Pay TV phase three document - Stakeholders - Ofcom

Pay TV phase three document – non-confidential version
The ability to sustain retail prices appreciably above the competitive level
5.114 The OFT Market Power Guidelines state that “Market power can be thought of as the
ability profitably to sustain prices above competitive levels or restrict output or quality
below competitive levels” (paragraph 1.4). We have thus considered whether Sky
possesses market power at the retail level, applying this standard approach.
The ability to sustain retail margins appreciably above the competitive level
5.115 In its response to the First Pay TV Consultation, Sky referred to the “double counting”
of market power by Ofcom. For example, Sky considered that, in the First Pay TV
Consultation, Ofcom concluded that Sky had significant market power in the retail of
sports channels because it had “better sports content” but this same source of
market power was also used to justify Ofcom’s view that Sky had market power at
the wholesale level.
5.116 We agree with Sky that, given the structure of the pay TV industry, such “double
counting” risks giving a misleading impression about the source of market power.
Where a firm is vertically integrated and in a position of market power at the
wholesale level it may well choose to earn any excessive returns at the wholesale
level, rather than at the retail level 318 . It would do this by setting a high wholesale
price (including a high implicit transfer price that is paid by its own vertically
integrated retail arm). Whilst the firm may be deemed to possess retail market power
under the standard approach – because it can set retail prices that are appreciably
above the competitive level – the true source of that market power may in fact lie at
the wholesale level 319 .
5.117 Retail prices could be above the competitive level for two reasons:
� First, because the wholesale price is above the competitive level; and/or
� Second, because the retail margin (over and above the wholesale price) is higher
than the margin that could be earned in a competitive market.
5.118 We have thus also considered whether Sky enjoys the ability to earn a retail margin
that is appreciably above the competitive level. In doing so, we have taken into
account Sky’s wholesale position. This can be thought of as asking whether Sky
318 Clearly the ability of a vertically integrated firm to earn excessive returns at the wholesale level,
rather than the retail level, depends on the strength of its wholesale position. Where a firm possesses
a great deal of wholesale market power, the additional impact of its retail position may be limited. In
contrast, a vertically integrated firm with a weaker wholesale position (but nonetheless a degree of
wholesale market power) is likely to have less scope to extract any monopoly profits at the wholesale
level and thus its retail position becomes more important to it.
319 To illustrate, consider the example of a monopoly wholesaler that supplies a perfectly competitive
retail market. That wholesale monopolist is capable of significantly increasing wholesale prices and
thereby increasing retail prices appreciably above the competitive level. Moreover if that wholesaler
were vertically integrated with one of the retailers, the vertically integrated firm would also have the
ability to increase its retail price (along with those of all other retailers) above the competitive level.
Applying the standard approach to assessing market power, one might conclude that the vertically
integrated firm is dominant at both the wholesale and retail level. However clearly in this example the
source of the market power is the firm’s wholesale position. Because the retail market is assumed to
be fiercely competitive, no retailer (including the vertically integrated firm’s retail arm) has the ability to
earn an excessive retail margin.
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