Telecom in uncharted territory

Telecom, under chief executive Paul Reynolds, is contemplating breaking up its business to participate in the Government’s ultra-fast broadband plan. Photo / Dean Purcell

A structural split of Telecom would would be a global first for any telecommunications incumbent, an analyst says.

Telecom has confirmed it is looking into structurally separating the company in order to participate in the Government's $1.5 billion ultra-fast broadband initiative.

Under the conditions of the initiative, a company cannot have a controlling interest in a local fibre company and provide retail services.

IDC telecommunications research manager Rosalie Nelson said Telecom faced unintended outcomes because of the fact that no company had performed such a separation before.

Nelson said it was too early to predict whether Telecom's shareholders would be negatively affected, or what the shape of the company would be because so many details were unavailable.

"I don't think there will be any immediate or short-term impacts for consumers. The fibre programme will take five to 10 years before users see the impact. The industry is reshaping and restructuring. This [a possible separation] could go really well or really badly. It's too early to tell the implications for shareholders. We don't know the shape of Telecom," Nelson said.

Prime Minister John Key described Telecom's announcement as "potentially positive". Asked about speculation the Government could take a stake in Chorus, Telecom's network business, he said: "I wouldn't describe that as accurate."

First Capital analyst Greg Main said if Telecom decided to go ahead with the separation it would need to sell the deal to shareholders.

"The value has to be right. From an industry solution it makes sense and for the Government's ambitions. How it is structured will depend on other network providers, such as Vector. But there will have to be value for shareholders, they are not going to give Chorus away - that is worth a couple of billion dollars."

Investors provided some support. Shares which have been battered during May effectively climbed 3c to $1.96 after yesterday trading ex-dividend where a 6c-a-share dividend was no longer payable.

Standard & Poor's rating service downgraded its long-term outlook for Telecom from stable to negative.

While it affirmed its A long-term and A-1 short-term corporate credit ratings, analyst Paul Draffin said S&P considered Telecom's vertically integrated business model a key driver of the group's business risk profile.

He said the company's risk profile would become more dependent on its mobile business and its increasingly competitive fixed-line retail business.

Telecommunications Users Association chief executive Ernie Newman said if Telecom goes through with the separation, consumers would be better off and it would be better for the country as the Government and Telecom would be working together, rather than Telecom competing against the initiative.

"We are pleased they have taken this step. We would have liked this to have happened earlier, and I hope they decide to go down the voluntary path. If they do, it will mean their bid is compliant with the rules and will hugely simplify the industry as much regulation would become redundant if the retail and network aren't at arm's length."

Telecom has three main business units: its retail arm, its wholesale arm and its Chorus network division, which is the focus of separation investigation.

The three arms were created as part of an operational separation agreement with the Government in 2008, which aimed to increase competition.

Chorus is operated as a separate company - it files separate financial statements and has a separate board and chief executive but it is owned by Telecom and its profits and revenue are included in Telecom's financial statements.

Telecom is now considering going a step further and fully splitting Chorus from the rest of the business.

Chief executive Paul Reynolds said the company's preference was to align the interests of its equity and debt holders with those of the Government and New Zealanders.

Reynolds said detailed discussion and analysis with the Government on the regulatory environment would need to take place before any decisions could be made.

He said Telecom was required by law to deliver technology projects for a "pre-fibre world".

It has asked the Government to consider a variation of three components of Telecom's undertakings.

The proposed changes are to:

* Suspend the forced bulk migration of existing broadband customers on to a new copper-based broadband service. Telecom will continue to supply this new broadband service to all new customers.

* Remove the requirement for Telecom to migrate 17,000 customers on to a new Voice over internet Protocol copper service by the end of this year.

* Remove the requirement for Telecom to build a new set of wholesale systems that are not consistent with the industry structure implied by ultra-fast broadband.

Reynolds said generating revenue was a central issue to possible separation, as the business unit could perform better if separated and might enjoy less regulation.

Communications Minister Steven Joyce said a potential separation would involve working through a number of complex regulatory issues but the announcement was a positive move for the company and for its future involvement in the Government's broadband initiative.