In June 2005 New Zealand was ranked 22 out of 30 OECD countries in the OECD’s broadband penetration ranking. Despite Telecom achieving broadband rollout targets and lowering prices significantly in the intervening period, the December 2005 ranking had not changed. Why so? Simply put, New Zealand’s affordable entry level broadband packages have very limited capability and little appeal to many potential customers – partly due to the lack of competition in the New Zealand broadband market. Take a look at Italy and the UK – each had a broadband penetration equal to or less than that of New Zealand in 2001 yet they have surged ahead of New Zealand mainly due to competition resulting from broadband regulatory reforms (Exhibit 1). Yet in Ireland, where during this period the process of unbundling the local loop virtually stalled, growth in broadband penetration was far more modest than in countries that have implemented regulatory reforms – showing market behaviour similar to that in New Zealand.

Exhibit 1: Broadband penetration in selected OECD countries, 2001–2005 [Source: OECD]

The Government has, as a result of its Telecommunications Stocktake decided to address the situation by implementing a package of regulatory and non-regulatory measures. Key measures most likely to increase broadband penetration are considered below.

Legislating local loop unbundling (LLU)

ISPs have been complaining for years about a lack of access, on reasonable terms and conditions, to Telecom’s local loop infrastructure. In recognition that that the local loop is a bottleneck facility, the Government has moved to legislate full LLU, both at the street cabinet and at the exchange. This will enable alternative carriers and ISPs to install their own advanced broadband infrastructure (such as ADSL2+ and VDSL), bringing to the market innovative services which require higher bandwidth and service capability than is currently available from Telecom’s commercial unbundled bitstream service (UBS). LLU will be made available at cost-based rates, allowing the alternative carriers and ISPs to price their services at competitive levels.

Amending the regulated UBS

The current regulated UBS has a sub-broadband upstream bandwidth constraint (128kbit/s) and does not support applications requiring a constant minimum quality of service (QoS) level. It is therefore unable to support the delivery of emerging services such as carrier grade VoIP, videoconferencing and IP-TV. With the aim of increasing the availability of such services the Government will amend the regulated UBS by removing bandwidth constraints and including scope for minimum levels of QoS to be set.

It is a little publicised fact that a PSTN-based telephone service is not a technical requirement for end user ADSL connectivity. In New Zealand, as in the vast majority of countries where ADSL is available, ADSL subscribers must also pay PSTN line rental. The rationale for this is clear in situations where the subscribers desire and use both PSTN and broadband services. However PSTN dial tone is not necessary when the ADSL subscriber makes all voice calls using mobile or VoIP. Such subscribers, if charged PSTN line rental in addition to ADSL subscription, are being charged for unnecessary PSTN dial tone.

“Naked DSL” (NDSL) eliminates this problem through the provision of ADSL service without the simultaneous provision of PSTN dial tone, at a lower cost to the subscriber than combined ADSL and PSTN subscription. In New Zealand the regulated UBS service does not require simultaneous PSTN service and is effectively wholesale NDSL. However, Telecom’s commercial UBS offer still requires PSTN line rental and, in practice, alternative carriers and ISPs have not insisted on the regulated service in order to avoid delays in entering the broadband market. The cost elements of wholesale NDSL versus PSTN plus regulated UBS are illustrated in Exhibit 2 below.

Exhibit 2: Cost elements of wholesale NDSL vs PSTN plus regulated UBS [Source: Network Strategies]

The Government is to amend the existing regulated UBS to clarify that the existing regulated service can be purchased as NDSL on a “retail-minus” basis.

Legislation of co-location and backhaul for LLU

Access to Telecom’s local loop is worthless without the ability to:

• co-locate hardware in Telecom’s cabinets and exchanges
• backhaul end-user LLU traffic across Telecom’s network to the carrier’s or ISP’s PoP.

Both backhaul and co-location have caused considerable headaches worldwide for access seekers involved in lengthy and fruitless commercial negotiations with incumbents, and for regulators involved in even more protracted regulatory proceedings. The Government’s decision to legislate backhaul and co-location will be implemented in parallel with LLU and as soon as possible to facilitate service offerings using LLU.

Investigation of whether retail-minus pricing is suitable for the regulated UBS

The Minister of Communications will direct the Ministry of Economic Development to:

• monitor the Commerce Commission’s application of the retail minus pricing principle to the regulated UBS
• review whether UBS pricing is consistent with the Government’s aim of increasing broadband penetration in New Zealand.

We expect the investigation to focus on the validity of the Commerce Commission’s regulated UBS pricing methodology, possibly comparing the outcome with other methodologies such as benchmarking and long-run incremental cost-based (LRIC) pricing. A key problem for the Commission is that it must impute a “retail minus” price for a wholesale service for which there is currently no commercial retail service equivalent.

Amendment of the Telecommunications Act 2001 to hasten regulatory proceedings and to improve enforceability

The Cabinet has approved a package of changes to the Telecommunications Act 2001 to increase the effectiveness of regulatory proceedings. These changes should facilitate an accelerated broadband uptake and include:

• enhanced speed of dispute resolution
• a more efficient wholesaling environment
• stronger enforcement of regulatory decisions
• new powers for the Telecommunications Commissioner to undertake investigations
• provisions to require further information disclosure from carriers.

Accounting separation of Telecom’s retail and wholesale business operations

Accounting separation of Telecom’s retail and wholesale business operations will be legislated. Accounting separation will:

• increase the transparency of Telecom’s accounts
• increase the validity of Telecom’s accounting data in regulatory proceedings
• improve Telecom’s understanding of areas of cost causality
• allow for Telecom to present a more robust data-set in regulatory proceedings
• potentially hasten regulatory proceedings.

Investigate operational separation and structural separation

Operational separation (OS) and structural separation (SS) both refer to models of splitting organisations into separate functionally independent business units. However, the difference between OS and SS is that under the former the new business units remain under the ownership of the un-separated organisation, whereas under SS the new business units are sold to new owners.

Arguments in favour of OS and SS are that they remove behavioural obstacles to competition, resulting in increased competition and innovation. Arguments against OS and SS include high cost and possible reduced opportunities for infrastructure-based competition.

Different branches of Government are to investigate OS and SS as possible future options for Telecom.

The package deal - what’s in it for us?

The package is designed to address the broadband problem by focussing on a number of issues rather than any one single measure. This approach of covering many fronts aims to increase rapidly the ability of service providers to bring new, attractive and cost-effective broadband offerings to the market.

If this succeeds, how will New Zealand benefit? As is becoming more and more obvious in overseas markets, the potential pay-off in terms of economic development will more than compensate for any short-term economic losses suffered through the adjustment process.

Note: Network Strategies Limited acted as an advisor to the New Zealand Ministry of Economic Development (MED) for particular aspects of the Telecommunications Stocktake review. The views expressed in this article do not necessarily represent the position of the MED or the New Zealand Government.