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Copper tax: where to from here

It’s 2014. A new year. A chance to get on with building New Zealand’s world-class UFB network and getting better broadband in use by as many people as possible. In this piece we take a quick look at the problems Chorus faces, the opportunities there are for solutions, and a plea to everyone involved in the industry to make 2014 a better year than 2013 was.

Problems, problems, problems
Chorus is in the trickiest position in the telco policy debate. It seems clear that it underestimated what it would cost to deploy UFB and that it overestimated the future revenue it would get from its declining copper network. It became clear last year that Chorus hoped the government would bail it out and that looked promising if the government could either get the commission to increase the copper prices or could over-ride the commission and set higher copper prices itself.  Both options have evaporated and the government has subsequently ruled out other financial forms of bailout. 

Chorus has a few cards left to play. On the positive side, there’s a suggestion from JP Morgan recently that equity raising might be in the offing. That’s important because the key problems Chorus is facing all relate to debt levels during the UFB build. More equity sorts that out. There are some less positive sides, sadly: Chorus is also using a combination of legal action and seeking final price determinations, all of which are likely to be long, complex and very expensive processes. They will maintain uncertainty for much longer than necessary and create problems for all concerned. The thought that the final price determinations could be backdated, in particular, creates massive uncertainty. Retail providers will not pass on savings from reduced wholesale costs to end users if two or more years later they are going to have to repay Chorus the accumulated difference and everyone will have to maintain large financial contingencies on their books - more on this below.

But the government also has something of a problem too – it will not want to see Chorus’ problems and the uncertainty created start to affect the rollout or uptake of the UFB. It also has to share some of the responsibility for Chorus’ problems, because Chorus’ overestimation of the revenue it would earn from copper broadband services was due in part to either poorly specified policy or poorly drafted legislation – or both. The government’s attempted intervention in December 2012 has in the end caused Chorus more pain than it provided relief.  

Solutions – light at the end of the tunnel
As with the problems – the solutions are largely in the hands of Chorus but the Government and retail providers could also lend a hand.

Negotiations with CFH on the timing and shape of the Crown’s contribution (in a fiscally neutral matter, as the government has mandated) and a decision by Chorus to raise more equity would give the company the cushion it needs to keep its bankers happy and proceed with the rollout. That’s a matter for it to address in hard-headed commercial terms – dividends will need to fall and equity to be raised if copper services are to be maintained and the UFB rollout to proceed.

Secondly, if Chorus withdrew its requests for final price feterminations, it is likely that all other operators would withdraw their requests as well.  The initial regulated price would commence in December 2014 as scheduled, there would be no talk of backdating and there would be a large dollop of certainty for everyone.

Why would Chorus do this? First, as I explain below Chorus faces a disproportionate amount of uncertainty and a disproportionate share of the legal costs - it is at least arguable that the current strategy is not in its shareholders’ best interests. Second, if Chorus did play ball and withdraw its pricing determination requests, the government, consumers, and other industry players would be more inclined to help – particularly in the area of converting people to fibre services more quickly.  

For example InternetNZ would support any government incentive to encourage consumers to take fibre services at the same time that the fibre was being deployed in the street.  This would increase uptake of fibre, directly benefit the consumer, directly benefit the retail provider and Chorus (and other LFCs) by reducing their truck-rolls and connection costs, directly benefit Chorus by moving people on to the higher-value fibre service and indirectly benefit the economy through resulting increased productivity.

The government could also help by signalling that it will recommence the originally intended full review of the Telecommunications Act with the intention of introducing new legislation for a future telecommunications environment that would come into being when over 50% of the country was using the UFB or RBI.

Back to the backdating Issue and why it’s a bad idea
InternetNZ has made a submission to the Commerce Commission in response to its UCLL Final Pricing Determination Discussion paper.  The basis of the submission is a legal opinion we have obtained and are willing to share with others.

In summary our submission and legal opinion say:

Backdating creates untold problems and uncertainty for everyone but particularly for Chorus.

  • The decision whether or not to backdate is one for the commission to make - there is little precedent isrelevant to this decision.
  • The risks for Chorus are amplified for a number of reasons, including:
    • The commission’s initial pricing decisions were deliberately weighted toward setting higher initial prices so the likelihood is that the final prices will be lower than the initial price.
    • Retail providers will be able to reclaim all overpayments they make to Chorus (if the backdated final price is lower than the initial price) but Chorus will not be able to claim for all of the underpayments due if the backdated final price is higher than the initial price.
  • The commission should make the decision on backdating as soon as possible as it will reduce uncertainty and an early decision will allow parties to challenge the decision (through the courts if necessary) before it starts to be implemented.

Hope springs eternal
In a new year let’s have a new beginning. 2013 was dogged by:

  • deals being attempted behind closed doors;
  • poor decisions being reached because of insufficient consultation with affected parties;
  • increased uncertainty created in the name of providing certainty;
  • individuals crying wolf when there was no wolf;
  • issues being elevated to the courts and the court of public opinion; and
  • too much being spent on lawyers and PR people rather than service delivery.

Let's start 2014 differently. This piece is a start. We encourage other players to put their thinking into the public arena to see if there's a basis for a more constructive and useful debate than in recent times.

Background - Timeline

  • 2011 - Government let $950M contract to Chorus to roll out the UFB.
  • 2011 - Chorus “structurally separated” from Telecom, consequently the regulated price of copper broadband services (UBA and UCLL) set by the Commerce Commission would have to change and almost certainly reduce – the government legislated to defer this price reduction until December 2014.
  • 2012 – The commission announces the new regulated price for UCLL and a draft price for UBA. John Key says the commission is wrong and Chorus will go broke.
  • Early 2013 – Chorus says it won’t go broke but also believes the commission has got it wrong and seeks a final price determination for UCLL (a lengthy process to determine the regulated price but based on actual costs rather than the benchmarked costs of the initial price).  Most others say the commission has got it about right.
  • Mid 2013 the commission announces the regulated price of the UBA service that will come into force in December 2014 (Chorus later requests the commission undertake another final price determination and also claims the commission has got it so wrong that it will appeal to the Courts to overturn the commission’s decision). Once again most other operators and consumer groups believe the commission has got it about right.
  • Mid 2013 MBIE brings forward a review of the act and puts out a discussion document which effectively proposes the government rather than the independent Commerce Commission sets the regulated price of copper broadband services.  The proposed prices, in the opinion of a large number of industry and consumer representatives, is to all intents a tax on Chorus’s copper customers to subsidise Chorus’s fibre roll out.  A number of industry firms seek a court order preventing the government/MBIE from implementing any findings from the review.
  • Late 2013 – A majority of parliamentarians agrees with consumer groups that the government should not override the independent Commerce Commission and say they will not support any legislation introduced to that effect. The government commissions EY Australia to review Chorus’s finances – it confirms Chorus has a $1billion shortfall but that Chorus should be able to manage that shortfall. The government rules out providing additional funding to Chorus but does commit to allowing Chorus to negotiate other changes to its contract with CFH.
  • Late 2013 – The Commerce Commission commences the final price determination for UCLL and issues a discussion paper which, among other thing,s questions whether, upon determining the Final UCLL price, that price is then backdated to the date when the initial price commenced.

Jordan Carter is InternetNZ chief executive

Comments and questions
6

The legal cost is minimal compared to the extra profit Chorus could get from be able to charge a few dollar more on the copper price. Also all price will be back dated, as even if Com Com does not want the back date to happen, high court would have to look at precedents and favours back date of the price raise. When it comes to full price review, it will likely be set at a percentage ( of equity or asset or a combination of both) Chorus could earn each year. With the current price set by Com Com that take effect in Dec, Chorus is earning close to nothing, so of course Chorus would take all the actions it could.

No backdating! The legislation specifies that all of this brouhaha relates to the price to be charged from December 2014.

I think Com Com is doing the right thing, getting a quick full price review finished in Dec this year. If Chorus is happy with this full price review, then everything would be fine. Likely to be a price somewhere in between what Chorus charge now, and initial price set by Com Com last year. My best estimate would be around $40 for the copper price. You got to understand that major ISP was happy to pay $37.5 during their last private meeting to settle this, but Chorus turned it down.

No need to worry about the backdating now. ComCom has decided to pull out all the stops to complete the FPP review by Dec 2014. This is excellent news because
a) it's not rocket science to measure and add up the cost of a the existing network of poles, holes, cabinets, exchanges, cables etc.
b) if ComCom haven't completed a) by December 2014 then Chorus still has the option of delivering the guaranteed copper data service at the legislated and mandated speed of 33 kbit/s and charge a premium of say, $12 per month for faster connections. All the ISPs seem to be conveniently overlooking the fact that the service that has been provided for many years has far exceeded the service level that is required by law.

This article seems to be yet another subtle attempt at lobbying from an interest group similar to TUANZ and the Vodafone sponsored "Coalition for fair internet pricing" that represents all those who will extract maximum benefit from the reduced pricing inflicted on Chorus seemingly as a form of punishment for anyone who might dare to try and profit from running a critical infrastructure communications service and use the money to pay for a future proofed network upgrade (UFB).

Street-by-street fibre uptake doesn't get efficiencies. The ducting process in the street and the installation process per property are quite separate. In fact, doing so would complicate the overall procedure as at present, an entire area is signed off and available to ISPs. Going street by street adds more update notifications to this.

The issues with uptake are directly:
- inefficiencies on Chorus process for design and build for non-standard installs
- the total clusterf*ck of MDUs
- time spent on household installs - this is typically 16-20 person hours per property
- consents for MDUs and right-of-way

The latter is the only part not under Chorus control and where Govt intervention is necessary, and indeed encouraged. UFB should be made a non-consent activity; this removes on averag 40 days from the UFB install process.

Fix MDUs by requiring Chorus to do an SDU per internal premises as it gets orders, not a full MDU rollout when it receives on order.

Audit very closely the UAT certificates for "premises passed". Do not sign off a UAT unless premises passed converts to a standard install.

Incentivize retail service providers to convert their existing customers to UFB, wther their base technology is cable, ADSL or wireless.

Publish the KPIs directly relevant to the SLAs - number of properties connected, average time per property, classification of property. Pay Chorus incentives to reduce days per install, time per install and number of standard installs.

Chorus should be hiring Dr Bertram to lobby for it! If his'historic cost' prices for electricity was applied to the telco situation, there would be no debate - Chorus' price for copper services would be based solely on the historic cost at which the network was valued on separation day. Ergo, it would not change, regardless of what the cost of building an equivalent network at current costs might be. There would be no 'copper tax' from Chorus continuing to charge the 'old' prices because there would be no way that anyone could expect the prices to fall - they would be based solely on the (historic) price shareholders paid for them on separation day. Which does not change (presuming no further investment has occurred on the 'old' network).

I presume therefore that the if the Labour/Greens telecoms policy is to be consistent with their electricity policy, we will soon see the abolition of all of Mr Cunliffe's reforms that put in place a price regulation regime based on the current cost of technologies?