Why the NBN’s premium services could be a hard sell: Gottliebsen

Simon Hackett’s KGB interview provides an insight into how Stephen Conroy’s insistence that the National Broadband Network deliver entry level prices equivalent to the cost of similar download speeds today could have a perverse effect on the pricing and take-up of the high speed services the government is spending $35.7 billion, and potentially far more, to deliver.

Conroy committed the NBN to delivering a 12 megabit service over fibre at a similar price to that delivered over copper today. He also, presumably to keep the massive cost of the build off-budget, insisted that the NBN Co. business case should deliver (or at least forecast) a positive return over its cost of debt. NBN Co. is forecasting a return of 7%, above the Government’s funding costs but below its estimated weighted average cost of capital of between 10 and 11%.

Hackett has been highly critical of NBN Co.’s pricing model, which involves both access and data usage charges. He argues, as he did again in the KGB interview, that while consumers will pay no more for the entry-level product than they currently do using an ADSL service, once they want higher speeds and data usage the cost will soar.

In other words, to access the NBN’s higher speeds – the rationale for its construction – consumers will have to be prepared to pay a premium even over their current higher-speed ADSL services and potentially a very steep premium to access the 100Mb services that Conroy has used as justification for the NBN cost and the forced redundancy of existing networks. Hackett would like to see the imbalance between the access and usage charges addressed.

NBN Co.’s Mike Quigley, however, has defended the pricing model in terms that make it obvious he has a different industry model in mind to the one Hackett, managing one of the larger small internet service providers, envisages. NBN Co. sees the smaller players focusing on regions when providing their own retail services while buying wholesale access from Telstra, Optus or other bigger players to offer broader geographic coverage.

As Hackett says, the pricing model could reverse the long-term industry trend (aided by the approach the Australian Competition and Consumer Commission has taken to regulating Telstra’s fixed line services) of continually reducing prices for telecommunications services.

There had been some expectation that the ISPs would have to accept some reduction in their margins (which on Telstra’s network, for ISPs with their own digital subscriber line multiplexers, are very attractive) but Hackett was adamant that won’t happen, which means the full impact of the usage charges may flow through to consumers.

The joker in that pack is what Telstra, with all the cash ($11 billion in net present value terms) it will get over time from NBN Co. and the Government for access to its ducts and pipes and the progressive decommissioning of its copper network, will do. Apart from the reality that it is cheaper and easier to retain customers than acquire them, Telstra could use its scale to be quite aggressive in pricing its retail products.

There are two overlays on the basic model that will also have an impact on price.

One is the Government’s quite understandable commitment to uniform wholesale prices across the country, which forces NBN Co. to embed an urban/regional cross-subsidy in the prices it charges retailers – city dwellers will pay more than they otherwise would to fund that subsidy, which could otherwise have been funded from the budget as an explicit subsidy.

The other flows from the ACCC’s decision to insist that there be 121 points where retail services providers can connect to the NBN, rather than the 14 that NBN Co. sought. Had the NBN Co. position been endorsed, vast amounts of existing backhaul fibre would have been stranded and NBN Co.’s monopoly greatly extended, although it would have been easier and cheaper for NBN Co. to deliver uniform pricing and smaller ISPs would have found it far cheaper to connect to the network.

That decision tilts the retail playing field somewhat towards Telstra and Optus and others with backhaul networks, as well as offering them the commercial opportunity to sell wholesale services to the smaller players.

It also means that the telcos with big national customer bases – Telstra in particular – will have quite different economics when offering a national service to the smaller players, with smaller customer bases spread across the country.

The peculiar prospect created by the NBN, if Hackett is right, is that while Telstra’s infrastructure-based monopoly might be broken by the NBN, the post-NBN industry might still be dominated by an oligopoly of big players, with Telstra probably foremost, and the smaller players might be less competitive and profitable than they have been while benefitting from regulated access to the Telstra network.

In Hackett’s view, if the NBN Co. business model works as it anticipates and over time there are sufficient consumers downloading high-definition movies (which is the only obvious mass market application for the higher speeds) to get NBN Co. to the point where it is generating the average revenues per end-user its business case is built on, it could start reducing prices for the higher-speed products.

Given that the Government’s plan envisages an eventual partial sell-down to private investors – and the Opposition would probably flog the lot – if NBN Co. did turn out be a stunning commercial success it is improbable that a future government would allow excess returns to be distributed through lower prices to consumers rather than grab a massive lump of value for itself.

That does, of course, assume that NBN Co. is not only able/allowed to roll out the complete network and does so within its budget, but that it can also deliver returns beyond its business case. This is a heroic assumption given that the gestation of the NBN and the decisions on its core features involved no meaningful analysis of its economics but was dreamed up by Kevin Rudd and Conroy on a plane.

This article first appeared on Business Spectator.