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The global economic situation

In 1978, then President Pinochet, commenced the opening of the telecommunications sector in Chile with new laws and the introduction of private investment and competition in non-basic, value added services in Chile. Almost simultaneously, he withdrew Chile from the Andean Pact, citing as his reason the Pact’s inclination against a decentralized, market-based economy. The commencement of continuous updates on the new telecommunications laws, and the appearance of new service providers propelled the telecommunications sector in Chile to a level of private investment, which exceeded virtually all of its neighbors in the 1980’s.

Then, in 1988, the Government of Chile, through the Secretariat of Communications, undertook to sell all of its shares in the dual telecoms monopoly. Entel Chile had been the monopoly for long distance and international service and Compania de Telefonos de Chile (“CTC”) had been the monopoly for local exchange service. Alan Bond’s Bond Group of Australia bought CTC, the larger and more profitable of the two companies. Telefonica of Spain bought a minority share, but controlling stake, in Entel Chile.

Within two years of the sales, the Bond Group encountered financial and legal problems, which landed its leader in jail in Australia and forced the need to sell of

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its telecommunications properties, including CTC. As the Government of Chile had not maintained control over the transfer contractually, the transaction of sale was privately conducted between Telefonica of Spain (the obviously interested and most motivated purchaser) and the Bond Group in Australia.

The result was that Chile; having spent twelve years introducing competition in its telecommunications sector was again faced with the potential of monopoly control of its two major carriers. The Antimonopoly Commission and then the Chilean Courts reviewed the matter, received extensive legal briefs, read all material written on the break-up of AT&T in the U. S. as a comparison, and after four years of litigation, reach a conclusion.

The Court up-held CTC’s right to enter the long distance and international market to compete with Entel and others, once CTC completed certain digitalization and other acts designed to eliminate its bottleneck capabilities. Also, it granted Entel the right to provide local exchange service. Finally, and most resoundingly, it required the divestiture by Telefonica of its interests in one or the other of the companies within 18 months of the decision. Telefonica logically elected to dispose of its interests in Entel, and maintained control of CTC, the larger of the companies.

CTC went on to do a very successful capital markets offering in the U. S. and the Chilean market opened to a multi-carrier long distance, and local exchange service in the mid-1990’s. In long distance service, eight operators immediately rushed in to compete upon the opening of the market. The small size of the population coupled with the steep in international service made Chile the least expensive international dial tone in the Western Hemisphere. It also caused the eventual merger of competitors and elimination of others.

Nevertheless, Chile’s commitment to enforcement of its rules and regulations, and the robust growth of its economy fueled investment in its telecommunications sector throughout the decade. Recently, however, a decree by the Government concerning regulation of tariffs, specifically related to the monthly recurring charge, has caused a moratorium on investment in local exchange service in the country.

This phenomenon is a manifestation of the changing nature of the economics of the sector examined in the last Part IV of this paper. B. Mexico. Mexico has had an interesting history with the U.S. Being a contiguous neighbor, greatly impacted by all actions by the U. S. regulator and the corresponding positioning of U. S. carriers, Mexico has had an unique position in U. S. international telecommunications policy and statistics; and conversely, a great impact positively and negatively on the development of the Mexican telecommunications sector. In the 1970’s and the 1980’s the government-owned Mexican PTT corresponded with AT&T, the U. S. long distance carrier that accounted for over 90% of the international traffic to its southern neighbor.

When AT&T’s competitor, the then GTE-Sprint, tried to gain market entry in the 1980’s, AT&T had made Mexico a deal it could not refuse and Mexico resisted competitive entry even at the strong encouragement of the U. S. Government. In an international settlements environment where most international carriers “settled” their accounts with each other on a 50-50 basis (each carrier paying the other 50% of the accounting rate agreed to between them to complete the call on either end), AT&T had agreed to pay Mexico 70%, while AT&T would accept 30%.

Since international traffic was then and for some time thereafter over 40% of the Mexican company’s total revenue and over 90% of its international traffic was with the U. S. , the AT&T deal quickly became literally the lifeline of the Mexican telephone company. This was true to the point that when in the late 1980’s the U. S. Federal Communications Commission (“FCC”) set out vigorously to impose its International Settlements Policy on U. S.

carriers exchanging traffic with TELMEX, which would require the brisk shift to 50-50 from 70-30, the officers of TELMEX flew to Washington to impress upon the FCC the severe threat of bankruptcy of the company if such a program were instituted “cold turkey”. The FCC recanted and allowed a “phase in” to then U. S. “normalcy”. In the meantime, as part of the FCC’s campaign to expand competition in the U. S. international traffic market, it seized the opportunity to “encourage” Mexico to share at least 5% of its traffic with the new lead U. S.

international competitor, MCI. The irony of this piece of Mexican telecommunications history as we will see below, is that it is now MCI-WorldCom’s and AT&T’s Mexican long distance subsidiaries suffering most from Mexican regulation and enforcement policies which they believe are designed to “control” the level at which they compete with TELMEX today in an open telecommunications sector; to the point that the two had declared a “moratorium” on their further investment in the Mexican telecommunications sector and urged the FCC to intervene on their behalf.

Not surprisingly, a considerably more mature Mexican commercial government than the one the U. S. dealt with in the 1980’s has reminded the FCC of Mexico’s sovereignty and has sought to resolve the conflict completely free of U. S. intervention. In the late 1980’s the Mexican telephone company was an under-performing monopoly that, typically for its era, and bureaucratic ownership, used sharp cross-subsidies of its services to mask severe inefficiencies.

The result was a national monopoly provider to telecommunications services, with strong governmental protection, that almost literally gouged its international customers, with rates at hundreds of multiples above cost, while barely covering one third of its costs to provide the limited local exchange service it provided. Following two in-depth corporate restructuring studies conducted by U. S. consultants, TELMEX reorganized itself into five divisions, designed to allow the company to identify its costs, subsidies and revenue streams and rationalize them.

The “corporatization” took about 18 months, after which 20. 4% of TELMEX’s shares were sold to private strategic investors for nearly U. S. $2 billion. This sobered those who laughed at TELMEX’s pre-restructuring estimate of its corporate worth at U. S. $10 billion. The international 1990-91 IPO was a raving success with overseas markets clamoring for a larger share and a share value that went from U. S. $0. 10 just prior to privatization, to U. S. $65 at its peak! The rest, as they say, is history.

The TELMEX privatization was structured to serve Government’s priorities, which included Mexican blood voting the last vote in TELMEX’s management, and a foreign ownership not to exceed 10% of the company’s equity, at least in the area of voting stock. For reasons related to the pre-privatization rising of capital by the company, and the need to cede management and operational control to the strategic investors, the restructured company ended up with three classes of stock for privatization.

Class AA represents 20. 4% of the company, but most of its voting shares. It controls the company. Of that class, Grupo Carso purchased 10. 4% (being the “Mexican blood”) and France Telecom and South Western Bell evenly shared the “foreign strategic 10%. SBC also made a passive investment in options on 5% of the non-voting shares, which resulted to be very successful for it.

The privatization brought with it, a New Mexican telecommunications law of October 1990 and a six-year exclusivity period for TELMEX over long distance service, in exchange for a very vigorous (perhaps overly so in hind-sight) build-out and service obligation, and a mandatory reversing of the cross-subsidies. Having personally worked on the TELMEX privatization, I can relate that it was truly the turning point in the explosion of the Mexican telecommunications sector.

Within one year of the expiration of the exclusivity period, the Government and regulator, now COFETEL, accepted suggestions from interested parties and from TELMEX as to how to go about how to introduce Mexico’s multi-carrier system. While long distance and private line service had been the lucrative pursuits for most, local exchange also was given attention and carriers encouraged to enter. More than a dozen new operators were licensed in long distance from the expiry of the exclusivity period in 1996 through present.

While levels of investment are high, the road has been rocky for some. Also, since 1996, other services have been opened and new technologies are being deployed with private operators in almost regular pace with the industrialized world. Mexico’s economy has recovered from its fall in the late 1980’s, and its telecommunications sector is increasingly robust and supportive of and supported by its economy. Nevertheless, like investment anywhere, and certainly in emerging economies, risk factors must be carefully assessed.

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