Separation bill seen as Telecom win

Analysts polled by NBR saw the fast-track legislative changes proposed by Communications Minister Steven Joyce today as neutral to positive for Telecom - but noted that the company still faces challenges winning Crown Fibre business in the first place.

A supplementary order paper (SOP), added to the Telecommunications Amendment Act this afternoon, allows for the structural separation of Telecom into two separately listed companies, each with its own board, and own chief executive. 

The SOP is "arguably positive at the margin" for Telecom, Deutsche Bank analyst Geoff Zame told NBR. The key issue remained whether the company could strike a deal with Crown Fibre Holdings. Mr Zame has a "hold rating on the company.

Improves Telecom's odds
"I am encouraged that impediments to Telecom's participation are being removed," Forsyth Barr analyst Guy Hallwright said.

"While this does not confirm Telecom's involvement, it does improve the odds."

Many of the things Telecom wants
Goldman Sachs' Tristan Joll told NBR, "I think it [the SOP] facilitates many of the things Telecom wants from an industry structure/regulation perspective, but these are irrelevant if they can't get concessions on the UFB model."

The analyst, who sees a low rate of return for whoever wins Crown fibre contracts, thinks only king-hit concessions, such as a direct government investment in Chorus (and an associated abolition of the Local Fibre Company structure), a relaxed roll-out period and interest-free Crown funding could make him change his mind about the UFB's overall negative impact.

As things stand, none look likely. Mr Joll maintained his "sell" rating on the company.

Where does Telecom Wholesale fit?
When it splits into two companies, Telecom wants its current Wholesale division to sit inside the retail/service company (see charts at right). After a first-read of the new legislation, does Deutsche Bank's Geoff Zame see the bill allowing that outcome?

"It's messy," the analyst told NBR.

"As I understand it, only parts of Telecom Wholesale will end up in retail.

"For example, I'm assuming the DSLAM's [DSL copper broadband switches] that currently sit in Wholesale will end up in Chorus due to the late decision to let Local Fibre Companies's do both Layer 1 and Layer 2 services. Arguably this would be easier, particularly if there is a phased migration from copper to fibre.

"However the national backhaul that sits in wholesale would, as I understand, it sit in servco/retail as this area is deemed competitive - and it would provide a competitive advantage to seervco. The line of demarcation for a lot of these assets is still a little blurred." (For a possible Telecom split, ServCo is the placeholder name for the service and retail company; Chorus2 for placeholder name for the spun-off network half).

Silent
Forsyth Barr's Mr Hallwright found no surprises in the dense, MED-speak describing the a role for Telecom's network division: "The SOP assumes that as well as ULL and ULL backhaul, UBA and UBA backhaul to POIs would all be offered by Chorus, which is as I would expect."

But the analyst found the SOP was "otherwise silent" on where Telecom Wholesale would sit (see Telecom's PowerPoint dream scenario in NBR's original story here).

Telecom shares (NZX: TEL)  were flat at $2.24 in late trading.

TELECOM TAKEAWAYS

In Forsyth Barr analyst Guy Hallwright's view, the key features of the 77-page supplementary order paper to the Telecommunications Amendment Bill (which in fact swamp the original bill) are;

Key features in our view are:

• Separation will be tax-neutral; i.e. a distribution of Chorus shares would be non-taxable, and asset divestment would not involve corporate tax liability.
• The decision on where the Chorus/"ServiceTel" asset and business split is drawn would be subject to government approval.
• Arm's-length sharing arrangements for assets, systems and services between the separated entities would be allowed, with Commerce Commission oversight.
• Telecom would get Commerce Act relief for collaboration with UFB partners and cross-shareholdings.
• No change is proposed to the TSO obligations, but the TSO regime will be reviewed by 2013 (and a full regulatory review is scheduled for 2018).
• The Operational Separation Undertakings would become redundant, but equivalence of inputs undertakings would still be required.
• ULL [unbundled local loop/local phone exchange] pricing would move to a geographically-averaged basis after three years.
• UBA [unbundled bitstream access/wholesale DSL broadband] pricing methodology would move to cost-based from retail-minus