) would be taken over and operated by a new party. As an example, the Eurotunnel linking England and France was financially restructured twice before it even carried a passenger. Such restructuring is unlikely to harm the consumer so long as there is a competition between operators (and no price-fixing). The financial challenges of some of the existing cellular operators in HK (you know who we mean) has not stopped cut-throat competition in the sector so far.

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3G in HK 9th June 2000

3G in HK
9th June 2000