A Way Out of the New Zealand Copper Price Quagmire?

I came back from New Zealand last week, just before a political bomb related to regulated copper prices was launched. Here’s the story in a nutshell:

  • back when structural separation was being implemented, a review of regulated prices was put in the agenda by the government. The regulator, ComCom was supposed to perform this review in 2012 and a big focus was regulated copper access prices, which were supposed to shift from retail minus to cost plus.
  • the government, aware that their was a potential risk in copper prices being examined in abstract, ie. without examining the fiber investment in parallel, passed an amendment that specified that network investment should be taken into account by ComCom. However, the wording of that amendment was vague and ComCom decided it could not interpret it, so decided to ignore it. The new cost-plus principle was to be applied from December 2014.
  • ComCom conducted the cost-plus review based on international benchmarking. It benchmarked New Zealand against two other similar countries in the world (Denmark and Sweden) – and not having done any cost assessment as far as I’m aware – announced they would drastically reduce the wholesale access price to copper.
  • Chorus announced that such a change in the regulatory context would put them in jeopardy and certainly make the economics of the fiber network deployment suffer.
  • The Government announced it would bring forward the planned 2016 policy review and in its discussion document proposed overruling the regulator on the issue and started exploring ‘graceful’ solutions to extricate itself from the mess it had created.

This is roughly where things stand today. Last week the opposition and a coalition of private businesses including some of the operators have published an ‘independant’ study that describes the differential revenues between current copper rates and ComCom’s announced rates as a “tax” to fund an already profitable private business. It is of course turning into a political story, which means that sadly reason no longer comes into it.

Here are a number of things that spring to my mind about this sad state of affair, I should stress that I’m about as detached from New Zealand politics as one can be, so the following is really my views as an industry analyst and nothing else.

  • first of all, having looked at the recent impact of regulatory uncertainty in Australia and the jeopardy that Australia’s NBN plan currently is in, I find it deeply ironic that New Zealand would consider radically undoing what it started to do by destroying the delicate pricing balance that structured the UFB deal. Incidentally, this is not just an issue for Chorus: other LFCs will suffer too if the price differential between copper and fiber becomes such that Retail Service Providers simply have no incentive to consider switching customers to fiber.
  • second, it should be stressed, again and again, that the government got an amazingly good deal out of Chorus and other LFCs, probably too good. At NZ$1.5bn, the amounts invested come out at a little more than 500€ per household for a 75% coverage. The following graph is one I use in NBN related conferences to show the amount per household and the scope of intervention in parallel. Obviously, the more of the territory you want to cover, the more expensive it gets as urban density decreases. As it stands, New Zealand is getting 75% of households covered for the same cost per household that gets Malaysia 20%. And building costs in Malaysia are somewhat lower than in New Zealand. And that’s not even mentioning that the NZ government isn’t subsidizing the buildout, it’s investing in it, with an expectation of return.

 

  • third and last, this is not a case – as it might have been when EU regulation was looking into copper price adjustments – of Chorus using the copper revenues to pay dividends instead of investing in FTTH: the government has set hard targets with stiff penalties for the infrastructure to be deployed, and Chorus has met these targets (as far as I know). In fact, their deployment costs have turned out to be higher than what they had originally modelled and still they’re deploying. Put simply, the current level of copper revenues ensures that fiber deployment is possible. Take it away or reduce it dramatically and either the UFB doesn’t happen or Chorus goes belly up or the Government has to commit a lot more taxpayer money at no return.

My interpretation from far away, is that really what this is is a political coup by the opposition. Don’t get me wrong, I find the government’s behaviour here to have been really lame, to understate things a bit. They’ve opened themselves to the attacks now coming. I do find it strange though that the party that initiated the UFB is now willing to throw it under the train to score some political points…

I’m often left wondering how we ever got roads, highways, railroads and bridges built. These are amounts of public investment that dwarf what it costs to deploy a network infrastructure such as the UFB and yet they never seem to have been political liabilities…

Anyway, the real question now is: is there a way out that doesn’t make government look even more authoritarian and messy than it already does without sacrificing the UFB?

I think there is, but it requires adressing the elephant in the room: copper switchoff.

There are two issues to address here really: one is that without a decent level of copper revenues, Chorus can no longer finance the UFB deployment. The other is that with an excessive wholesale price difference between copper and fiber, RSPs will never push customers towards fiber. Then everybody loses: the government makes a bad investment, Chorus goes belly up, and New Zealand doesn’t reap any macro-economic benefits from Ultra-Fast Broadband.

By introducing a copper switchoff mechanism in fibered areas, even if copper prices are lowered, at least one of these issues is addressed: RSPs investing in unbundling will know that that investment has a limited lifetime, and even if the copper prices were lower, they will have to arbitrate between investing in a soon to be switched off cheap platform or migrate their customers to a more expensive future-proof one.

This wouldn’t solve all of Chorus’ issues, but it would create a radical long-term improvement of cost-structure as the company would no longer have to manage two networks in parallel (and the copper network is the costlier one to maintain in the first place). Chorus would still have a big cash-flow issue to get to that point and keep investing in Fiber, but I suspect that would be manageable, either through government or government-backed loans.

I’m not arrogant enough to believe that my voice will have any weight in this matter, and I have no doubt I’m simplifying things to excess, but I do think this could offer an elegant solution that, furthermore, would be effective from a nation-building point of view: it wouldn’t just be a matter of knowing that 75% of the country would be eligible for fiber in 2020 but knowing that 75% of the nation would be on fiber by 2025. That kind of certainty could allow massive local and national government rethink of the services they offer for the general good, not to mention the opportunities it would open up for the private sector.

Disclaimer: I have recently done some paid work for Chorus in New Zealand. However, I have not been asked by anyone to write the above, and the views expressed are clearly my own (I’m not sure Chorus would be too happy with the solution I propose anyway…)