Brian Gaynor: Telecom's problems are all at the top

The most remarkable aspect of the Telecom share price meltdown is that no one has resigned or accepted responsibility for the group's dreadful sharemarket performance.

The share price of the country's largest listed company has plunged from $5.73 to $4.57 since the end of April, yet there wasn't a word from chairman Roderick Deane until yesterday afternoon, and what he finally said was presented in a press release rather than a face-to-face meeting with analysts and the media.

Does the board have a plan B? Why was chief executive Theresa Gattung left hanging out to dry by her fellow directors? When is Deane going to make a statement about his future at Telecom?

The problem with Telecom starts and stops at the top, with its board of directors.

The board has adopted a hard-headed approach towards competition and regulation. The strategy is to fight and litigate, delay and deny and never give an inch.

Telecommunications Users Association chief executive Ernie Newman put it succinctly when he said that Telecom is essentially a law firm with a telecommunications network attached.

Telecom adopts the same attitude as former Prime Minister Sir Robert Muldoon; it is paranoid about competition and ruthlessly crushes it. The sad aspect of this approach is that it operates in a sector with wonderful opportunities but it has failed to take advantage of these.

Why hasn't Telecom developed a Trade Me or a similar successful operation? Instead it made a disastrous acquisition in Australia and in the first five years of the Deane/Gattung regime, Telecom's share of the NZ mobile market fell from 74.5 per cent to 44.7 per cent.

No wonder the company is paranoid about competition.

One of the board's main distractions is its obsession with private property rights.

The vast majority of New Zealanders agree with this principle but there are a number of situations where the national interest takes precedence. An example of this is when landowners are forced to sell land for a new highway.

Telecom has always had a national interest requirement.

The group's preference share (the Kiwi Share), which was issued to the Crown before the 1990 privatisation, recognised that Telecom had an obligation to act in the national interest even though its property rights were being transferred to the private sector.

There are a number of obligations under the Kiwi Share, including the requirement to maintain the residential telephone service, charge rural users no more for line rental than the standard residential rate and maintain the free-calling option for all residential customers.

The Kiwi Share recognised the importance of Telecom to the country, although there was no mention of broadband or the digital highway in the agreement. The internet was in its infancy when Richard Prebble sold the telco to a consortium of New Zealand and United States investors for a paltry $4.25 billion.

Telecom's profitability and share price improved dramatically as it took advantage of new technology and faced limited competition under the country's friendly and light-handed regulatory regime. The company owned the network and there was no prospect of anyone establishing an alternative in a country with only 4 million people.

The telco took a hard-headed approach towards competition or any threat of regulation.

An illuminating article by Martin Wylie, Telecom's former company secretary, in The Business on Monday outlined the group's approach. According to Wylie, Telecom adopted a number of strategies when threatened with regulation including: dusting down the "property right" argument, lobbying the National Party, litigating anything that moved, burying the Commerce Commission in red tape and pointing to the cost and ineffectiveness of a regulatory approach.

The employment of top Wellington lawyer Mark Verbiest in 2002 reflects the importance that Telecom places on litigation to repel competition and regulation. Verbiest has a senior executive position - he ranked third behind Gattung and the highly regarded chief financial officer Marko Bogoievski in the 2005 annual report - and his total remuneration was $940,000 for the year.

Telecom's problems began in earnest with the spread and popularity of high-speed broadband internet.

A ministerial inquiry recommended deregulation but the Telecommunications Commissioner and Cabinet rejected this advice. This was a great opportunity for Telecom to change its attitude towards competition and to recognise that as far as high-speed broadband was concerned the national interest was becoming more important than the company's private property rights.

The reason for this is that the internet is seen as a major contributor to economic growth in a small and isolated economy.

In the past year or so, a number of senior executives began to realise that the threat of regulation was increasing but the telco's response was too timid and too late. The outside impression is that the board remained obsessed with its private property rights.

External opposition to last week's dramatic deregulation proposals was muted. The general view, even among many shareholders, is that Telecom brought it on itself; the board's strategy was ill-conceived and unrealistic.

Business Roundtable chief executive Roger Kerr was one of the few business leaders to issue a press release in support of Telecom. His first sentence read: "The Government's plans to further regulate telecommunications would violate private rights and devalue the assets of tens of thousands of shareholders".

Kerr is correct on a number of points but Telecom's share price had already fallen from $7.75 under the Deane and Gattung regime.

Most of the value destruction has been due to the failed Australian acquisitions, the loss of mobile market share to Vodafone, the group's poor broadband performance and its inability to develop new and valuable businesses.

Telecom has two choices; it can stick its head in the sand and fight the Government or it can embrace the new proposals and reduce the prospect of further regulation through operational excellence.

Notwithstanding yesterday's press release, there is little confidence that Telecom will fully commit itself to the latter approach while Deane is still chairman. An unwillingness to change will have further negative implications for the group's share price as foreign investors dump their holdings in anticipation of further Government regulation.

Four developments need to occur if there is to be a sustained improvement in Telecom's share price. These are:

1. Deane, Paul Baines and Patsy Reddy should resign. The latter two should go because they were also directors when the decision to acquire AAPT in Australia was made.

2. The highly regarded Wayne Boyd should replace Deane as chairman. Rob McLeod, the other obvious internal candidate, would not be the best person to improve relations with the Labour Government as he is also chairman of the Business Roundtable.

3. Three new directors need to be appointed and they should be successful chief executives and/or innovators instead of lawyers, accountants or individuals with a finance industry background. Names that come to mind are retiring Fletcher Building chief executive Ralph Waters, Navman founder Peter Maire, John Fairfax chief executive David Kirk and Sky TV chief executive John Fellet.

4. The new board should instigate a worldwide search for a chief executive and Theresa Gattung should be asked to reapply for her position.

The group need to act quickly and decisively if there is to be any improvement in Telecom's share price performance.

Disclosure of interest: Brian Gaynor is a Telecom shareholder and an investment strategist and analyst at Milford Asset Management.