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To: MrGreenJeans who wrote (3128)	4/18/2001 8:45:09 PM
From: MrGreenJeans	Read Replies (1) \| Respond to of 3175

Oil auction offers lessons for 3G winners BY RICHARD BARRY A YEAR after the DTI auctioned portions of the UK’s radio spectrum for use by third- generation (3G) mobile telephones, the shareholders of the five winning companies are feeling increasingly frightened that they are victims of the “winner’s curse”. The State often disposes of public assets: the Dome, the right to run a lottery or a television channel and so forth. Usually, the winner is chosen mainly for its “beauty”. During a “beauty parade” each competitor tries to convince the Government that under its care and stewardship the public will get the best quality programmes, or the Dome will be put to best use, or whatever. Competitors may also be asked to offer some cash. The process by which the Government assesses beauty and balances it against the cash is deeply opaque – to put it politely — as the recent National Lottery licence renewal and Dome disposal sagas testify. By contrast, the 3G auction was beauty free. All that mattered was the cash. By the time the bidding ended five companies had won exclusive 20-year concessions over chunks of the spectrum, for which they had paid sums ranging from £4 billion to £6billion. But it didn’t take long for the winners’ euphoria to wear off and for their shareholders to wonder whether they had been unwise to transfer such vast sums from their pockets to the Treasury. The 3G auction was hailed as a dramatic first, but actually it was a dramatic second. And the winners’ nervous shareholders can probably gain a bit of comfort from looking at what happened on the first occasion of a pure cash — “beauty free” — auction of a public asset. Exactly 30 years ago, in 1971, the Department of Energy auctioned 15 North Sea concessions that gave the right to search for oil and gas and, if successful, to produce it. This is the only occasion on which oil and gas concessions have been auctioned in the UK. Before and since, they have always been awarded by beauty parade. The auction was by sealed bid and the results were every bit as dramatic then as the 3G sale was last April. The most sought-after concession received 18 sealed bids and was won by Shell with a bid of £21.1 million (in today’s money about a quarter of a billion pounds) though their triumph was somewhat tarnished by the fact that the next highest sealed bid for that concession was £8.4 million. Shell was subject to much ridicule for leaving £12.7 million “on the table” — the so-called winner’s curse. Mobil won the second most desired concession (which received 17 sealed bids) for £6.3 million, leaving less than half a million “on the table”. The least popular concession received a single bid and went for just £3,600. In a number of respects the oil concession sale and the 3G sale are similar. The ultimate value of both kinds of concessions was a huge unknown at the time of bidding. Yes, the oil companies had made their studies, but none of them knew if any of the concessions actually contained oil. The most anyone could say was that the North Sea was, in general, an “oil and gas prone area”. Furthermore, at that time there were no producing oilfields in the northern part of the North Sea and it was far from clear that the necessary technology existed. Worst of all, the oil industry had just lost a bruising encounter with Opec so that the future of oil prices and taxation regimes was completely up in the air. Move forward to the 3G sale and what do we find? In general terms the telecom companies feel that the airwaves on offer are “consumer prone areas” but whether they will really attract millions of users is unknown. Much of the required technology is in its infancy, and the retail price that consumers will be willing to pay . . . well, that’s way up in the air too. Comparing the oil concession and 3G sales is thus rather apt. Even the post-sale jitters that afflict the telecom winners today had their counterpart in 1971 among the oil concession winners. Which leads to the obvious question: what happened to the oil concessions, and does their story hold any lessons for telecoms investors? Basically the portends are fairly good. Of the 15 concessions sold in 1971, the two most costly — the Shell and Mobil wins – yielded significant world-class oil discoveries and have been massively profitable. Shell’s “winner’s curse jitters” were needless. Five of the concessions eventually returned modest profits. The remaining eight concessions contained no oil or gas, leaving the companies that won them nursing substantial losses. Applying these proportions to the 3G sale suggests that one winner will make pots of money, another will just scrape by, and three will end up with substantial losses. But there are lessons to be learnt. One of the reasons for the marginal profitability of some of the five “second-tier” oil concessions was the extremely long time it took for the technology and oil price to reach an acceptable conjunction. In one concession, for example, a technically difficult oilfield was discovered in 1974, less than three years after being won, but it couldn’t be developed and produced until 1996 — a quarter of a century after the auction. This is not an isolated example; quite a number of the second-tier wins suffered from this price/technology impasse. It is easy to foresee that many 3G applications may face the same ultra-long development fate for exactly the same reasons — except that the 3G concessions are for only 20 years whereas the oil concessions are open-ended. A second lesson concerns the continuing role of the Treasury. Economic theory suggests that an auction captures “up front” the “economic rent” properly due to the State in exchange for an exclusive concession of some kind. Thereafter the winner should be subject, in economic terms at least, to nothing more than the normal taxes paid by any other business, or so the theory goes. The oil industry has learnt, time and again, that it ain’t necessarily so. A successful 3G company will probably learn this too. If a concession turns out to be highly profitable the Treasury just cannot resist “double dipping”, of claiming that the front-end economic rent payment was insufficient and therefore “excess profits” must be subject to windfall taxes. It happened to Shell and Mobil with the so-called Petroleum Revenue Tax and it will surely happen to any company making high profits from a 3G concession. A radio spectrum, like oil, is where nature put it, and while a shoe factory can pack up and move if it doesn’t like the tax regime, an oil producer or 3G operator cannot. Seen as a dry run for the 3G auction, the oil concession sale of 30 years ago provides interesting lessons and a few scraps of comfort for the frightened shareholders of the 3G winners. It suggests that with enough time and fortitude at least some of them will make a lot of money.