Why no deal between Telstra and the NBN Co might be the best result for everyone: Kohler

It is becoming less and less likely that Telstra and the NBN Co will agree on a deal.

Communications Minister Stephen Conroy is understood to have given them a month, after which the NBN will be built without Telstra’s traffic or co-operation. But it’s hard to see a deal being done in that time: they are still billions apart on price and both sides have no room to move.

Telstra wants to be compensated for the loss of future profits as it progressively shuts down its copper network and moves its wholesale traffic to the NBN. The government accepts the principle of compensation but its offer is well below what Telstra’s board believes is needed to avoid legal action from shareholders.

Both sides are now preparing to go it alone, so it’s worth thinking about what that means – both for Telstra and taxpayers – and it’s actually not too bad for either side. In fact it may be the best outcome.

The report from McKinsey and KPMG on the implementation of the NBN is still secret and will be released soon, but I now know three things about it: it is entirely based on there being no deal with Telstra, it pronounces the NBN viable without Telstra, and its wholesale pricing will be surprisingly low.

If that’s true, there will be a lot of telco analysts with egg on their faces. It’s still widely assumed that the NBN will be a colossal white elephant, especially without Telstra – however, if the talk about the McKinsey/KPMG report is correct it will blow that idea out of the water – partly because it will be much cheaper to build than $43 billion.

A deal with Telstra for the immediate transfer of its network business to the NBN, and the use of its pipes and ducts, merely brings forward the time when it is cash positive. So no deal with Telstra increases the NBN’s burden on the federal budget in the early years, but apparently not prohibitively so.

For Telstra, going it alone is not so bad either because it could milk the copper network and then switch to fibre when it made sense – and there are two big sticks with which the government could, and probably will, use to ensure the company does that: the functional separation legislation and the universal service obligation (USO).

The legislation was rejected by the Senate this week and withdrawn, and it’s unclear whether it will ever get up. If it does, and Telstra has to choose between owning 4G mobile spectrum and being vertically integrated, it will have to choose the former and comply with functional separation.

And if its network operation were fully separated, it would only have any value if it could compete long term with the NBN. But if it’s true that NBN wholesale pricing will be lower than everyone expects, then a stand-alone copper network that’s not integrated with Telstra’s retail business would not be viable and have little point once the NBN is built.

So the legislation – if it becomes law – is a serious penalty for Telstra if there is no deal with NBN. The other penalty, which has had no attention up to now, is the USO.

It is not mentioned in the Telstra legislation, but when Senator Conroy announced the regulatory reforms that contained last September, he also specifically referred to the USO in the supporting documents.

The USO requires Telstra to enable all people in Australia to have reasonable access on an equitable basis to standard telephone services, including payphones.

Conroy’s statement in September said: “The legislation will strengthen the USO by enabling [the] Minister to specify the standards, terms and conditions of services, connection and repair periods, and reliability requirements of the standard telephone service. Telstra will be required to meet new minimum performance benchmarks. Failure by Telstra to meet the requirements will expose Telstra to a civil penalty of up to $10 million.”

So there is no suggestion the USO will be removed once the NBN is built: far from it – it will be strengthened. The USO will not rest with the NBN Co, since it’s a wholesale-only operation and can’t actually provide all Australians with reasonable access to a phone service. So it stays with Telstra.

The practical result of this will be that Telstra cannot shut down any of its 5000 telephone exchanges while there are still customers using that exchange – even if the exchange is no longer viable because most have switched to the NBN fibre.

The viability threshold probably varies with each exchange, but as I understand it the percentage of households and businesses in each exchange area that are needed to make the exchange worth operating is more than 50 per cent. That is, if half the customers in a particular area move to a fibre-based supplier instead of copper, then Telstra must close the exchange or lose money.

But it can’t close it because of the USO. That means the only sensible thing is for Telstra itself to switch whole exchange areas across to the NBN at once, rather than one customer at a time.

In other words, if there is no deal within a month and each side declares that it’s going it alone, Telstra will still have to use the NBN to carry its traffic – not immediately, but progressively, within ten years.

And perhaps that’s the best thing for all concerned. The government doesn’t pay Telstra a big ransom for its traffic, and Telstra simply makes commercial, local decisions about how best to serve its customers in future, once the NBN is built.

This article first appeared on Business Spectator.