Telecom softens up shareholders with presentation on possible split

Telecom has placed a presentation on its website that illustrates how structural separation could work.

And, underlining that the company is trying to get back in the government's ultrafast broadband (UFB) race after being left out of the first round of "priority negotiations",  Chorus division chief executive Mark Ratcliffe told TVNZ Telecom had "sharpened" its pencil and re-priced its bid.

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Telecom's conundrum, now, is how much it can sharpen its bid before it alienates shareholders, who want to see the company participate - but only if the venture is profitable.

Mr Ratcliffe also hosted a conference call for analysts. Credit Suisse's Greg Main said while the Chorus boss did not disclose anything material, "it [the presentation] does raise the question whether Telecom would structurally separate whether or not it is initially successful in the UFB process."

Mr Main believes a structural split would "provide greater transparency and potentially lower conflicts of interest (perceived or real) in future negotiations between Chorus and other parties" (read: Crown fibre contract winners) and some regulatory relief for the other half of the once-whole Telecom.

The analyst sees the government as supportive of a split, with or without Telecom winning its national UFB bid.

Like others, however, Credit Suisse is awaiting the government's reaction before giving its verdict on the costs and benefits of a split. This likely won't occur at the end of October, but rather "weigh on Telecom into 2011". Mr Main maintains his underperform rating in the meantime.

Little new, but intriguing emphasis
While there is little new in the presentation – bar a placeholder name for the service half of the business, “ServeCo” – the very posting of the slideshow indicates Telecom has begun softening up shareholders for a vote on a split.

Telecom has placed a national bid for the government’s $1.35 billion ultrafast broadband initiative.

Companies with both wholesale and retail operations are barred from a majority stake in a Crown fibre company, meaning Telecom must cleave itself in two – as it has offered to do, if it wins – to effectively compete in the bidding process.

Both Telecom shareholders and debt holders will have to approve a Telecom split, chief executive Paul Reynolds has said.

Problem areas
The presentation includes a couple of slides likely to rile Telecom's competitors, and critics.

One is that ServeCo would control "national backhaul" - something that many would see as the natural preserve of Chorus2* (the existing Chorus having a well-earned reputation for even-handedness and independence).

Chorus2 is allocated "regional backhaul". Many will find this distinction curious.

ServeCo would also control Telecom's home line and mobile business, and the present company's "ICT business" (presumably, Gen-i).

More controversially, ServCo also snaffles the home line and DSL wholesale businesses today controlled by Telecom Wholesale - more naturally allied with Chorus2.

And although at least one senior manager has told NBR that a structurally split Telecom could still share its new campus-style headquarters currently being finished in Victoria St, Auckland, the presentation reassures that:

"Each company would have its own board of directors, CEO, management team and employees, and would be separately listed."

Also that:

"Under the proposed structure any dealings between the two companies
would be formalised in arms‐length commercial arrangements as occurs
between any other companies."

It also says that "Assets, systems, services, people and everything else in Telecom today would be split between the two companies."

Many analysts, shareholders and debt-holders will still be wondering, however: How will debt be allocated?

Heads of agreement
Telecom is also looking for a broad-ranging “heads of agreement” with the government covering the legislative and regulatory reform needed to facilitate structural separation and, it’s rumoured, a $1 billion tax break package.

The slideshow is notable for its emphasis on the fact that the two companies – dubbed Chorus2 and ServiceCo – would be completely separate entities; separately managed; and separately listed on the NZX.

Telecom shares (NZX: TEL) were down 0.49% to $2.02 in late trading. The broader market was down 0.2%.

* ServeCo and Chorus2 are notional names, Telecom said.