Report on Consultancy Study on Issues Relating to the Landing of Submarine Cables in Hong Kong

Transcription

1 1 Report on Consultancy Study on Issues Relating to the Landing of Submarine Cables in Hong Kong Developed For: Report By: Frost & Sullivan Public Sector & ICT Practice April 2010

2 1 Table of Contents 1. Executive Summary Background of Study Conceptual Approach Demand and Supply for Submarine Cables The Hong Kong Market Economic Contribution of Submarine Cable Industry to Hong Kong Strengths and Constraints of Hong Kong Key Challenges and Opportunities for Hong Kong Implications of Strength, Constraint, Opportunity and Challenge Analysis Analysis of Existing Submarine Cable Landing Stations Areas for Improvement and Recommendations Conclusions...69

3 2 1. EXECUTIVE SUMMARY The Government of the Hong Kong Special Administrative Region, represented by the Office of the Telecommunications Authority (OFTA), commissioned Frost & Sullivan to conduct a study on the issues relating to the landing of submarine cables in Hong Kong (Study). The primary objectives of the Study are to assess the economic benefits of, and recommend measures to facilitate, the landing of new submarine cables in Hong Kong. Hong Kong has one of the largest international data service markets in the Asia Pacific given its premier position as a key financial and international trading hub in the region. In addition, Hong Kong is also a beneficiary of the many multinational companies that have chosen to establish their Asia Pacific headquarters in Hong Kong. Cumulatively, they generate significant demand for data services linking all offices and plants across the region and beyond. Destinations including Shanghai, Singapore and Taiwan have also been especially focused on attracting corporate headquarters and investments in data intensive industries such as media, information technology services and business process outsourcing and have placed particular emphasis on developing their telecommunications infrastructure to position themselves as the digital interconnection gateway to support the growth of these industries. Therefore, Frost & Sullivan expects economies in the Asia-Pacific to be increasingly competitive in attracting submarine cable investments. In view of these developments, it is imperative that Hong Kong maintains an edge in attracting and facilitating the landing of submarine cables. To assist OFTA in gaining an in-depth understanding of the submarine cable industry, Frost & Sullivan adopted a research methodology to corroborate multiple information streams including (1) primary research (discussions with telecommunications service providers and government agencies), (2) secondary sources, and (3) Frost & Sullivan s proprietary telecommunications databases as well as insights from in-house industry experts. The principal purpose of adopting this approach is to ensure that the data obtained is free from material misstatement, providing a true and fair view of the state of the submarine cable industry in Hong Kong for analysis and development of recommendations.

4 3 Figure 1-1: Project Overview and Approach To address the objectives of the Study, Frost & Sullivan developed the approach highlighted in Figure 1-1 above. The subsequent methodologies highlighted in the later parts of this report provide greater details on the approach used at each step/stage. 1.1 Key Findings Demand for External Bandwidth The Asia Pacific has been one of the fastest growing regions in the submarine cable market during the last decade driven by over-investment in capacity that resulted in a supply glut. However, the market has stabilized in the last few years and Frost & Sullivan Research expects that the rapidly growing demand for external bandwidth will translate into increased demand and growth in submarine cables.

5 4 The growth in demand for submarine cables in the region is principally driven by the following factors: growth in external bandwidth demand from key growth markets (e.g. the Mainland and Southeast Asia (SEA) 1 ); rising demand for external connectivity between different geographies driving Intra-Asia, Europe- Asia and Trans-Pacific traffic; and submarine cable network resiliency considerations. These factors are expected to drive demand for new submarine cables and increase the available capacity of existing ones in Hong Kong. In Frost & Sullivan s view, demand for external bandwidth in the region is expected to be principally driven by the growth in the Mainland and SEA, and Hong Kong is well-poised to leverage on this growth. In the most likely scenario (base case), Hong Kong s demand for external bandwidth is expected to increase at a cumulative average growth rate (CAGR) of about 28 per cent from 2009 to 2015, to reach an estimated 2.91 Tbps. 4.5 Figure 1-2: Hong Kong s Demand for External Bandwidth 4.0 CAGR=35.4% 3.5 Low 3.0 Base Tbps High CAGR=27.9% 1.5 CAGR=20.6% Source: Frost & Sullivan, TeleGeography 1 For this consultancy study, Southeast Asia is considered as countries including Indonesia, Malaysia, the Philippines, Singapore, Thailand and Vietnam.

6 5 Economic Contribution to Hong Kong s Economy The economic contribution of the submarine cable industry to Hong Kong can be sub-divided into three categories Direct Contribution, Indirect Contribution and Induced Contribution. Direct Contribution: Contribution that is attributable to the operation of the submarine cable industry in Hong Kong the submarine cable operators and the submarine cable landing station (SCLS) operators. Indirect Contribution: Contribution of the submarine cable industry to the operation of Hong Kong s telecommunications sector. Induced Contribution: Contribution attributable to the spending of the submarine cable and other telecommunications sectors on the non-telecommunications sectors of the economy (i.e. the linkage effect); and contribution attributable to the consumer spending of the persons engaged in the submarine cable industry and other telecommunications sectors. Based on Hong Kong s equipped submarine cable capacity, it is estimated that submarine cables in Hong Kong directly and indirectly generated a total revenue of USD 1.8 billion in the telecommunications and related sectors in This was equivalent to USD 810 million of value-added and 8,100 jobs, representing 0.4% of Gross Domestic Product (GDP) and 0.23% of the total employment. Submarine cable connections also contribute importantly to the operation of Hong Kong s key service industries. Figure 1-3: Economic Contribution to Hong Kong s Economy 2.4 Tbps (Equipped Submarine Capacity) USD 1.8 Billion (Revenue) USD 810 Million (Value Added) 0.4% of GDP 8,100 (Employment) 0.23% of total employment Source: Frost & Sullivan

7 6 Consideration Factors when Choosing Landing Points There are several factors of consideration for submarine cable owners when choosing landing points during the planning and design of new submarine cable systems. Through the interviews conducted during the Study, the following factors were identified as key factors that will significantly influence the decision making process. From a strategic perspective, the four key factors identified are: regional demand for bandwidth; geographical location of landing point; presence of other submarine and overland cable systems for interconnection; and general business environment. From a regulatory perspective, the following three key factors were identified: government policies; ease of administrative processes; and facilitating investment environment. Strengths of Hong Kong as a Potential Landing Point for Submarine Cables Hong Kong possesses a number of strengths in attracting the landing of new submarine cables. Firstly, Hong Kong is located in the central part among Japan, South Korea and SEA, making it a natural geographical hub for these economies. Secondly, Hong Kong, with its close proximity, also serves as a gateway for the Mainland. Thirdly, any new submarine cable system which lands in Hong Kong will be able to interconnect readily with the existing systems for exchange of transit traffic and mutual system backup. Fourthly, Hong Kong is highly valued for its stable and pro-business environment, free market approach, and transparent regulatory and judiciary systems. These give assurance to investors in respect of their huge investments (amounting to a few billion Hong Kong dollars for a cable system) in the submarine cable systems, which have a typical life span of 20 years or more. Fifthly, Hong Kong is also highly valued for its position as a financial centre in the region, high density of regional corporate headquarters and the confluence of key technology segments (such as data centres and content service providers) which drive the

8 7 growth of the submarine cable industry in Hong Kong. Last but not the least, Hong Kong consumers are at the forefront of information technology applications, driving further demand for bandwidth. Constraints of Hong Kong as a Potential Landing Point for Submarine Cables Currently, parties interested in landing new submarine cables in Hong Kong have to approach various government departments for land acquisition, approvals for the laying of submarine cable, landing at an existing SCLS or building a new SCLS. The industry has pointed out that when compared with the other economies in the region, it takes a relatively long time for potential applicants to identify the relevant authorities and acquaint themselves with the application processes. Due to the geography of Hong Kong, it is more cost effective for submarine cables to land in Hong Kong from international waters via the southeast direction. This has restricted the choice of landing sites for submarine cables. Currently, there are three major areas for landing of submarine cables with SCLS: (1) Tong Fuk in the southern part of Lantau Island; (2) Deep Water Bay, Cape D Aguilar and Chung Hom Kok in the southern part of the Hong Kong Island; and (3) Tseung Kwan O (TKO) in the eastern part of the New Territories. The industry has raised concerns over the concentration of submarine cables in Tong Fuk and the southern part of the Hong Kong Island. The SCLS in TKO is spacious and could offer the necessary physical diversity. However, the existing operator is restricted by the current land lease from subletting the vacant space in the SCLS to enable more submarine cables to be landed there. Opportunities and Threats of Hong Kong as a Potential Landing Point for Submarine Cables The Study reveals that there will be high growth in the demand for external bandwidth from the Mainland and SEA as a result of the continuous development of their economies and telecommunications infrastructure in the region. Hong Kong should therefore be in a strong position to take advantage of this growth. Hong Kong may also benefit by the potential growth of the overland cables connecting the Mainland, India and Europe as Hong Kong may route the transit traffic between these economies and other countries in SEA. However, it is also noteworthy that other landing points in the region, including those in Singapore, Taiwan and the Mainland remain the competitive alternatives to Hong Kong for selection by owners of new submarine cables.

9 8 1.2 Main Recommendations Increasing the Transparency of Application Processes At present, the industry may find it difficult to get hold of the necessary information in respect of the application procedures and the statutory approvals for landing a new submarine cable in Hong Kong. It is therefore recommended increasing the transparency of the application processes with a view to helping the applicants understand the application requirements and flow of the processes, facilitating and expediting the application processes. Enhancing Coordination within Government to Expedite Approval Processes Currently, parties interested in landing new submarine cables in Hong Kong have to approach various government departments 2. If a new SCLS is to be built, the processes involve even more departments. It is recommended establishing an ad-hoc working group with representatives from relevant government departments and parties to deal with such applications. This will enhance collaboration and coordination among various parties and reduce the time required to process the applications. Ensuring Close and Timely Collaboration to Facilitate Cable Repairs Any submarine cable fault (which may be due to a natural disaster or unintentional damage by vessels passing by) will adversely affect the external connectivity of Hong Kong. It is recommended that applications for temporary licence for the cable repair vessel and employment visas for personnel on board the repair vessel to enter Hong Kong waters should be processed as quickly as possible to enable timely repair of the faulty cable and early restoration of the affected external telecommunications services. In additional to providing information to help submarine cable operators understand more about the application procedures and requirements, OFTA should strengthen the liaison with other relevant departments with a view to dealing with any request for assistance from the industry expeditiously. 2 The government departments may include the Lands Departments, Environmental Protection Department, Marine Department, Agricultural Fisheries and Conservation Department, Home Affairs Department and Leisure and Cultural Services Department, depending on the nature and scope of the project.

10 9 Considering Relaxation of Lease Conditions of Existing SCLS in TKO Industrial Estate (TKOIE) All the existing SCLS, except the one in TKOIE, may be shared by the equipment of new submarine cables subject to the terms and conditions of the land grant of the SCLS and relevant statutory requirements. The industry has raised concerns over the concentration of submarine cables in Tong Fuk and the southern part of the Hong Kong Island. In this respect, it is recommended that the lease conditions of the SCLS in TKOIE should be relaxed to allow shared use of the existing SCLS in TKOIE, and any new SCLS that may be built in TKOIE, for landing new submarine cables and co-location of affiliated data centres. This will provide for enhanced redundancy and diversity so that the risk of multiple cable failures in the event of an accident or disaster would be minimized. Use of the Designated Land in Chung Hom Kok Teleport for New SCLS At the Chung Hom Kok Teleport site, nine lots have been set aside for use as external telecommunications stations. One of which has been granted for SCLS and another for satellite earth station. The Government should leverage on the availability of the designated land and continue to reserve the coastal lots available there for development of submarine cable landing stations.

11 10 2. BACKGROUND OF STUDY 2.1 Background The Government of the Hong Kong Special Administrative Region, represented by OFTA, has commissioned Frost & Sullivan to conduct the Study. 2.2 Objective The primary objectives of the Study are to assess the economic benefits of landing submarine cables in Hong Kong and to recommend measures for the facilitation of landing submarine cables in Hong Kong. 2.3 Scope The scope of work is distributed into 2 main parts, encompassing the following 8 areas: Part 1 1. Provide information on the recent development of the submarine cable market in the Asia/Pacific region; 2. Gauge the needs for construction of new submarine cables connecting to Hong Kong; 3. Identify the economic contribution to Hong Kong as a whole and to the telecommunications industry if new submarine cables land in Hong Kong; 4. Identify the factors that operators will consider when choosing the landing points for their submarine cables; 5. Identify the strengths and constraints of Hong Kong as a major telecommunications and Internet hub in comparison with other cities in the region; 6. Identify the challenges and opportunities for Hong Kong in attracting investments and players in the submarine cable market;

12 11 Part 2 7. Recommend pragmatic, efficient and effective measures to overcome the constraints, face the challenges and grasp the opportunities as identified above; and 8. Gauge the future demand for SCLS, determine (a) whether the existing SCLS sites will be able to meet the future demand and (b) whether additional site locations will be needed for construction of new SCLS for the new submarine cable networks, and recommend the additional site locations, if the answer to (b) is affirmative.

13 12 3. CONCEPTUAL APPROACH 3.1 Overview To achieve the project objectives, OFTA has divided the scope into 8 specific tasks to be performed. Frost & Sullivan believes that these objectives can be met by researching the following tasks in the order shown below. Table 3-1: Mapping of Frost & Sullivan s Approach to the Project Tasks defined by Frost & Sullivan Demand for New Submarine Cables in the Region Current Supply of Submarine Cable Market and Factors for Choosing a Landing Point Economic Contribution to Hong Kong due to Landing of Submarine Cables (in Hong Kong or Otherwise) Strengths and Constraints of Hong Kong as a Telecommunications/Internet Hub Challenges and Opportunities for Hong Kong Recommendations on Measures to Position Hong Kong as the Key Telecommunications and Interconnection Hub Recommendations on Existing and New SCLS Tasks defined by OFTA in the Request for Proposal Task 2: Demand for New Submarine Cables Task 1: Current Development of Submarine Cable Market Task 4: Factors that Operators will Consider when Choosing Landing Points Task 3: Economic Contribution to Hong Kong Task 5: Strengths and Constraints of Hong Kong Task 6 : Challenges and Opportunities facing Hong Kong Task 7: Measures to Overcome Constraints and Challenges and Grasp Opportunities Task 8: Existing SCLS Sites and New Sites 3.2 Demand of Bandwidth for the Region The demand for new submarine cables is driven by the consumer/enterprise demand for bandwidth, need for redundancy/resilience of the physical network, need for connectivity to a particular geography, market forces in the submarine cable industry, and specific needs of telecommunications operators such as having a preference to own and operate their own cables. For identifying the demand for bandwidth, Frost & Sullivan used its internal industry-specific data, secondary sources, as well as its proprietary model for demand estimation. To identify the various parameters which are relevant for demand estimation, Frost & Sullivan interviewed industry participants

14 13 for their inputs to understand and validate the common parameters used within the industry for demand estimation. A quantitative model was subsequently designed based on these inputs to forecast the demand for bandwidth (classified by geographies and sources of demand). As an example, to identify the increase in bandwidth demand due to increase in voice traffic, Frost & Sullivan looked at parameters such as international call tariff trends, international minutes of usage-persubscriber trends, overall cellular/fixed telephony penetration trends from its industry data for each of the geographies which is being served by the submarine cable hub and added its expertise of the relevant telecommunications market to identify the increased bandwidth demand in the region. A more detailed methodology is presented in the relevant section of the report. 3.3 Supply of Bandwidth and Factors Determining Landing Points For a comprehensive understanding of the future bandwidth supply in the region and the factors which will determine the choice of countries/cities for landing points from the submarine operators point of view, information was collated through interviews with submarine cable operators who either manage a SCLS or those who own or lease bandwidth on the various submarine cable systems that land in the region. This step was critical in forming the foundation for this research study and analysis since the source of information came directly from operators who are engaged in the business and have an in-depth awareness of the various issues and factors that form the influencing factors. Based on the interviews and the industry knowledge, the future supply for the region was then presented. Factors which affected the choice of a landing point were also identified from the point of view of the submarine cable operators. The decision parameters used in the interview process are depicted in the figure below.

15 14 Figure 3-1: Decision Parameters for Choice of Landing Point 3.4 Strengths and Constraints of Hong Kong as a Major Telecommunications Hub Frost & Sullivan interviewed the various telecommunications players to identify the core strengths and constraints of Hong Kong as (1) the regional telecommunications and Internet hub, and (2) as a gateway to the Mainland. This includes understanding the industry dynamics of terrestrial and satellite networks as well as the major carriers of traffic to the Mainland. The telecommunications players interviewed belonged to one or more of the following categories of players: Internet service providers telecommunications service providers submarine cable operators (or network infrastructure providers) data center operators content service providers During the interviews, Frost & Sullivan covered the regulatory and licensing requirements, application procedures, operational costs, government incentives, manpower availability and other qualitative factors related to the growth of the telecommunications and submarine cable industry in Hong Kong. In addition,

16 15 information was gathered from relevant stakeholders/regulatory bodies such as Lands Department, Marine Department and Environmental Protection Department for their views and data on key issues, trends, and existing/future challenges in the submarine cable industry. Inputs from the initial face-to-face discussions with telecommunications players were used to form the baseline for the structure and approach of our discussions with the stakeholder groups. In addition, information on the roles of the stakeholder groups, with reference to the business activities/models of the industry, were validated. The strengths and constraints of Hong Kong were identified based on discussions with industry stakeholders, as well as through secondary research and comparisons made relative to key telecommunications hubs in the region. 3.5 Challenges and Opportunities for Hong Kong Based on the information gathered and the conclusions derived from the interviews, coupled with Frost & Sullivan s telecommunications industry expertise, the following four strategic questions were answered: a. What are the challenges and opportunities facing Hong Kong? b. What sorts of measures are required to overcome the challenges and constraints identified, without losing out on other opportunities? c. Will the current submarine cable infrastructure be able to meet these challenges and address the opportunities? d. If no, what are the steps that can be taken to cater to these issues? Through the primary data collation process, key challenges and opportunities facing Hong Kong in attracting more investments and players from international and regional submarine cable market, promoting, enhancing and sustaining Hong Kong s position as a leading telecommunications and Internet hub in the region were identified. These included opportunities which helped sharpen the competitive advantages of Hong Kong and enhancing and sustaining its position as a transit hub of choice in the region. In addition, the analysis focused on the opportunities and challenges arising due to rapid growth of external and transit traffic of the Mainland.

17 16 In conclusion, Frost & Sullivan strongly believes that the consulting and conceptual approach used allowed OFTA to: obtain a comprehensive understanding of the economic contribution of a new submarine cable (and the bandwidth made available) to Hong Kong and the impact due to losing the landing rights of new submarine cable systems to other cities; identify the current and future trends of the submarine cable market and subsequent implications of these trends for Hong Kong and for the region; obtain an understanding of the competitive positioning of Hong Kong relative to other cities in the region, with specific emphasis placed on Hong Kong s current position as a key regional telecommunications and interconnection hub; and evaluate the various options available in setting up new or facilitating the expansion of existing SCLS in Hong Kong. As a summary, the inputs for the Study were derived from: primary interviews with 23 industry participants (including submarine cable owners/operators, SCLS operators, as well as telecommunications and content service providers) and 9 interviews with the relevant government agencies and organization such as the Environmental Protection Department, Immigration Department, Lands Department, Marine Department, Planning Department, Hong Kong Science and Technology Parks Corporation (HKSTP), etc; secondary inputs were researched via literature review of industry research reports, news bulletins, annual reports of industry players, etc; and inputs from Frost & Sullivan telecommunications industry subject matter experts were also taken into consideration to obtain an in-depth understanding of the future trends of the telecommunications and submarine cable industries.

18 17 4. DEMAND AND SUPPLY FOR SUBMARINE CABLES 4.1 Economic Overview Very high dependence on international trade and finance left Hong Kong heavily exposed to the global economic slowdown that began in After experiencing a real GDP growth rate of over 5 per cent from 1989 to 2007, Hong Kong suffered a sharp slowdown in the second half of 2008 and the growth rate came down to 2.8 per cent in During the last decade, the service industry had experienced a boom and it now accounts for 92 per cent of Hong Kong s GDP. The total value of international trade, including the sizable share of re-exports, was equivalent to 404 per cent of GDP in The largest trading partner is the Mainland, accounting for nearly 50 per cent of Hong Kong s import or export trade by value in Increasing integration with the Mainland and the Mainland s easing of travel restrictions have led to an increase in the number of tourists in Hong Kong to 29 million tourists in as compared to 4.5 million in Hong Kong has also established itself as one of the premier financial hubs in the world. The Hong Kong stock exchange, with a combined market capitalization of USD 2.3 trillion, is the 7 th largest stock exchange in the world 4. The Hong Kong government has a constant focus on developing Hong Kong s position as a key financial and services sector hub. 4.2 Telecommunications Sector Overview Hong Kong has been and continues to be one of the most sophisticated telecommunications markets in the world. It has the world s highest penetration of mobile phones and a fixed line tele-density of over 53 per cent, which is one of the highest in Asia. By December 2009, based on OFTA s data, there were 12.2 million mobile subscribers, representing an impressive mobile penetration of about 174 per cent. 3 Source: Hong Kong Tourism Board (HKTB) 4 Source: World Federation of Exchanges - After New York Stock Exchange Euronext (US), Tokyo Stock Exchange, NASDAQ OMX, New York Stock Exchange Euronext (Europe), London Stock Exchange and Shanghai Stock Exchange. As of end 2009, Hong Kong Stock Exchange had a total estimated market capitalisation of USD 2.3 trillion.

19 18 Since 1995, Hong Kong has been wired extensively with optical fiber. The total number of broadband subscribers in Hong Kong has exceeded 2 million. Hong Kong s telecommunications success has been due to liberal licensing procedures and an absence of restrictions on foreign investment. Since 1998, the government has taken several steps to further promote the telecommunications sector and the government s open sky policy has been an example of this proactive approach. This policy granted five licences for wireless local fixed telecommunications network services (FTNS) and 12 licences for satellite-based External Fixed Telecommunications Network Services (EFTNS). In addition, it also granted Hong Kong Cable TV (i-cable) the right to transmit data through its cable modem technology. The large number of telecommunications service providers makes Hong Kong a very competitive telecommunications market. For example, there are 10 wireline based local fixed network operators as of October Even though there has been a steady decline in fixed line telephone subscription since 2007, the mobile subscription base has steadily grown by almost 12 per cent per annum since Frost & Sullivan estimates that mobile penetration would increase in Hong Kong at a rate of about 2.5 per cent per annum over the next 5 years and the mobile data revenue would increase by over 18 per cent per annum over the same period. Furthermore, Hong Kong faces a huge demand from the Mainland for incoming and outgoing transit traffic. Considering that the Mainland has been experiencing a growth in mobile penetration of more than 11 per cent per annum, and with a forecasted growth of mobile data revenue of over 40 per cent per annum over the next 5 years, there is an immerse opportunity for Hong Kong, taking on the role as a telecommunications gateway for the region. 4.3 Demand for External Bandwidth Based on Frost & Sullivan s estimates, the demand for external bandwidth is expected to increase from 0.52 Tbps in 2008 to 2.91 Tbps in 2015 (base case scenario). In the high case, external bandwidth demand will increase at a CAGR of over 35 per cent from 2009 to reach 4.34 Tbps by 2015.

20 19 Figure 4-1: External Bandwidth Demand in Hong Kong (CAGR: ) CAGR=35.4% 3.5 Low 3.0 Base Tbps High CAGR=27.9% 1.5 CAGR=20.6% Source: Frost & Sullivan The current demand for bandwidth in Hong Kong is driven largely by the enterprise segment, which has resulted in a strong demand for bandwidth for Internet, voice and private networks. Hong Kong s position as a financial centre has also brought about a substantial number of data centre operations. This has influenced the volume of traffic flowing in and out from Hong Kong. As a forerunner in terms of technology adoption, Hong Kong s future demand for bandwidth will depend on the penetration rate of bandwidth-intensive applications. Based on Frost & Sullivan s interactions with industry players, the majority are optimistic that Hong Kong will retain its position as a telecommunications hub for the region. The expected boom in demand for external bandwidth will come from Internet applications such as Voice over Internet Protocol (VoIP) services, video streaming, peer-topeer (P2P), and Multi-Protocol Label Switching (MPLS) based Internet Protocol Virtual Private Network (IP VPN), and the growth of private networks. 4.4 Supply of External Bandwidth Hong Kong is currently served by 9 submarine cables - Thailand-Vietnam-Hong Kong (T-V-H), Asia Pacific Cable Network (APCN), FLAG Europe-Asia (FEA), SeaMeWe-3, Asia Pacific Cable Network 2 (APCN-2), EAC-C2C, FLAG North Asia Loop/REACH North Asia Loop (FNAL/RNAL), Asia-America Gateway (AAG) Cable System, Tata TGN-Intra Asia (TGN-IA) with a combined lit capacity of 6.5 Tbps

21 20 and total max capacity of 43.2 Tbps. All cables, except the EAC-C2C cable system, land at the SCLS in Tong Fuk, South Lantau or Deep Water Bay. 5 out of 9 cables are consortium cables with REACH being a consortium member for 4 of them and PCCW being a member for all 5 of them. Among these cables, APCN and SeaMeWe-3 are currently being upgraded, while T-V-H is expected to be retired by The table below shows the lit and max capacity of all 9 cable systems in Hong Kong. Table 4-1: Submarine Cables in Hong Kong Submarine Cable Name RFS Year Length (km) Lit Capacity Max Capacity (Gbps) (Gbps) T-V-H ,354 n.a. n.a. APCN , FEA , SeaMeWe , APCN ,000 1,360 8,960 EAC-C2C ,500 1,820 20,480 FNAL/RNAL ,020 7,680 AAG , ,920 TGN-IA , ,840 Total 6,535 43,180 Source: TeleGeography As can be seen, besides the 2 cable systems which entered Hong Kong in 2009, there was no major investments in the submarine cable industry in Hong Kong from 2002 to But, based on the statistics available from OFTA, the equipped submarine and overland cable capacity had increased steadily over the period to reach 3.96 Tbps in December One potential reason for the lack of new investments could be an over investment in the submarine cable industry during the dot.com boom, resulting in excess capacity. Table 4-2: Changes in Submarine Cable Capacity in Hong Kong Equipped Capacity (Gbps) ,454 2,384 Max Capacity (Gbps) 27,090 27,090 27,090 27,090 27,090 27,090 27,090 Percentage 1.6 % 1.7 % 1.8 % 2.4 % 3.2 % 5.4 % 8.8 % Source: OFTA, TeleGeography

22 21 As per the information available, 4 more cables are expected to land in Hong Kong in the near future. A brief description of the cables is given below. Submarine Cable Name Table 4-3: New Cables Expected in Hong Kong RFS Year Length (km) Lit Capacity (Gbps) Max Capacity (Gbps) Submarine Cable Asia Network (SCAN) 2011* 4, ,920 Asia Pacific Gateway (APG) ,000 n.a. 4,000 South East Asia Japan Cable (SJC) ,300 n.a. 23,000 FLAG NGN-Peacock n.a. n.a ,560 Total ,480 * = tentative Source: TeleGeography, International news recently released SCAN is a privately owned cable system of Telemedia Pacific and Fangbian Iskan Corporindo and the scheduled ready for service (RFS) date might be pushed back. FLAG NGN-Peacock, owned by Reliance Globalcom, was expected to be ready for service in 2010 but had been put on hold due to the global economic crisis. New cable systems can land in Hong Kong due to other reasons such as: Network Resiliency to add resiliency to a particular route or for a particular player. Industry Structure due to their business strategies, existing and new players may opt to land new cable systems rather than lease capacity on the existing ones. To cater to the demand from the Mainland and the region where Hong Kong can act as an interconnection and telecommunications hub for the region. In anticipation of future demand and the possible scenarios above, certain steps may need to be taken to cater for additional new cable systems. The decision formulation process will have to take into consideration the availability of SCLS facilities. Recommendations will subsequently be provided under the recommendation section.

23 22 5. THE HONG KONG MARKET 5.1 Existing and Potential Players Some of the incumbent submarine cable owners in Hong Kong are: REACH, PCCW, Tata Communications, Pacnet and Reliance Globalcom. Along with these players, there are many international players in the market like AT&T, BT, Telstra and France Telecom. New players like Telemedia Pacific are coming up with investments in Hong Kong in near future. The following section provides a brief overview of the current investments and future plans of the major players in Hong Kong. PCCW and REACH PCCW being the incumbent operator in Hong Kong has had an advantage over other players in Hong Kong. Besides owning submarine cables, PCCW also provides backhaul services for the submarine cables. PCCW owns 50 per cent stake in REACH which builds and manages submarine cables and SCLS (in Hong Kong Deep Water Bay, South Lantau, Tong Fuk and Cape D Aguilar). Pacnet Besides owning a SCLS in TKO, Pacnet (formerly known as Asia Netcom) has integrated the EAC network with C2C Cable Network into a meshed intra-asian cable network. The integrated network provides about 20 Tbps of max capacity across the network. Pacnet also acquired regional ISP Pacific Internet in Beside the EAC-C2C cable network, Pacnet is not planning to bring in any other cable. They will control 2 fiber pairs on Unity (trans-pacific from Japan to the US) but no more investment in Hong Kong is planned at the moment. Telemedia Pacific Telemedia Pacific is a submarine capacity wholesaler. It is currently in the process of planning its first cable system the Telemedia Pacific Cable Network (TPCN) which will start operations in Singapore and the region from 2011 (estimated). The Submarine Cable Asia Network (SCAN) cable system, that was initially planned, was designed to provide a direct connection between Indonesia and Hong Kong. However, SCAN has been put on hold with an initial focus on the roll-out of TPCN, linking Indonesia to Singapore

24 23 and inter-connecting to the South-East Asia Japan Cable (SJC) system. The landing points of SJC include Singapore, Hong Kong, Indonesia, Japan and the Philippines. Tata Communications Tata Communications (formerly VSNL) is a major player in the region. The company focuses strategically on traffic going to/from India. The relatively new TGN-IA cable system links Singapore to Japan (direct link) with a branch to Hong Kong. The cable actually completes the loop as Tata already has good connectivity from India to Singapore and from Japan to the US. The cable has a low latency of 63 ms and also adds diversity to the Singapore-Japan route. Besides TGN-IA, Tata also has investments in APCN, APCN-2 and T-V-H in Hong Kong. Tata wants to strike a balance between leasing and owning of cables. Since customers are much more efficient in planning their diversity by choosing different players, Tata wants to differentiate itself on the services it offers. To compete in the services market, Tata needs to buy capacity from other players and make their own virtual mesh which provides an ideal resilient network for their customers. Reliance Globalcom/FLAG FLAG Telecom was acquired by Reliance for USD 207 million in cash in Reliance currently owns 2 cable systems in Hong Kong, the FNAL and FEA, with a combined designed capacity of over 4 Tbps. The FNAL cable system has a total lit capacity, for each of its Eastern leg and Western leg, of about 900 Gbps. Reliance has been upgrading its lit capacity by Gbps every six months, and it is expected that this will continue for some time. FLAG NGN-Peacock was supposed to be ready for service in Q but its schedule had been pushed back due to the financial crisis. Reliance also owns the Tong Fuk SCLS in partnership with REACH, in a joint venture, and hosts the FEA cable system.

25 Operating Environment Global Trends In 2001, before the infamous dot com bust, investments in the submarine cable systems were over USD 13.5 billion. However, just after the bandwidth market bubble, new cable construction slowed to a nearhalt as investors spent less than USD 2 billion in total on all submarine cables that entered service between 2004 and Cable construction has started picking up again since More cables are set to be built between 2009 and 2011 (41 cables) than were constructed during the infamous boom of (39 cables). This resurgent growth cycle in the submarine cable industry can be attributed to the growing demand for bandwidth from bandwidth-intensive applications, and a growing consumer base in developing markets like the Mainland and India. Learning its lessons from the earlier supply glut, the submarine cable industry is taking a more cautious approach this time around. Figure 5-1: Global Spending on Submarine Cable Terminating Equipment (USD Billion) 4 3 Bubble Growth Industry Collapse Cautious Recovery Source: Frost & Sullivan The combined effects of technological advances, market liberalization and competition forced capacity prices to decline significantly over the past decade. However, the decline has slowed down in recent years. On the largest trans-pacific route, the median monthly lease prices declined 10 per cent in 2008 as compared to 20 per cent in Similar patterns prevailed in many routes starting from Western Europe, Latin America, to intra-asian and trans-atlantic submarine cable routes. There were some exceptions as well. For example, prices of STM-1 circuits from Singapore to Bangalore (India) fell 34 per cent in 2008.

26 25 There is a tremendous disparity between wholesale capacity prices around the world. As the market matures and competition grows, a lowering of prices in those routes can be seen. That is why the lowest prices can be found in inter-city routes in highly developed and competitive markets like the US and Western Europe. As expected, prices across the Pacific and in Asian countries tend to be higher. This is primarily because of the monopoly of international operators in developing countries. From the buyers perspective, the concept of volume discounting is very much predominant. For example, in Q4 2008, the median monthly price per Mbps of a London New York 10 Gbps wavelength was USD 1.43, compared with USD for a 155 Mbps STM-1. Hence, it is also very common for network users to buy large amount of capacity and then keep them unutilised. In addition, there is also a growing demand for high capacity circuits. Falling prices of network connectivity, along with volume discounting, further reduce the effective price of network capacity. The 2001 dot.com bust of the submarine cable industry led to numerous changes in the business model of the submarine cable industry. These fundamental changes happened in the operations model of the submarine cable industry starting from network architecture to financing the whole submarine cable investment. The long time horizon of cash flow generation along with the high risk and dynamic nature of the industry forces the incumbents to consider pragmatic investment opportunities. This has led to newer cables being shorter in distance, with most of the cables employing a single linear span design rather than the costly ring or mesh architecture. Another change has been witnessed in the nature of investment. Consortium cables have made a comeback in recent years, but the only difference is in the fewer number of members. For example, the planned IMEWE cable has nine members, compared with the older SeaMeWe-3 cable with 34 members. The smaller consortium sizes increase the capital investment per carrier but also add tremendous amounts of flexibility. Flexibility is of primary importance because with newer technology, it is very easy to upgrade the capacity of cables and decisions can be made faster with a smaller number of members. The financial health of big network carriers like Tyco, NEC, Alcatel/Lucent, AT&T, Telstra and Reliance is also better. It is expected that Internet traffic will show robust growth in the future. However, the tightening of access to capital may affect how this traffic growth translates into new capacity purchases and

27 26 network expansion. Instead of investing in network capacity, some network operators may choose to postpone new capacity purchases and run their networks at higher utilization levels. However, the construction projects of new undersea cables remain largely on track despite the recession. In fact, several contracts for new submarine cables had been announced already in Pricing Trends The intra-asia route has seen a spate of activity in recent years and many more cables are expected in the next few years. Most of the recent activities have been concentrated in South and South-East Asia and not a lot of investment has come into the East Asian region. This has led to a stable pricing in the East Asian region with prices not dropping significantly in According to TeleGeography research, monthly median lease prices for STM-1s on most East Asian routes remained stable with routes such as Hong Kong-Taipei and Hong Kong-Tokyo remaining in the USD 8,000 to USD 9,000 range, while Hong Kong-Singapore dropped 10 per cent to USD 11,400. Hong Kong and Shanghai remained near USD 30,750, while Beijing Hong Kong held stable at USD 13,650. For 2009, TGN-IA is expected to cause price drops. The historical pricing trends can be seen in the figure below for major intra-asia routes from Hong Kong. 45,000 40,000 35,000 Figure 5-2: Pricing Trends of Routes from Hong Kong to Other Locations (USD per month per protected STM-1) US $ per STM-1 30,000 25,000 20,000 15,000 10,000 5, Beijing Shanghai Tokyo Singapore Taipei Los Angeles Source: TeleGeography, Frost & Sullivan

28 27 On the trans-pacific route as well, the prices for bandwidth have been falling and the median price per STM-1 from Hong Kong to Los Angeles is around USD 15,000 per month. With the current activity in the market, the price for bandwidth to Tokyo, Singapore and Taipei is expected to fall due to competition in the market, while prices to Beijing and Shanghai will remain stable due to huge demand of bandwidth from the Mainland.

29 28 6. ECONOMIC CONTRIBUTION OF SUBMARINE CABLE INDUSTRY TO HONG KONG To identify the economic contribution of the submarine cable industry to Hong Kong, Frost & Sullivan classified the economic contribution into three categories direct, indirect and induced contribution. Direct Contribution: Contribution that is attributable to the operation of submarine cable industry in Hong Kong the submarine cable operators and the SCLS operators. Indirect Contribution: Contribution of the submarine cable industry to the operation of Hong Kong s telecommunications sector. Induced Contribution: Contribution attributable to the spending of the submarine cable and other telecommunications sectors on the non-telecommunications sectors of the economy (i.e. the linkage effect); and the contribution attributable to the consumer spending of the persons engaged in the submarine cable industry and other telecommunications sectors. Tier of influence Figure 6-1: Economic Contribution of Submarine Cable Industry to Hong Kong Direct Contribution Submarine Cable Operators Submarine Cable Landing Station Operators Indirect Contribution Telecommunications Industry Contribution: Revenues Value Added Employment Induced Contribution Manufactu ring Construc tion Logistics. Healthca re Educatio n BFSI Others Frost & Sullivan chose 1 Gbps of equipped submarine cable capacity (equipped capacity) as the unit of analysis, instead of choosing a cable so as to have a consistent measurable unit. In the case of a submarine cable, the actual bandwidth in Gbps varies from cable-to-cable. Furthermore, the economic contribution analysis is a marginal as-is analysis, which might change due to changes in technology, business models, revenue structures or any regulatory changes. All figures quoted here have an error margin of ±5 per cent, unless otherwise stated.

30 29 Frost & Sullivan estimates that the total revenue contribution due to an additional 1 Gbps of equipped capacity for Hong Kong will be USD 754,421. In terms of value added, the additional 1 Gbps of equipped capacity adds USD 339,624 to Hong Kong economy. Also, 3.4 jobs are generated for every additional Gbps of equipped capacity. The figures below show the breakdown of direct, indirect and induced contribution of 1 Gbps of equipped capacity to Hong Kong s economy for $800,000 Figure 6-2: Revenue Contribution of 1 Gbps of Additional Equipped Capacity US $/ Gbps $700,000 $600,000 $500,000 $400,000 $300,000 $200,000 $100,000 $0 202, , , ,978 Direct Indirect Induced Total Source: Frost & Sullivan $400,000 $350,000 Figure 6-3: Value Added Contribution of 1 Gbps of Additional Equipped Capacity US $/ Gbps $300,000 $250,000 $200,000 $150,000 $100,000 $50,000 $0 143, , ,226 66,948 Direct Indirect Induced Total Source: Frost & Sullivan

31 30 Figure 6-4: Employment Contribution of 1 Gbps of Additional Equipped Capacity #/ Gbps Direct Indirect Induced Total Source: Frost & Sullivan As can be seen, the overall revenue contribution is highest for the indirect contribution, but value added and employment contribution is highest for induced contribution. Frost & Sullivan also calculated the change in consumer surplus for telecommunication services due to an additional Gbps of equipped capacity in Hong Kong. It is estimated that for an additional Gbps of equipped capacity, the consumer surplus will increase by 0.17 per cent. 6.1 Direct Contribution Direct contribution is the economic contribution of an additional Gbps of equipped capacity that is attributable to the operation of the submarine cable industry in Hong Kong the submarine cable operators and the SCLS operators. Results Frost & Sullivan estimates the following values for direct contribution to the submarine cable industry. Table 6-1: Direct Contribution of 1 Gbps of Additional Equipped Capacity SCLS Operators Submarine Cable Operators Revenue per Gbps (USD) 2, ,209.8 Value Added per Gbps (USD) 1, ,844.5 Employment per Gbps(#) Source: Frost & Sullivan

32 31 Methodology Submarine Cable Operators For submarine cable operators, the overall revenues were calculated based on the median bandwidth prices (for STM-1) for different routes from Hong Kong to Japan, the Mainland, Taiwan and Singapore and the amount of traffic flowing in these different routes from Hong Kong. The median bandwidth prices were derived from TeleGeography research, while the traffic flowing in different directions was estimated based on the industry interactions and Frost & Sullivan s own research. The overall revenues were then apportioned to Hong Kong by considering each of the 7 submarine cables and the share of revenue attributed to its Hong Kong owners. Median Bandwidth Prices on different routes (USD /STM-1) Traffic Flow on Different Routes (STM-1) Total Revenues from cables in Hong Kong Apportioning the revenues to Hong Kong Total Revenues attributable to Hong Kong After calculating the revenues for the sector, the value added and the employment figures were calculated by employing the current ratio of value added-to-revenues and employment number-to-revenues for the telecommunications industry, as it is assumed that the value added and employment for this industry ratio will be similar to the telecommunications industry due to similar structures and business operations. Please see the methodology in Section 6.2 for calculations of value added-to-revenues and employment numberto-revenues ratio. Methodology SCLS Operators SCLS are not considered profit centers by the industry, as per the industry interactions. Most players calculate access charges based on actual costs and small margins. Frost & Sullivan has calculated the revenue for SCLS operators by assuming that operating income margins are zero 5 and the operating costs for a SCLS is USD 1.1 million per annum (average cost of SCLS in Hong Kong, as per industry interactions). The depreciation was assumed to be a straight-line depreciation over a period of 40 years (the average life of SCLS, as per industry interactions). 5 A zero operating margin would provide the lower limit of economic contribution. The margin was assumed to be zero so as to have the conservative estimates of the economic contribution to the industry.