Managerial Economics and Business Strategy, 8e © 2014 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part. 1 | P a g e Case Summary 1 Pricing at Deutsche Telekom Michael Baye and Patrick Scholten prepared this case to serve as the basis for classroom discussion rather than to present economic or legal fact. The case is a condensed and slightly modified version of the public copy documents involving the Commission of the European Communities’ Case Comp/C-1/37.451, 37.578, 37.579 – Deutsche Telekom AG. Overview of Germany’s Telecommunication Industry Deutsche Telekom (DT) owns and operates the fixed telephone network in Germany. DT’s local networks consist of a number of local loops, which are the physical circuits connecting subscribers to the fixed public telephone network. Prior to 1996, the German State wholly owned DT and was responsible for building the fixed telephone network with public resources, which it did over a long period of time. On November 18, 1996, a 25 percent equity share in DT was sold to private investors in order to generate over DEM 20.1 billion in capital to fund further expansion of its network. After DT took over VoiceStream/Powerel in 2000, the German State surrendered part of their holdings. Today, 56.95 percent of DT is owned by institutional and private investors, 30.92 percent by the German State and 12.13 percent by the German recovery bank – Kreditanstalt für Wiederaufbau. Prior to the enactment of the Telecommunications Act on August 1, 1996, DT was a legal monopoly in the provision of retail fixed-line telecommunication services. To compete with DT, new entrants needed to invest large sums of capital to develop a network infrastructure (optical fiber, cable television, power lines, etc.) to provide retail telecommunication services. Overcoming the economies of scale experienced by DT along with its extensive nationwide coverage made entry by new firms unprofitable. The 1996 Telecommunication Act, however, required DT to allow new competitors direct access to its infrastructure and thereby created more competition in the provision of retail access to telephone services. While DT is the only operator with nation-wide network coverage, post Telecommunication Act, it faces varying degrees of competition in the provision of telecommunication infrastructure (wholesale access to its network) and in the provision of retail telephone services. The Telecommunication Act leveled the competitive playing field by permitting financially weaker competitors to gain direct access to the German retail market through DT’s network. The rules that govern telecommunication services in Germany are regulated according to access type. That is, the rules governing retail acc ...

1. Managerial Economics and Business Strategy, 8e
© 2014 by McGraw-Hill Education. This is
proprietary material solely for authorized
instructor use. Not authorized for sale or
distribution in any manner. This document may
not be copied, scanned, duplicated, forwarded,
distributed, or posted on a
website, in whole or part. 1 | P a g e
Case Summary 1
Pricing at Deutsche Telekom
Michael Baye and Patrick Scholten prepared this case to
serve as the basisfor classroom discussion
rather than to
present economic or legal fact. The case is a
condensed and slightly modified version of
the public copy documents
involving the Commission of the European
Communities’ Case Comp/C-1/37.451, 37.578, 37.579
– Deutsche
Telekom AG.
Overview of Germany’s Telecommunication Industry
Deutsche Telekom (DT) ownsand operates the fixed
telephone network in Germany. DT’s
local networks consist of a number of local loops,
which are the physical circuits connecting

2. subscribers to the fixedpublic telephone network.
Priorto 1996, the German Statewholly
owned DT and was responsible for building the
fixedtelephone network with public resources,
which it did over a long period of time.On
November18, 1996, a 25 percent equity
share in
DT was sold to private investors in order to
generate over DEM 20.1 billion in capital to
fund
further expansion of its network. After DT took
over VoiceStream/Powerel in 2000, the
German Statesurrendered part of their holdings. Today,
56.95 percent of DT is owned by
institutional and private investors, 30.92 percent by
the German Stateand 12.13 percent by
the German recovery bank – Kreditanstalt für
Wiederaufbau.
Priorto the enactment of the TelecommunicationsAct on
August 1, 1996, DT was a legal
monopoly in the provision of retail fixed-line
telecommunication services. To compete with
DT, new entrants needed to invest largesums of
capital to develop a network infrastructure
(optical fiber, cable television, power lines,
etc.) to provide retail telecommunication
services.
Overcoming the economies of scaleexperienced by
DT along with its extensive nationwide
coverage made entryby new firms unprofitable.
The 1996 Telecommunication Act, however, required DT to
allow new competitors direct
access to its infrastructure and thereby created
more competition in the provision of retail

3. access to telephone services. While DT is the
only operator with nation-wide network
coverage, post Telecommunication Act, it facesvarying
degrees of competition in the
provision of telecommunication infrastructure (wholesale
access to its network) and in the
provision of retail telephone services. The
Telecommunication Act leveled the competitive
playing field by permitting financially weaker
competitors to gain direct access to the
German
retail market through DT’s network. The rules that
govern telecommunication services in
Germany are regulated according to access type. That is,
the rules governing retail access are
different from those regulating wholesale access.
This case examines alleged unfair pricing practices
against DT by competitors and retail
customers after the TelecommunicationsAct of 1996.
The primary charge against DT is that
Managerial Economics and Business Strategy, 8e
© 2014 by McGraw-Hill Education. This is
proprietary material solely for authorized
instructor use. Not authorized for sale or
distribution in any manner. This document may
not be copied, scanned, duplicated, forwarded,
distributed, or posted on a
website, in whole or part. 2 | P a g e
the margin between the prices DT charges

4. competitors for unbundled access to local
loops
(wholesale access) in Germany and the prices
charged for retail access is sufficiently
small
making it unprofitable for new entrants to
compete.
Product Markets and Regulatory Environment
Wholesale Access
Local-level access to DT’s fixed-telephone
networks can take two different forms. One-way
DT
was permitted to provide access to its networks
was line sharing, whereby competitors pay
fees for shared use of local loops (initially this
connection type was not required). Line sharing
permits an incumbent firm (in this case DT) to
continue offering voice telephony services and
use the same line to permit an entrant to offer a
new service, like high-speed Internet access.
From a technical perspective, voice and data
line sharing are achieved by connecting a
splitter
and multiplexer (a voice-data filter) between
the incumbent’s switch and the local loop.Under
line-sharing arrangements the local loop remains an
integrated part of the incumbent’s (DT’s)
network.
In contrast to line-sharing arrangements, full
unbundled access to a local loop occurs
when a

5. market entrant completely takesover selected local
loops. Technically, at the switch different
retail consumers are separated and connected to
the subscriber’s main distribution frame.
This structured arrangement between the incumbent
(DT) and new entrants allows new
entrants to access their own local loops without
using the incumbent’s switching facilities. Full
unbundling of wholesale access, then, gives new
entrants complete control over local loops;
even control of transmission technologies and types
of services offered.
According to German law, charges for wholesale
access must have a cost basisand receive
prior authorization by the regulatoryauthority. Moreover,
charges set by DT must contain no
otherspecial charges or discounts, and cannot confer
an anticompetitive advantage to
particular operators.
In accordance with German telecommunication law,
DT filed an application with the
regulatoryauthority to authorize monthly charges for
unbundled access to DT’s local loop,
one-off charges for opening new connections and
one-off charges for taking over an existing
serviceable connection. In 1998, the regulatory
authority authorized DT’s one-off charges of
EUR 309.84 for opening a new connection and
EUR 135.49 for taking over an existing line.
But,
instead of accepting DT’s proposed monthly charge of
EUR 14.73 for unbundled local loop
access, the regulatoryauthority authorized a
monthly charge of EUR 10.56. At the time of

6. the
decision, the regulatoryauthority required DT to submit
more detailed cost calculation and
conjectured that the competitors’ monthly unbundled
access charge would fall below EUR 10.
After several years of negotiations between
DT and the regulatoryauthority, by April 2003
the
regulatoryauthority had set competitors’ unbundled
monthly access rates to EUR 11.80.
Moreover,one-off charges were reduced to EUR 81.12
for new, basicconnection, EUR 70.56
for straightforwardtakeover and EUR 34.94 for
discontinuance (with simultaneous customer
transfer) or EU 50.71 (without simultaneous
transfer).
Managerial Economics and Business Strategy, 8e
© 2014 by McGraw-Hill Education. This is
proprietary material solely for authorized
instructor use. Not authorized for sale or
distribution in any manner. This document may
not be copied, scanned, duplicated, forwarded,
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Retail Access
Retail access to DT’s fixedtelecommunication
network is achieved in two ways. First,
retail

7. consumers can access DT’s network via a
traditional analogue connection. The second
means
of access is through a digital narrowband
connection (integrated services digital
network, or
ISDN). Both of theseaccess methods provide
connection over DT’s existing copper pair
network. Upgraded broadband connections are also
available for faster Internet connection.
Retail charges (tariffs) for access to one of
theseconnection types consist of two
components.
This first is a basicmonthly charge that varies
with the connection quality. The second
component is a one-off charge for a new
line connection or the takeover of an
existing line.
Unlike charges for wholesale connections to
competitors, which are regulated according to
cost principles, retail prices for analogue and
ISDN lines are regulated under a pricecap
system and only permitted to change according to a
set basket of telecommunication services
(prices do not adjust as the cost of providing
individual services change). Retail prices for
broadband connection, however, are not subject to
either type of regulation.
In 1997, the Federal Ministry of Posts and
Telecommunication introduced the pricecap
mechanism for retail fixed-network charges. At
that time,two baskets were established: One
for residential connection to standard analogue or

8. ISDN lines, the otherfor services to
business customers for similar connection types.
At this time,the Ministry ordered DT to reduce
the aggregate pricefor each basket by 4.3
percent during the first pricecap period; the period
spanning 1 January 1998 to 31 December
1999. After this period ended, the pricefor a
basket was further ordered to fall by 5.6
percent
during the second pricecap period; the period
spanning 1 January 2000 to 31 December 2001.
The logicbehind thesemandatory price-cap reductions
was to capture productivity and
efficiency gains realized by DT.
Given the mandatory pricereductions, DT was
free to modify charges for individual
components with the caveat that thesechanges were
subject to the approval of the regulatory
authority. There was no restrictionon the number of
adjustments for which DT could apply in
any price-cap period. This means that DT could
increase prices for one or more basket
components provided that the cap for the overall
basket was not exceeded.
During periods one and two, DT reduced retail
prices far below the required reductions.
These
reductions applied only to call charges. The
monthly and one-off access charges for
standard

9. analogue connection remained unchanged over both
periods. During those periods, DT’s
monthly subscription fees were EUR 10.93. Yet, basic
monthly charges for ISDN connections
remained relatively stable until 31 March 2000.
DT did, however, apply to reduce the prices
on
several specialized ISDN lines in December 1999,
which were given regulatoryapproval on 16
February 2000. Retail one-off charges for
analogue and ISDN lines remained at EUR 22.22
for
takeover of a serviceable connection and EUR
44.45 for providing a new connection over
the
period 1998 to 2001.
In January 2002, a new pricecap system was
established by the regulatoryauthority. The new
Managerial Economics and Business Strategy, 8e
© 2014 by McGraw-Hill Education. This is
proprietary material solely for authorized
instructor use. Not authorized for sale or
distribution in any manner. This document may
not be copied, scanned, duplicated, forwarded,
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system replaced the two-basket model for
residential and business consumers with a
four-

10. basket system. Baskets for retail services now
consisted of a basket for retail lines (end-
user
lines), local calls, domestic long-distance calls,
and international calls. As a result, DT
was
required to increase its charges for retail lines.
As mentioned, retail prices for broadband
connections are not regulated under the price-
cap
system. Instead, DT is free to set theseprices at
its own discretion. After prices for certain
broadband connection decreased and several
complaints from DT’s competitors occurred, the
regulatoryinitiated an investigation of broadband
connection pricing practices. The basisfor
the investigation was whether DT lowered its price
below cost and constituted
anticompetitive pricing practices. Despite having
found someevidence that DT’s prices were
below cost for certain products, the regulatory
authority took no action against theseprices.
Instead, in otherdecisions made during March
2001, the regulatoryauthority ordered DT to
make it possible for competitors to sell
wholesale local network services to otherconsumers
and to make joint use of local loop (line sharing).
DT, however, did not comply with these
orders resulting in re-investigation of the alleged
broadband connection charge abuses. DT
did
eventually increase its monthly charges for

11. broadband connection services, which
resulted in
the regulatoryauthority terminating its case again
DT.
Complaint Against DT
Several competitors allege that DT’s charges to
competitors for wholesale access to its fixed
network (both monthly charges and one-off
charges) are so expensive that competitors are
forced to charge prices to retail consumers
that are far in excess of what DT can charge
retail
consumers for similar services. Thus, competitors
argue that they can never make a profit
or
efficiently compete with DT. This situation is called
a margin squeeze.
DT argues that its pricing practices cannot
constitute a margin squeeze sincewholesale
charges are imposed by the regulatoryauthority. DT
contends that a margin squeeze must be
the result of excessive wholesale prices or
insufficient retail prices (or somecombination
of
the two). The legal solution, DT argues, can only be
corrected if it can vary both wholesale and
retail charges. In the present environment, DT
only controls retail charges.
Others’ contend that the margin squeeze is
relevant to this situation sincea competitor
buys
wholesale services from an established operator and

12. depends on the established operator to
compete in the retail market. Thus, a margin
squeeze can exist between regulated wholesale
and retail prices.
Managerial Economics and Business Strategy, 8e
© 2014 by McGraw-Hill Education. This is
proprietary material solely for authorized
instructor use. Not authorized for sale or
distribution in any manner. This document may
not be copied, scanned, duplicated, forwarded,
distributed, or posted on a
website, in whole or part. 5 | P a g e
Please writeyour case study and upload to MyCC.
The Case
Summary Guidelines can be accessed in the Handouts area of
MyCC.
GUIDELINES FOR WRITING A CASE STUDY ANALYSIS
A case study analysis is an opportunity to integrate and
demonstrate what you have
learned from the course materials; e.g. textbook, exam problems
and discussion boards
into an actual business problem.

13. It requires that you carefully read the facts of the case and
identify the economic
principles the case touches upon. In this course I have identified
for you the learning
objectives for each chapter and carefully highlighted the
economic principles in our
discussion boards and exams. To be successful in writing your
case analysis you are
required to integrate the facts from the case with the economic
principles, examine the
alternative solutions, and propose the most effective solution
using supporting evidence.
Your Case Study will have the following elements: (see the
Case Study Rubric to
better understand how you will be graded)
1. An introduction that introduce the business, industry and the
underlying
business issues incorporating the economic principles from the
case.
2. A thesis statement that proposes the solution to the problem
you have
determined or the general assessment of the case being studied.
3. The first section of the case study should discuss the
background of the
organization.
4. In the following three sections, focus on several key
economic principles that
supports the point(s) raised in your thesis. E.g. Is this a supply
and demand
issue, are there any constraints, incentives,, is there market

14. rivalry and a
perfect competition or is it a monopoly, what long run and short
run
decisions are there available? Remember each case study is
focused on
specific principles and I have highlighted each chapter covered
by the case. It
is imperative that you draw in these principles.
5. Be sure to provide a careful evaluation to each economic
issue you raise
drawing on the fact of the case.
6. Next write a solution section that addresses the issues you
raised. You are the
manager/director, what would you do? (SUPPORT YOUR
DECISION)
7. Write your conclusion
STEPS TO SUCCESS
Before you begin writing, follow these guidelines to help you
prepare and understand the
case study:
1 Read and examine the case thoroughly
• Take notes, highlight relevant facts, underline key problems.
2 Focus your analysis
• Identify two to five key problems
• Why do they exist?
• How do they impact the organization?
• Who is responsible for them?

15. 3 Identify possible solutions
• Review course readings, discussions, outside research, your
experience.
4 Select the best solution
• Consider strong supporting evidence, pros, and cons: is this
solution realistic?
5. Proofread
• After you have composed the first draft of your case study
your analysis, read
through it to check for any gaps or inconsistencies in content or
structure: Is your
thesis statement clear and direct? Have you provided solid
evidence? Is any
component from the analysis missing?