Allocation of Common Costs in Portuguese Telephone Service

Abstract

There are three operators of telephone services in Portugal: Telecom Portugal, TLP and CPRM. Their networks have always been interconnected, and for many calls each operator uses infrastructure which is property of other(s) operator(s). This status quo has prompted the need to develop a methodology to allocate common costs among these three companies. Typically this was done by employing non-optimal ad hoc procedures, leading inevitably to sub-optimal outcomes. The purpose of this paper is to apply the methodology first developed by Billera and Heath (1982), Mirman and Tauman (1982), and Mirman, Saumet and Tauman (1983) to this particular problem. Following this seminal work, we present an axiomatic approach to allocate the full cost of production of these multiproduct firms to all the services (outputs) they supply. The use of this axiomatic approach results in an allocation mechanism which associates a vector of cost sharing prices to each admissable cost function and output vector. These prices, known in the literature as Aumann-Shapley (AS) prices (Aumann and Shapley, 1974), can be computed simply by collecting information regarding both cost structure and output vectors. Since their computation does not require the knowledge of demand functions, AS prices avoid the cross subsidization of commodities which would be the case if the price mechanism were also to depend upon demand behavior. Nevertheless, there will exist a vector of outputs and corresponding AS prices for which markets clear (Mirman and Tauman, 1982).