What is Spectrum Trading?
Spectrum trading refers to the secondary trading of radio spectrum by license-holders, whereby spectrum that has already been allocated to an initial user (usually awarded by a regulator) is transferred to a new party.
Spectrum trading in the UK is governed by the Wireless Telegraphy Act 2006 and is generally allowed pursuant to the Wireless Telegraphy (Spectrum Trading) Regulations 2004. There have recently been two major changes to the regulatory regime that make it much more likely to be adopted in earnest.
What are the benefits?
UK regulator Ofcom notes that ‘radio spectrum is a valuable and limited resource worth over £40bn a year to the economy‘. It contributes to a more economically efficient use of radio spectrum because a trade will only take place if the spectrum is worth more to the purchaser than it was to the seller, reflecting the greater economic benefit the purchaser expects to derive from its use.
As well as the economic efficiency and transparency that it brings to the market (it reveals the true opportunity cost of the spectrum), trading also has a number of other positive effects on the market. For example, allowing companies to expand more quickly than would otherwise be the case, or encouraging prospective new market entrants to acquire spectrum, in order sell their products and services on the market, increasing competition.
What are the risks?
The markets can be affected by merger activity or the direct transfer of new spectrum ownership. There is a risk that monopolies, dominant firms or a set of dominant firms might manipulate market prices and have an adverse effect on consumers and market competition.
Similarly, certain operators can gain a windfall profit from spectrum trading if they did not pay much (or anything) for the spectrum when it was first allocated, when (arguably) this financial benefit should really be given to the whole country.
What has changed?
Ofcom have recently announced two key changes affecting spectrum trading in the UK:
(i) on 20 June 2011 Ofcom finalised rules to enable mobile network operators (MNOs) to trade their 2G and 3G (900 MHz, 1800 MHz and 2100 MHZ) wireless network spectrum for the first time); and
(ii) on 29 June 2011 Ofcom release a detailed statement on how it plans to introduce and make available a new, simplified form, of spectrum trading called ‘Spectrum Leasing’.
Mobile Spectrum Trading – Recent Changes
Available bandwidth is becoming a huge issue for MNOs, as ever-popular smart phones put increasing demands on networks. Ofcom notes that there are 80 million mobiles in the UK and more than 12.8 million of these are smart phones. Next year there is also due to be a wide scale auction by Ofcom of licences for spectrum suitable for ‘Long Term Evolution’ (LTE), or so called 4G networks. As part of a wider initiative to promote improvements in mobile service, the Government directed Ofcom to make mobile spectrum licences tradable in December 2010.
The new rules for mobile spectrum trading (which are set out in the Wireless Telegraphy (Mobile Spectrum Trading) Regulations 2011 and came into effect on 4 July 2011 ) allow MNOs to sell spectrum to purchasers (which can be split by geography and frequency) and Ofcom anticipates that this will lead to more efficient mobile spectrum use, as it recently stated – ‘By allowing operators to trade spectrum, Ofcom believes there will be greater opportunity to use it more efficiently‘.
However, not all MNOs in the market are happy with the new Mobile Spectrum Regulations and they have caused some controversy. Hutchinson 3G (who operate the mobile brand ‘Three’) have commented in a statement that ‘This move simply allows those who have been gifted access to public spectrum to profit from it, with no benefit to the UK taxpayers‘. Three are angry because their competitor MNOs in the UK were previously provided with 2G licences for spectrum by Ofcom’s predecessor, Oftel, without having to pay for it.
Due to the potential adverse effect that mobile spectrum trading could have on competition within the market, Ofcom has stipulated that each mobile spectrum trade will be subject to Ofcom consent, and Ofcom will assess this, together with the ability of the purchaser to comply with the licence terms. Ofcom will be responsible for the administration of spectrum trades, publishing details of the trades online, confirming that they are acceptable and then issuing revised licences to implement the trades.
Everything Everywhere (a joint venture between France Télécom and Deutsche Telekom, which owns the Orange and T-Mobile brands in the UK) was required to divest approximately 19% of its spectrum as a condition of its recent merger by the European Competition Commission and will now be able to sell the required spectrum under the new regime.
Note that the changes to spectrum leasing and transfer set out below do not yet apply to mobile spectrum trading. However, Ofcom has confirmed that they will be considering responses to the recent consultation on this and may widen the regime in due course.
Spectrum Transfer and Spectrum Leasing
Shortly after publishing the new Mobile Spectrum Regulations, Ofcom also overhauled and simplified the spectrum trading rules relating to all other radio spectrum. Following a consultation initiated in September 2009 on simplifying spectrum trading, Ofcom (on 20 June 2011) announced plans to make available a new, streamlined form of spectrum trading called ‘Spectrum Leasing’.
What is the difference between ‘Spectrum Transfer’ and ‘Spectrum Leasing’?
Ofcom distinguishes between two key types of transaction, as follows:
Spectrum Transfer – where a new user is granted a licence by Ofcom to use spectrum following a commercial transaction with an existing licensee, involving the transfer of the licence rights and obligations; and
Spectrum Leasing – in which spectrum may be accessed for a specific period under a contract with an existing licensee without obtaining a further licence from Ofcom.
As illustrated in the diagrams (downloadable from the panel opposite), the main difference between a transfer and a lease is that an incoming user (or leaseholder) will not hold a licence from Ofcom, whereas in a transfer situation an incoming user (or transferee) will.
What are the key changes?
1. Spectrum Transfer
The key change, which removes a considerable barrier that had previously prevented spectrum trading from flourishing, is the removal of the need to obtain consent from Ofcom.
A new simplified process will be used where the parties: (i) notify Ofcom before they trade; (ii) Ofcom will publish details before the trade takes place; (iii) Ofcom will effect the transfer by processing and issuing licences; and (iv) Ofcom will publish information on completed spectrum transfers.
Ofcom will have powers to revoke or vary licences once the trade has been completed, due to national security concerns or else where the transfer may adversely affect competition, but this is only likely to be on an ad-hoc basis, where intervention is strictly required to protect these interests. Similarly, there may be some licence classes for which Ofcom will require consent (such as MNOs using wireless spectrum, as indicated above). In most cases, though, no such consent will be required.
Ofcom has also simplified the process for time limited spectrum transfers (i.e. limiting how long a spectrum transfer will last for). Under the current regime the parties to the transfer have to contractually agree a transfer reversion date, which requires a separate closing transaction. In circumstances where spectrum leasing may not be appropriate (eg recognised spectrum access or RSA and time limited transfers in the public sector), Ofcom has set up a new system which allows the licence (or RSA grant) to be split, avoiding the need for a second transaction. As this process has to be carried out manually by Ofcom they expect to make this available only in limited circumstances.
2. Spectrum Leasing
Spectrum leasing will enable a spectrum licensee to allow other third parties to make use of its spectrum, without the need for Ofcom to grant the third parties a new licence. The licensee will enter into a contract with the third party that will govern the use, duration and assignment of spectrum to be leased and used. It would be up to the parties to negotiate the specific terms that apply to the leasing arrangement.
Ofcom will introduce the new simplified process of spectrum leasing by licence variation, rather than introducing further Regulations on this point and will initially apply spectrum leasing only to ‘exclusive Business Radio Area defined assignments and auctioned licences‘ (as these sectors tend to have relatively large spectrum assignments, both in terms of bandwidth and geographic coverage, that are exclusive). This initial, cautious approach is to allow Ofcom time to monitor take up in this area, as the market in spectrum leasing starts to develop.
Ofcom will publish details on its web site (ww.ofcom.org.uk) of the process for applying for licence variations as soon as it is ready to accept applications, which it anticipates to be later this year.
Spectrum leasing in more detail
What to include in a spectrum leasing contract
We would recommend (and Ofcom have also noted) that licensees should considering covering-off the following points in their contracts with prospective leaseholders:
· informing the leaseholder of the terms and conditions of the licensee’s head licence and providing information to them on this;
· informing the leaseholder that a failure to meet the licence terms and conditions may result in the closedown of equipment and incur penalties;
· taking all reasonable steps to ensure that the leaseholders’ use of radio equipment complies with the licensee’s licence conditions;
· maintaining records of leaseholders (and sub-leaseholders, where they allow sub-leasing to take place – for further details see below) and making this information available to Ofcom;
· providing that Ofcom may take enforcement action against either the licensee or the leaseholder (as it sees fit); and
· including a dispute resolution mechanism for prompt resolution of disputes.
Ofcom have confirmed that they may provide further guidance on the following commercial points, that should also be covered-off in any spectrum leasing contract (when they update the Spectrum Trading Guidance Notes on their web site):
· lease length and security of tenure;
· technical restrictions on spectrum use (which will need to be compatible with the terms of the licensee’s head licence);
· payment terms;
· spectrum quality and availability;
· whether sub-leasing is allowed and the restrictions that apply;
· maintaining the licence in force;
· liability for interference if the licence lapses or is revoked;
· the rights of the licensee to access the leased spectrum; and
· any contractual restrictions that apply on transfer of the licence by the licensee.
From a potential leaseholder’s perspective it will be absolutely key to undertake due diligence on the chosen spectrum licensee (ie the commercial party who will be leasing the spectrum out), to ensure that they are not in breach of their licence conditions and have the relevant rights to lease out spectrum, as the leaseholder’s continuing ability to use the spectrum will depend on the continuity of the licensee’s licence. If their licence is revoked, use of the spectrum by leasholders must also cease, so a savvy leaseholder will want to make sure that the licensee is liable for their losses arising in those circumstances.
Sub-leasing
Ofcom have confirmed that they will allow one level of sub-leasing, provided that the licensee maintains (and makes available to Ofcom) information identifying both the party granted the lease (the leaseholder) and the sub-leaseholder (which the licensee will need to hold for its own business purposes, in any event). However, Ofcom will not permit any ‘sub-sub’ leasing, as it believes this may increase the risk of uncertainty as to which party is entitled to use the spectrum.
Public Sector Spectrum Leasing
Vast swathes of spare spectrum in the UK are currently held by public sector bodies, such as the Ministry of Defence. In December 2005 a detailed report was produced for The Treasury analysing the spectrum holdings of public sector bodies, which outlined various proposals to improve public sector spectrum management. The September 2009 Ofcom consultation also looked at some of the spectrum management proposals and Ofcom have noted the following interesting points in respect of how they see public sector spectrum leasing developing:
· Government departments, such as the MoD, do not require authorisation for a wireless telegraphy licence, as the Wireless Telegraphy Act does not bind the Crown. Instead, Ofcom grants them recognised spectrum access or RSA. RSA is a spectrum management instrument introduced by the Communications Act 2003, that is available to such users.
· The grant of RSA does not authorise spectrum use in the way that a wireless telegraphy licence does. The nature of RSA means that contractual leasing would not be suitable for a Crown body wishing to release spectrum to a commercial undertaking, as the RSA holder would not be in a position to authorise the use of spectrum by that undertaking. Therefore, this means that the commercial leasing of RSA by public sector bodies that form part of the Crown is not permitted. However, these Crown public sector bodies could achieve the same effect as spectrum leasing by requesting Ofcom to carry out a time limited transfer (as explained above) or by setting up a separate company that holds a wireless telegraphy licence (instead of RSA), which could then grant leases in the same way as other commercial licensees.
· It should also be noted that many public sector bodies are not part of the Crown and hold licences that can be made leasable.
We will have to wait to see how the public sector approaches spectrum leasing, to see whether it will increase commercial activity in this sector. However, many public sector bodies are sitting on an asset that could be leased and commercialised in the market, so the opportunity is there. In particular, where OFCOM has applied administered incentive pricing fees (ie usage fees) to spectrum this will itself act as an incentive on public sector bodies to use their spectrum efficiently.
Lessons from other liberalised international markets
International experience in spectrum trading has shown that it takes time for the markets to flourish and at the moment there are only a few intermediaries active in these markets. There do not appear to be many (if any) market speculators.
Data from the International Telegraph Union (ITU – the United Nations specialised agency for ICT) highlights that some countries have relatively high levels of trades (eg Guatemala, El Salvador and the USA). In Australia and New Zealand, levels of trades have been fairly low and haven’t flourished as much as initially expected when spectrum trading was launched in these markets. In many markets liquidity remains a real issue and the solution lies with the national regulator to remove barriers, as the UK is aiming to do with the measures discussed here.
Spectrum trading appears to be a valuable mechanism that some liberalised markets have already started to adopt (and others will follow), but because the actual trading volumes tend to be small, the key to any successful scheme is ensuring that the cost and complexity of the scheme is kept as low as possible. Ofcom are conscious of this, as they note ‘to enable the market to work effectively, it is important to keep down transaction costs, including those attributable to complying with regulation, and the time taken to execute transactions. This is the aim of the changes we are making‘.
Anthony Day is a Senior Associate in the Technology, Sourcing and Commercial Group of DLA Piper (London) who specialises in complex commercial telecoms and outsourcing transactions.
Mike Conradi is one of DLA Piper’s lead telecoms partners, and is based in London.
