Wake up call
Fixed-line telephony bound to be marginalized
written by Anna Jancsó

Two years after the liberalization of the telecom market in Hungary, alternative service providers and local telephone operators (LTOs) in the fixed-line sector are still struggling to find their way. The sector is stagnating and competition with formerly state-owned incumbent Matáv Rt. requires major investments in the market. Although changes in ownership structures in the fixed segment during 2003 raised high hopes for real competition, analysts believe that consolidation still has a long way to go.

Liberalization in the Hungarian telecommunications sector was historically set at December 2001. It was the moment when the state implemented a new Telecommunications Act aimed at boosting competition. It was also the time when former state monopoly Matáv was ripped from its exclusive rights to provide fixed-line international and long-distance calls.
But exclusivity did not only apply to these segments, Matáv and four other regional incumbents also had sole rights to provide local telephony services in their respective geographical areas. The rights, which were granted at different times, only fully expired in November 2002.
Since then, there should have been ample terrain for fierce competition to ensue in one of the most prosperous segments of the Hungarian economy. But practice proved to be otherwise, and the concentration of the market in Matáv’s hands is so significant that no newcomer in the business has been able to shake it so far.

The fight for corporate consumers
Reasons are plentiful: decades of monopoly meant that almost all infrastructure at the time of liberalization was owned by Matáv, a fact that most concerned local fixed-line infrastructure and private consumers.
Csaba Baboss at the National Telecommunications Authority (HIF), the independent state organization, says that building local infrastructure or buying the rights for its operation requires the most significant investment in fixed-line telephony.

For this very reason, alternative operators that appeared on the market after liberalization turned mostly to the business sector to seek opportunities, and competition on the largest market of private consumers, remained flat.
“There is competition on the market but not in the public segment,” Baboss says. “New service providers who entered the market focused primarily on winning [business] consumers with significant international traffic and for them they built independent telecommunications infrastructures.”
While consumers with high profit potential are worth the infrastructure investment, the public segment is divided among households with low consumption that are not worth the effort, operators claim. For alternative operators to reach every single customer, they would need to build their own local loops to every household in order to provide telephony services.
“We cannot expect major changes in terms of who we pay our telephone bills to any time soon,” Baboss says. “Considerable change would only occur if any new service provider leased local loops for local access from Matáv [or another LTO], the former concessions service provider.”

Skyrocketing operational costs
This alternative, however, is not even available in most European Union (EU) countries. And even though Matáv and the other four LTOs (Invitel, Emitel, Monortel, Hungarotel) who own local infrastructure in the country did prepare a Reference Unbundling Offer (RUO) in 2002, compulsory for all concessions operators for local loop unbundling, actual infrastructure costs are so high it is not worth it for alternative operators to lease or develop their own loops.
The issue of interconnection charges, the fee that supposedly renders calls so costly, seems to be the single biggest obstacle to the occurrence of competition on the fixed line market in Hungary. According to experts, interconnection charges (paid by long-distance service providers to local service providers for carrying calls from the client to their networks) are very high in Hungary, far surpassing the EU average. As Hungary accedes the EU, however, these fees must be put in line with the EU average. Such a momentum, experts believe, could boost lagging competition.

Hungary’s new Telecom Law draft aims to increase competition on the telecom market in line with EU mandates

According to Baboss, lower interconnection charges may potentially bring more service providers to the market. He says that even though HIF is aware there will be no huge boom in the number of operators following lower interconnection fees, they do have knowledge of an international service provider who expressed interest in public segment business once these changes take place.
According to analyst Andor Daróczy at ConCorde Securities Rt., in Budapest, there are reasons more prosaic for the slow consolidation of the market. “One of the main reasons why Matáv’s strong position in the fixed-line segment is so firm is that faithfulness toward operators is very strong on this market [in Hungary],” he says. So much so that even if a new operator offers better prices and services, customers are generally reluctant to change.

Competition, on the other hand, would require major investments and/or acquisitions on the part of LTOs other than Matáv and alternative service providers. The volume of investment required to shake Matáv’s market position has not yet been carried out, analysts argue, and recent changes in ownership structure on the market have not been enough to boost earlier expected competition. Many held out hope that the sale of Vivendi Telecom Hungary Rt. in January 2003 to private equity fund AIG Emerging Europe Infrastructure Fund L.P. (EEIF), controlled by the American International Group (AIG) and UK-based GMT Communications Partners Ltd, would mean fast consolidation of the Hungarian telecoms market. But such hopes never materialized.
Similarly, the ongoing sale of Postabank’s stake in the Hungarian Cable Corporation (HTCC Rt.), to institutional investors (one of who is Deutsche Bank) has increased expectations for real competition. Analysts warn, however, that in order to breed a real competitor out of companies like Invitel (Vivendi Telecom Hungary’s successor), there is need for further investments and first of all acquisitions. According to Daróczy, fixed-line operators such as Invitel should strengthen their business telecommunications strategies and sound out to the broader population through an aggressive marketing strategy.

Not a thriving business
The problem is that fixed-line telecommunication is a stagnating, slightly declining business. According to a first quarter 2003 market report by HIF, only 24.1% of the total population has fixed-line telephone access, down from around 60% in the first quarter of 1999.
Penetration, which is calculated based on the number of main lines divided by the number of the country’s inhabitants, is between 30-35%, and is declining. HIF said the number of main fixed-lines dropped by 24,000 from fourth quarter 2002 to 3.6 million in first quarter 2003.
Although present players on the market boost nice profits, the market at best will remain stagnant in the long run. Analysts like Daróczy also warn that 2004, the year of Hungary’s EU accession, will strengthen the mobile segment. In order to compete with the already booming mobile market and to gain more customers, fixed-line operators would have to provide very daring price packages. This, however, would take away much of their profit.

Mobile phones and the Internet have contributed to the decline of fixed lines

The other option would be to introduce to the market an aggressive marketing campaign, something none of the service providers is willing to do. “In reality it is the state that is pushing for competition” Daróczy says, “but while Matáv has such a strong position there will be no real competition, no matter what kind of regulatory environment the National Telecommunications Authority creates.”
Not even HIF is happy with the aftermath of liberalization, although they claim they do their best to fulfill their part of the work. “The first year and a half [of liberalization] has not brought the results we hoped for,” says Baboss, “From a switch that was orchestrated to be highly important.”

Legal framework in place
The strategy of liberalizing telecommunications, Baboss explains, was nevertheless established so that newcomers could provide competitive services even if operators with significant infrastructure and market position are already on the market.
One such strategic step was to oblige service providers with strong market presence to lease their infrastructure network services to competitors at a real-cost base. And while until recently this sum was calculated on the basis of past investments in the infrastructure, a new ruling states that the fee must reflect present, actual costs of building such a network.
“This, in a way, is a theoretical model for the investors on whether to buy the services of an existing network or to develop a new one,” Baboss adds.
“There will eventually be a consolidated market in Hungary,” Daróczy says. “Even the dominant position of Matáv may diminish in the future, but for this to happen there needs to be significant capital inflow into the market.”
The pain of the fixed line sector is, however, the pleasure of mobile operators, who have capitalized on the virtually non-existent competition in the fixed line segment. Analysts expect dynamic growth and high volumes of turnover in the mobile phone market, while the fixed-line segment is expected to become marginalized.
Daróczy also believes that the trend has culturally-bound explanations. In Western Europe, where it is natural for households to have at least one fixed telephone line, the rate of Internet and computer penetration is considerably higher than in Hungary. He expects that growth in fixed-line penetration in Hungary could only come as a result of cheaper ADSL technology, which may be used by younger generations for easy and fast Internet access at home. With penetration expected to stabilize around 35-36%, slightly higher than at present, one might wonder if Hungary’s fixed-line telecom sector is worth the investment. The potential lies in GDP growth. It is expected that after Hungary becomes a EU member and interconnection fees decrease, LTOs who were ripped of their profits and alternative providers free from the burden, will find a reason for investing in the fixed line market - due to an increase in household purchasing power. Analysts believe if GDP growth remains higher than the EU average, citizens will spend more on telecommunications. It is this complex, compensating mechanism that the market counts on. While Hungarians spend much less on telecoms than their Western counterparts, there is room for expansion.