Will Ofcom’s contracts proposals address consumer harm or bring about industry reform?

OVUM VIEW

Summary

On January 3, 2013 Ofcom issued a public consultation on price rises in fixed-term contracts. The consultation was issued following a year-long investigation into and examination of complaints from consumers regarding tariff increases during the course of landline, broadband, and mobile contracts that they believed to be fixed. During its review, Ofcom found that some providers were infringing the relevant regulations, including the General Conditions of Entitlement and Unfair Terms in Consumer Contracts Regulations 1999 (UTCCRs). The regulator identified four options to address the situation, and is now seeking inputs from stakeholders. The consultation will close on March 14, 2013, and a decision is expected to be published later in the year.

Ofcom’s preferred option would be to impose an “exit without penalty” rule. This would allow consumers to leave their contracts without incurring any penalty should their provider raise prices. This could, however, pose a problem for operators’ pricing strategies given the potential for a rise in churning. Mobile operators might also need to address their handset subsidy model, as consumers could cancel their contract after only a few months, taking their expensive smartphones with them. Promisingly, Ofcom has also recommended that providers be more transparent with consumers. Transparency could strengthen competition, and should be readily accepted by operators in order to mitigate the risk of any stricter obligations being imposed.

Consumers are unaware that fixed does not necessarily mean fixed

Ofcom has launched a public consultation looking at ways to protect consumers from price rises during fixed contracts for landline, broadband, and mobile services. The consultation follows a review that began in January 2012, which found that certain providers were not adhering to the required regulations. Condition 9 of the General Conditions of Entitlement (GC9) applies to all providers of public electronic communications services or networks, and requires them to set out the details of the contract (such as prices, service guarantees, and the contract term) when concluding an agreement with a consumer. GC9 also obligates providers to give at least one month’s notice and the right to terminate if they intend to alter the contract in a way that is “materially detrimental” to the consumer.

During its review Ofcom analyzed over 1,600 consumer complaints submitted between September 2011 and May 2012. Operators are allowed to increase their prices in line with inflation during the contract term in order to ensure that their margins are not eroded, but only if they adequately notify their customers of any change. Over the past 18 months each UK mobile operator has done so; O2 is the most recent, with a 3.2% price rise due to come into force in February 2013. However, many consumers claim that they are unaware that their tariffs may go up during their contract term.

An “exit without penalty” rule could benefit consumers, but presents a challenge for operators

Ofcom’s preferred approach would be to implement an exit without penalty rule. This rule would allow consumers to walk away from their contract without penalty should their provider introduce any price increase during the term of the contract. A similar rule has been in place in Japan for over a decade; under the country’s Consumer Contract Act (2001) contracts may be cancelled when provisions are deemed unfair. This approach could work to improve competition between providers, as consumers who feel that a price rise is disagreeable will have the freedom to go in search of a better deal. Consumers currently have little choice: they either accept the increase or pay a penalty to leave the contract.

Nevertheless, the exit rule would pose a question to providers on how to correctly price their tariffs. Operators might be tempted to increase prices to account for inflation, but they would risk not retaining customers (or attracting new ones) if their competitors did not follow suit. BT would likely be affected, having again increased its home phone and broadband prices, this time by 6% year-on-year. There is also the danger that consumers could walk away from any contract, smartphone in hand, following a price rise. This would likely lead to an evolution of the handset subsidy model, meaning that consumers might no longer be able to obtain a high-end smartphone for free or for a fraction of its value as part of their mobile contract. An alternative could be to further vary the set of tariffs on offer, although this could result in significant confusion for consumers.

Operators should embrace transparency to minimize the risk of further regulatory burdens

In conjunction with its exit rule, Ofcom would expect providers to be “clear and up front” about both the potential for any price rise and the consumer’s right to terminate the contract in the event of a price rise. While some operators are likely to criticize the plans, Ovum believes they would do well to embrace the transparency option. Making a commitment to be open and honest at the point of sale would certainly be less than burdensome than an exit without penalty rule. BT has come out in support of Ofcom’s proposal, claiming that it already informs its customers about any tariff increase and allows them to exit within 10 days of receiving the notification.

Transparency can stimulate competition by facilitating switching between providers, as consumers are better informed about the services on offer and the exact details of the agreements into which they enter. Encouragingly, Ofcom already recognizes this and is one of a number of NRAs that are relying on transparency more and more as a regulatory remedy. Ofcom has stated that it would not go so far as to prohibit tariff increases entirely, but an exit without penalty rule would leave UK operators to absorb any rise in the rate of inflation or in wholesale prices. Being transparent with consumers from the start might prove a fitting compromise, and avoid large-scale churning.

APPENDIX

Author

James Robinson, Associate Analyst, Regulation and Policy

james.robinson@ovum.com

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