DCMS mismanaged £1.2bn BDUK project – PAC

PAC chairman Hodge – dismissed BT “corrections”

Anyone who watched the Public Accounts Committee hearing on the value for money likely to be achieved by the government’s next generation rural broadband programme would have had no doubt that the department of culture, media and sport (DCMS), its agency Broadband Delivery UK (BDUK), and BT were in for a roasting.

In its report published today,  PAC chairman Margaret Hodge MP said, “The programme to extend superfast broadband to rural areas has been mismanaged by the DCMS. The sole provider BT has been placed in a quasi-monopolistic position which it is exploiting by restricting access to cost and roll-out information. The consumer is failing to get the benefits of healthy competition and BT will end up owning assets created from £1.2bn of public money.”

None of this is new to regular readers of this blog, who have been following the BDUK money with a growing sense of dismay. What is new is that the political establishment can no longer ignore the fact that BT has run rings around them.

Despite the evidence collected by the National Audit Office and the PAC, it continues to protest its innocence. “We are disturbed by today’s report, which we believe is simply wrong and fails to take on board a point-by-point correction we sent to the committee several weeks ago,” it told the BBC.

The broadcaster said BT denied that it had failed to deliver value for money for the taxpayer and said that, even with the public subsidies, it would take it 15 years to pay back its investment in rural broadband.

That’s three years longer than Bill Murphy, MD of BT’s Next Generation project, has said publicly, more than once.

“Rolling out fibre is an expensive and complex business,” BT told the broadcaster, ignoring the fact that farmers and housewives are doing a fair job of it, self-funded and self-taught, in rural Lancashire, with the B4RN project, despite BT’s efforts to undermine them.

Responding to the report, Malcolm Corbett, the CEO of the Independent Networks Co-operative Association, (Inca)who gave evidence to the PAC,said “The PAC expressed real concern about the lack of competition in the programme, BT’s lack of transparency over costs, its deployment plans, the overall level of state aid, the reduction in BT’s financial contribution and delays to the programme.”

On behalf of Inca members he called for

• transparency over BT’s costs and deployment plans
• competition where alternative providers and communities are willing to invest in fibre and high speed wireless networks, BT should not be allowed to roll over them with state subsidy
• full, unfettered access for alternative providers to all of BT’s publicly-funded infrastructure to promote genuine competition and choice, and
• new investment models to promote investment, innovation and better value for money for the next £250m the government is committing to rural broadband.

Broadband maps are just eye candy

It is good that more counties are following Northamptonshire’s example and publishing the maps of the areas they expect to cover using taxpayers’ money from the £1.2bn NGA fund.

However, there is growing doubt over whether they are more than just coloured eye candy.

Take these caveats from the Buckinghamshire and Hertfordshire Connected Counties web site:

The maps are indicative and should not be relied on or otherwise treated as a guarantee of current or future provision.

There are a number of things to be aware of when interpreting the maps:

• It is not necessarily the case that all premises within an upgraded area will receive an increased speed – different premises within that area may be served by different infrastructure

• Although an area may be served by upgraded infrastructure, the distance to this infrastructure from any particular premises in that area may mean that speeds for those premises are below ‘superfast’ levels of 24Mbps (download).

• The modelling which informed the maps is based on a number of assumptions which may change following a detailed, on the ground assessment of local conditions. Throughout the phased rollout programme, Openreach engineers will be deployed to undertake local surveys. This may result in changes to the programme rollout plan dependent on the findings.

The BT press release that announced its contract said Bucks and Herts “will see fibre broadband becoming available to more than 90 per cent of premises … by the end of March 2016.” The caveats mean that the councils will hand BT £18m for some faster broadband somewhere some time.

BT knows exactly how much the counties have to spend, so it can work exactly what it can afford to put into the ground for a given profit that is known only to it.

These caveats exempt BT from doing more for less, as the rest of the country is being asked to do.

Further, the councils can’t ask other suppliers to make good what BT leaves undone, unless they give BT first refusal.

How BT scores in the fibre rates wars

Picture by BigRiz. Some rights retained.

BT’s competitors may be paying nearly 20 times more in taxes to light fibre networks than the incumbent operator, but the politicians who make competition policy and the civil servants responsible for setting tax rates and regulating competition are turning a blind eye.

The calculations are based on official published figures. They were prepared by an Other Operator, to use the jargon, who prefers to remain anonymous. They are based on figures that BT is required to submit to Ofcom. The picture they present is supported by a detailed assessment of BT and Ofcom’s use of the business rate tax prepared by a specialist market research firm.

In the past, Ofcom and the Valuation Office Agency (VOA), which sets business tax rates, have said BT’s network is too complicated to work out what business tax the incumbent should pay. The calculations below shows that this isn’t necessarily the case. This view is backed by an exhaustive critique of the so-called cumulo rates (business rate taxes) by market research firm Analysys Mason in 2011.

Asked to comment on the accuracy of the calculations, Ofcom referred queries to the VOA, now part of HMRC.

A VOA spokesman said the VOA’s method for setting the taxes had been tested in the courts. It did not respond to queries about the accuracy of the calculations.

According to the Other Operator’s calculations, BT pays the so-called fibre tax at a rate of £1.04 per fibre-kilometre on a Long Run Incremental Cost (LRIC) basis. Other operators (except Virgin Media) pay a rate of £51.98 per fibre-kilometre.

Analysys Mason used a different basis for calculating the tax rate. It found that the rateable value (RV) of a line rented under WLR (Wire Line Rental) is £5.34. This gave rise to a per line tax bill of £2.21 for 2010/11, and £2.45 in 2013/14. Ofcom estimated the tax due at £3.03, the researcher found.

One of Ofcom’s Statutory Duties under the Communications Act 2003 is 3(1)b: “It shall be the principal duty of Ofcom, in carrying out their functions…to further the interests of consumers in relevant markets, where appropriate by promoting competition.” Ofcom declined to comment on the effect the difference in tax rates might have on the competitiveness of the fibre market.

Politicians who were asked for comment did not respond. To be fair, parliament was in recess as this story was being developed.

Background

The government collects “business rates” taxes on all non-domestic properties. It is a highly regressive tax paid before the business earns an income, let alone a profit. No other country in the EU has this tax, except Ireland.

The VOA calculates rates on the nominal rental or rateable value (RV) of the property, which is revalued every five years. VOA considers all passive communications infrastructure as rateable, including buildings. It believes BT’s “hereditament” or rateable items are too complex to value individually, so it uses a methodology called receipts and expenditure, which is basically a tax on profits, and so payable in arrears. VM pays the tax on “homes passed”. Everyone else pays per lit fibre-kilometre.

This system favours operators with large networks. BT’s rateable value mysteriously decreases even though the incumbent has installed thousands of kilometres of fibre in the past decade.

The VOA also appears to have protected BT by over-taxing competitors for so-called next generation access networks. In its 2011 critique of cumulo (tax) rates, Analysys Mason said “The VOA seems to take the view that NGA lines are more profitable than those based on copper access lines. The VOA probably knew that BT estimated a cumulo cost per line in 2009/10 of approximately £5.50 for services based on copper access lines. At the same time, the VOA proposed to assess NGA operators (other than BT) for cumulo using an RV of £20 per home connected, equivalent to an annual charge of £9.70 (after multiplying by the rates multiplier of 48.5% in 2009/10).

“This implies that the profit potential of a non-BT NGA line is higher than that of a BT copper-based line, by a factor of 1.76 (£9.70 divided by £5.50, that is 76% higher), in the opinion of the VOA.”

The incoming coalition government promised then scrapped a review of the fibre tax in 2010. This left BT and VM with an enormous tax advantage over would-be competitors.

The damage the tax does to the competitive environment was raised recently in a paper commissioned and then apparently ignored by Ofcom.

The calculation

As to the calculation itself, please follow carefully:

BT’s regulatory accounts for 2013 are at http://www.btplc.com/Thegroup/RegulatoryandPublicaffairs/Financialstatements/2013/CurrentCostFinancialStatements2013.pdf

BT’s treatment of the “cumulo rates” or tax on its “hereditament” or taxable properties is outlined in a presentation, reference 1 below, from the Ofcom web site. This attributes some 79% of BT’s tax charge to its network division, Openreach. Some 24% is allocated to cable (fibre and copper), 54% to duct, and 1% to exchanges. This allocation is therefore distance-weighted.

BT uses a made-up figure called “profit weighted net replacement cost” or PWNRC to attribute its tax charges to the assets used in its services. Analysys Mason said of PWNRC “BT’s method…appears flawed. …the fact that ‘Openreach owns’ certain assets is not relevant to the allocation. The VOA methodology … suggests that RV (and hence cumulo cost) is a function of forecast profit, not asset ownership. If profits cause cumulo via the RV (as seems to be the case) then a causal allocation key would be profits, not “profit weighted NRC”.”

BT Openreach’s regulatory accounts show at page 68 revenues for the AISBO (Alternative Interface Symmetric Broadband Origination) fibre Ethernet-based group of regulated services, which Other Operators use and against which Other Operators compete. This comes to some £802m, of which £185m is attributable to link fibre (i.e. between exchanges). The table for link fibre shows revenues, fully-loaded costs (FAC), long run incremental costs (LRIC), and fibre-kilometres used.

On Page 134 of the Regulatory Accounts, BT provides a reconciliation between BT Openreach statutory accounts, and Regulatory accounts. This gives total costs (including 79% of the BT cumulo charges) for BT Openreach in 2013 as £3,763m.

BT’s total rateable value for England is shown in the Central Rating List as £172.15m and for Wales it is £7.85m, both effective from 1 January 2013, for a total of £180.00m.

In earlier litigation in the Lands Tribunal, it was accepted that approximately 80% of BT’s total rateable value is represented by its RV in England, giving at that time a total RV of £215.19m. At the 2012 multiplier of 45.2% this represents a tax charge of £97.27m.

The portion of business rates attributable to Openreach is thus 79% of £97.27m, or £76.84m. If this was spread evenly over all Openreach costs, this would result in business rate tax of £76.84/3,793 or 2.03% of costs.

The AISBO table at Page 71 gives a breakdown of the BT Openreach link lengths in fibre-kilometres. Link lengths are the closest comparable Ofcom fibre products to those sold by Other Operators. It is not clear whether or not the table refers to pairs or single fibres, so for the sake of these calculations, the Other Operator assumed the link lengths are based on a single fibre and not a pair.

It is therefore possible from the calculations of allocation above to estimate the tax rates per fibre-kilometre on both a FAC and LRIC basis.

From Page 71 (see table below), the FAC per km is £138.76. A calculated tax rate of 2.03% of costs therefore results in a tax rate of £2.82 per fibre-kilometre on a FAC basis. Using the BT-calculated figure of £51.37 per km results in a tax rate of £1.04 per fibre-kilometre on a LRIC basis.

The Other Operator said, “The difference is, we believe, due to the fact that additional fibre links would not, on average, use the same quantity of duct resources. This is indicated in the split of allocation between duct and fibre in Ref 1 below.”

The current rateable value applied to Other Operators is £230 per fibre pair-kilometre. On a multiplier of 45.2% for 2012/3, this gives rise to a tax charge of £103.96 per pair, or £51.98 per fibre.

Other Operators therefore pay some 18.43 times the rate paid by Openreach for link fibre on a FAC, and some 49.98 times that on a LRIC basis. If BT’s measure of link fibre was per fibre pair, then the difference would be 37 times and 100 times respectively.

If anyone would like to dispute the figures, please show your workings below.

References

1. BT’s view of its treatment of cumulo rates is dealt with at http://stakeholders.ofcom.org.uk/binaries/consultations/wlr-cc-2011/clarifications/BT_Cumulo_Rates.pdf

This attributes some 79% of BT’s cumulo charge to Openreach, with a split of 24% attributable to cable (fibre and copper), 54% to duct, and 1% to exchanges. This attribution is therefore predominantly distance dependent.

2. BT’s CCA Regulatory Accounts 2013 http://www.btplc.com/Thegroup/RegulatoryandPublicaffairs/Financialstatements/2013/CurrentCostFinancialStatements2013.pdf

3. Central Rating List, England and Wales http://www.voa.gov.uk/rli/static/HelpPages/Documents/central_rating_list_for_england_2010.pdf

http://www.voa.gov.uk/rli/static/HelpPages/Documents/central_rating_list_for_wales_2010.pdf

3. BT Presentation on Regulatory environment and objectives http://www.btplc.com/Sharesandperformance/Presentations/downloads/Regulatoryteach-inJun12.pdf

4. Ofcom’s 2008 BCMR is at http://stakeholders.ofcom.org.uk/binaries/consultations/bcmr08/summary/bcmr08.pdf

Part 4 can be found at http://stakeholders.ofcom.org.uk/binaries/consultations/bcmr/summary/bcmr_pt4.pdf

Ofcom believes BT’s link costs to be 26p per metre. “Our calculations of the cost per metre of backhaul indicate that (Openreach’s) price is roughly double the underlying fully allocated cost (circa 50p per metre versus circa 26p).”

It went on to add, “There do appear to be significant issues with how BT currently prices its wholesale Ethernet services. The most significant issue appears to be that the elements of service that comprise a complete circuit do not appear individually closely related to FAC cost.”