Europe in a Global Context. Investment in fibre networks: the New Zealand experience
In 2008 the National (conservative party), then in opposition made a pre-election promise to:
Accelerate the rollout of ultra-fast broadband to 75% of New Zealanders over ten years, concentrating in the first six years on priority broadband users such as businesses, schools and health services, plus green-field developments and certain trances of residential areas.
The achievement of this objective will be supported by government investment of up to $1.5 billion which is expected to be at least matched by private sector investment and will be directed to open access infrastructure.
To put that investment in context, this equates to approximately 200 euro per head of population.
The basic principles of that investment were:
- making a significant contribution to economic growth;
- neither discouraging, nor substituting for, private sector investment;
- avoiding entrenching the position, or 'lining the pockets', of existing broadband network providers;
- avoiding excessive infrastructure duplication;
- focussing on building new infrastructure and not unduly preserving the 'legacy assets' of the past; and
- ensuring affordable broadband services.
The National party won the election in November 2008 and immediately commenced to implement the policy.
The challenge for officials was to balance a complex set of (sometimes inconsistent) objectives. They set out to:
- achieve government's goal (75% coverage over 10 years);
- achieve sufficient private sector co-investment in order to do so;
- provide services in an immature (developing) set of markets;
- avoid recreating another vertically integrated monopoly; and
- avoid unnecessary overbuild (which would devalue existing assets and disrupt markets).
Design issues included:
- What sort of network was to be built (FTTN, FTTP?)
- How was coverage to be defined (national or regional?)
- How would government funding be allocated?
- Would funding take the form of a grant, subsidy or direct investment?
- If an investment, what structure should be adopted (PPP, joint venture, etc)?
- How would the initiative take into account current market conditions?
- What network design (layer 1 (passive), or layer 1 and 2 (passive and active)?
- What level of open access (how deep, dark fibre, lit fibre)?
- Should there be a restriction on retailing?
The model finally decided on was:
- an open access fibre infrastructure at layer 1 and layer 2;
- the creation of private local fibre companies in 33 candidate areas;
- $1.5 billion of state funding through Crown Fibre Holdings (CFH) alongside private co-investors;
- Staged investment process (10 year horizon);
- priority to schools, hospitals and businesses over the first 6 years; and
- LFCs to provide layer one and layer 2 services, and prohibited from entering the retail market.
Therefore in order to participate, the incumbent Telecom would be required to structurally separate.
The funding model adopted reflected the key economic problems that had been identified as preventing private investment - high fixed costs and uncertain uptake. The state investment would be by way of concessionary funding for a 10 year period; in this way the state would shoulder the majority of the uptake risk, while the private partner would take on deployment and business execution risks.
The assessment criteria for participants included the credibility and financial strength of the partner, the proposed coverage and rollout plan, the cost of the network build and the price of services, meeting open access and technical requirements, the degree of duplication of existing networks, and competitive benefits. The technology choice was FTTH, with P2P for premium business and priority users, and GPON (split 1:24) for the mass market.
A competitive tender process was undertaken, with the country divided into 33 candidate areas. This allowed for a competitive tender process on a regional basis, and avoided the risk that only the incumbent would prevail if a single national process was adopted. The ultimate outcome of that process was that the incumbent was successful in 24 of the 33 areas, with two electricity lines companies and a regional fibre network securing the other areas.
The commercial model ultimately adopted differed between those three local fibre companies and the incumbent.
In relation to the LFCs, the state pays for the fixed cost of fibre down the street and receives 'A' shares (voting only) when a premises first connects. The partner pays for the customer connection (lead-in etc) and receives 'B' shares (dividend rights only) for its investment. It repays the state one customer's worth of the fixed cost(calculated by an agreed formula) by buying one customer's worth of the 'A' shares. The state starts with 100% control, and gets diluted as uptake occurs. The partner receives 100% of distributions from the LFC during the 10 year period. At the end of the 10 year period the 'A' and 'B' shares convert to ordinary shares, and no further state investment is expected.
For the state this means that its investment is directed at the key economic problem, its total investment is capped, and if uptake is successful, a recycling mechanism means that its capital can be invested once more. The partner progressively gets a higher portion of shares as uptake occurs, and has strong incentives to drive uptake.
In the case of the incumbent the partnership model was not adopted. Instead the state provided funding in a combination of equity securities and debt securities of roughly equal proportions. The equity securities will be issued progressively as the build progresses, have no voting rights, and have no right to dividends before 2025. The right to dividends increases if the uptake is 20% or less. The debt securities are unsecured, non-interest-bearing, and not redeemable until between 2013 and 2036. The right of redemption accelerates if uptake is 20% or less. In this way the funding arrangements incentivise uptake. The state also holds warrants entitling it to purchase additional shares between 2025 and 2036 if total shareholder return exceeds 16%.
As I indicated, the incumbent was required to structurally separate as a condition of obtaining access to state funding. By coincidence, today, 30 November 2011, is separation day. From midnight tonight in New Zealand (noon in Brussels), the incumbent becomes two publicly listed telecommunications companies - Chorus, which owns the passive copper network, most ducts and manholes and the majority of central offices, providing layer 1 &2 services over copper and fibre on an open access basis, and Telecom, which owns the mobile network, PSTN hardware and software, and international operations. Separation was achieved by demerger, with Telecom shareholders receiving one Chorus share for every 5 Telecom shares.
Finally, for completeness, I should mention the Rural Broadband initiative (RBI) which complements the UFB initiative and targets the remaining 25% of New Zealanders.
Funding for this initiative is by way of a grant of $300 million (sourced by way of industry levy), in recognition of the fact that providing fast broadband to rural communities is commercially unattractive to investors , yet vital to the New Zealand economy.
The target for the RBI is 5Mbps or better for 80% (of the 25%), and 1 Mbps for the remaining 20% 97% or schools will receive 100Mbps by fibre: the remaining 3% 10Mbps.
The successful participants were the incumbent (now Chorus following separation) providing FTTN and fibre backhaul, and Vodafone providing a fixed wireless solution. They agreed to provide extra investment to increase the total investment for the RBI to $500 million.
