Negotiating a net gain for NBN Co and the telcos

Now that the strategic review has been completed and tabled, and its preferred course of future action established, Ziggy Switkowski and the new NBN Co executive team to be headed by Bill Morrow will be able to begin planning the detail of the challenging task of shifting the national broadband network towards the use of multiple technologies.

Given the primacy of the role that copper (up to half the 'new' national broadband network) and HFC (around 30 per cent) will play in the reconfigured NBN, NBN Co is going to have to revisit the deals former NBN Co chief executive Mike Quigley struck with Telstra and Optus after extraordinarily difficult and protracted negotiations.

The deal between NBN Co, the federal government and Telstra has been valued at $11 billion in net present value terms (in June 2010 dollars). The deal with Optus, worth about $800 million in NPV terms, was to migrate its HFC customer base onto the NBN and decommission the network.

At face value, re-opening negotiations with the carriers would appear complex and give them – Telstra in particular – new leverage to extract even more value. But upon closer inspection, that’s not necessarily the case.

When NBN Co and the government and Telstra agreed to the $11 billion deal, they effectively set a value on the copper network. There is no need for them to revisit that most difficult and core issue in the renegotiations.

The effect of the existing agreements is that both Telstra and Optus would progressively decommission their fixed networks as customers were migrated across to the NBN.

It is very apparent from the strategic review that the migration process was going to take far, far longer than NBN Co or the carrier ever anticipated. The extraordinarily slow early pace of the rollout – two years behind schedule after the first three years – would have a big impact on the timing and therefore the value of their cash flows from NBN Co.

That would obviously have been a major issue for Telstra. Its deal split roughly $5 billion (in NPV terms) for access to its infrastructure, $4 billion for the progressive disconnection of its copper lines and $2 billion of payments and savings from its arrangements with the federal government for providing essential services, among other things.

With the rollout so far behind schedule, the bulk of the disconnection payments would be pushed out into the future. While Telstra has its ‘natural hedge’ in the form of the cash the copper would continue to generate, the corporate mindset has already shifted towards a fixed line-free future and embraced it.

There has been some discussion and debate about whether the ‘new NBN Co’ should buy Telstra’s copper network outright or lease access to it, with a lot of focus on the cost of maintaining an ageing copper network. A similar discussion could be had about the HFC networks.

It actually makes little difference whether NBN Co buys or leases the copper. The cost of maintaining it would be reflected either directly in NBN Co’s costs or indirectly via the level of the lease charges.

The existing agreement with Telstra, under which its copper network is progressively decommissioned and broadband services on the HFC network are wound down, will eventually produce the same outcome for Telstra (and Optus) as if they simply sold their networks.

Both carriers (but particularly Telstra) know they got exceptionally good deals from NBN Co. Telstra has made it clear that its focus is on protecting the $11 billion it already has, rather than trying to extract even more value from NBN Co It has said it will co-operate with Turnbull and NBN Co to help implement the shift in strategy.

While this process will entail long and detailed negotiations, NBN Co is confident that Telstra will focus on protecting what it has, rather than risk turning Turnbull into another Stephen Conroy.

While the rollout of the NBN under Turnbull will take four years longer and cost nearly $12 billion more than he envisaged, it will still be completed four years earlier than the existing NBN. That means Telstra and Optus will get their cash significantly earlier than if NBN Co continued to pursue its fibre-to-the-premises plan.

It is conceivable that, with a sale of the networks to NBN Co, they could even get clean exits and big lump sums within the near term, while NBN Co would have a major customer base and the cash flows from it.

The strategic review’s major emphasis on the copper and HFC networks, their upgrading (including proactive remediation of the copper) and the expansion of the HFC footprint would probably be more easily prosecuted if NBN Co had complete control and ownership of the networks.