Telstra chokes on internet minnow

Nine months ago Telstra announced that it intended to buy a South Australian internet service provider, Adam Internet. Now, with a June 30, 2013, deal completion deadline breached and regulatory approval still "in the email", Adam Internet's founder and executive chairman, Greg Hicks, has walked away.

Nine months ago Telstra announced that it intended to buy a South Australian internet service provider, Adam Internet. Now, with a June 30, 2013, deal completion deadline breached and regulatory approval still "in the email", Adam Internet's founder and executive chairman, Greg Hicks, has walked away.

The acquisition would not be proceeding because Telstra's attempts to address Australian Competition and Consumer Commission concerns had not resulted in ACCC approval by the June 30 contract end-date, Hicks said on Tuesday.

Superficially, nothing much changes. Hicks knows there are other potential telco buyers of his company. A deal with one of them that would surf past the ACCC is still possible.

Telstra for its part still wants to compete as a budget internet service provider (ISP) alongside its premium service, Big Pond. Instead of buying Adelaide-based Adam and developing it as a stand-alone national brand, it probably will now develop its own business.

The deal that was first announced in October last year was also not much more than a rounding adjustment by Telstra's standards. It was going to pay about $60 million for Adam Internet, and books more revenue than that every day, about $68 million on average.

So why was it under regulatory review by the Australian Competition and Consumer Commission for nine months, and why did negotiations about concessions from Telstra drag past the June 30 deal completion deadline, prompting Hicks to pull up stumps?

The answer lies not in what Adam Internet is, but in what Telstra, the ACCC and Telstra's competitors believed it could become under the telco's wing. It also lies in a regulatory undertaking Telstra negotiated with the ACCC last year to run its retail business at arm's length to its copper network, on the same basic access terms as the ones it offers other telcos looking to take a ride on the copper.

Telstra wanted Adam not because it intended to run a niche business in South Australia, but because it believed Adam's ISP offer and its "light touch" internet-based service model could be expanded into a national operation, riding on Telstra copper wire initially, and then on the new national broadband network, whatever shape it finally assumes.

When Telstra went to the ACCC last October to seek clearance for the deal, it did so on the basis that Adam would not be covered by the earlier undertaking it had given the ACCC not to give its retail business preferential access to its copper network, or preferential treatment.

For the ACCC and Telstra's competitors, that was akin to a large truck revving up to drive straight through an even larger loophole.

The copper network access undertakings Telstra had given for its retail division effectively would not apply to Adam if Adam was owned by Telstra, the ACCC said in its first, negative response to the proposed takeover on December 20.

As a result, Telstra would have "the ability and incentive to utilise its market power to favour Adam over its wholesale customers in the provision of access to its network infrastructure", it said - and that Adam might exploit its insider advantage to build significant national ISP market share on top of the 40 per cent-plus share of the broadband market that Telstra already controls through Big Pond.

Telstra asked the ACCC to suspend its formal merger assessment process in January, and in informal talks agreed to discuss incorporating Adam in the access undertaking it had already given for its own retail operations.

But negotiations dragged on as Telstra and the ACCC discussed the detail, and as the ACCC took soundings from the industry (Telstra's competitors were, of course, all opposed to the acquisition).

After the June 30 deadline was reached, Telstra negotiated an extension with Hicks, but it was on borrowed time because other telcos that did not have the same regulatory hurdles were circling.

The issues raised by the ACCC and Telstra's competitors would have surfaced regardless of what ISP Telstra tried to buy. They are a product of Telstra's dual ownership of a retail business and the copper network.

Telstra's obvious choice now is to develop a budget ISP presence on its own alongside Big Pond. But even if it does, the same issues could surface.

It would depend on how Telstra set up the new budget ISP. There would be strategic sense in setting it up as a stand-alone subsidiary as Adam Internet would have been, to avoid a business overlap with Big Pond.

But if Telstra did that and argued again that the new operation was not captured by the arm's length access rules that govern its existing retail businesses, the ACCC would be in its face again.

The Maiden family owns Telstra shares.

mmaiden@fairfaxmedia.com.au

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