Trai's approach to valuing the ‘digital dividend' band

The Telecom Regulatory Authority of India (Trai) has recently come up with recommendations on the valuations of and reserve prices for the 700 megahertz (MHz) band, a new band, and the 800, 900, 1800, 2100, 2300 and 2500MHz bands, which are to be auctioned soon and is referred to as a "digital dividend" as it has been refarmed from broadcasting for telecom.

For the valuations in 800, 900, 1800, 2100, 2300MHz, Trai has adopted multiple methods because no single method would provide the right valuation. It has used models based on market valuations during the auctions in 2014 and 2015, incorporating concepts of producer surplus, technical efficiency, revenue surplus, production function, forecasted growth of data (800MHz and 2100MHz), and economic efficiency (900MHz), and then calculated a simple average of the results of the various valuation methods. This article highlights the problems in the recommended valuation of this band, and cautions against setting very high reserve and auction prices, which may not be in the interests of the consumer and the government.

But since 700MHz is a new band, valuation based on prior auctions was not possible. Trai's analysis indicated that a new model would likely largely take into account only the technical efficiency of this band and not the "development stage of device ecosystem, market preference towards any particular band, timing of auction, etc." (Trai Recommendations, 2016, pg.97). Despite recognizing the importance of these market parameters, Trai recommends that the reserve price for the 700MHz band should be four times the reserve price of the 1800MHz band, simply because it had recommended a factor of four in 2012, and "the market revealed prices for 1800MHz band are available" (Trai Recommendations, 2016, pg.97). This approach raises the following issues:

Trai has offered no rationale for selecting this approach, nor has it considered revisiting the 2012 rationale. This is inconsistent with its approach towards valuation of other bands. For instance, it had considered 800MHz prices when 900MHz prices had to be fixed, arguing that the technical characteristics of these two nearby bands were similar. It has adopted a similar approach for identifying the prices of 2500MHz, also a new band, by linking it to the 2300MHz valuation. Thus, the 800MHz band could have been used to determine 700MHz prices.

Even if one were to accept the method followed, the calculations done by Trai in 2012 were faulty, as pointed out by various authors . Trai's own data and its process result in a factor of 2.78 and 2.12 (if one removes outlier values), and not four. Additionally, despite its mandated requirement for transparency, Trai has not shared calculations as to how the factor of four was arrived at in 2012.

Trai's 2012 Recommendations considered the ratio of auction prices determined in different bands in select European countries. Much has changed since then and newer auctions have been conducted in Europe. For instance, Trai did not consider the spectrum multi-band (700, 900, 1500 and 1800MHz) auctions held in Germany in June 2015. Interestingly, in contrast to the recommendations of Trai, the valuation of the 1800MHz band was 44% higher than the 700MHz band and 25% higher than the 900MHz band. Thus, the logic of pricing 700MHz higher than the 1800MHz is not clear. The multi-band auctions in Austria in 2013 showed that valuation of 1800MHz band was about 20% lower than the price of the 800/900MHz bands. These findings reflect that Trai has not adequately considered some of the evolving parameters, for instance, the evolving device ecosystem for the 1800MHz band. Vendors in Europe are taking steps to ensure a sustainable ecosystem for LTE (Long Term Evolution) in the 1800MHz band and migration of GSM (Global System for Mobile communication) subscribers to LTE. Operators in Europe are strategically acquiring 1800MHz spectrum. Additionally, due to the fact that the previously auctioned 800MHz band is similar to the 700MHz band, demand for the 700MHz band has been lower than expected in Europe.

The valuation process also has to consider the poor development of the device ecosystem of the 700MHz band in India. This would lead to a lower valuation. The better ecosystem in the 1800MHz suggests a review of the reserve price for the 700MHz band.

The fourth aspect relates to Trai's setting the reserve price at 80% of valuation. While the choice of a specific method for valuation is open to analysis, some principles should guide the level of the reserve price. Although Trai has rightly moved away from having the last auction price as the reserve price for the next auction, its selection of 80% of the valuation is not guided by any particular reason. Trai recognizes that the reserve price should not be very close to the final price and that earlier auction prices were driven by scarcity. Given these considerations, the rationale for establishing reservation price at this high percentage of valuation is not clear. The current Supreme Court judgement on call drops where Trai's rationale and calculations regarding the quantum of compensation were judged to be not clear shows the need to have a well-articulated basis for the decision.

Trai, the department of telecommunications, and the ministry must recognize that high reserve and auction prices may not always be in the interests of the consumer or of the government—delayed roll-outs, higher prices and non-profitable firms reduce the economic benefits to the government through lower economic growth, service tax, and corporate tax.

Staging Enabled