Pacific Fibre - less emotion more analysis

REG HAMMOND
Last updated 14:02 13/08/2012

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OPINION: Like most others in the telco sector I was saddened to hear the news that Pacific Fibre was unable to raise the necessary funding to build a trans-Pacific cable.

The Pacific Fibre story has shared the tech media spotlight alongside Kim Dotcom and we seem to get a daily dose of opinion on: why it happened; whether there is, or ever was, a business case; whether the country is on the brink of disaster; whether this is collateral damage from a China/USA security spat; whether Southern Cross will now use its monopoly position to increase its charges; whether the government should invest in a cable; and so on.

Much of that commentary is tainted with self-interest dressed up as national interest and emotion dressed up as analysis. I attempt to look at the key questions unemotionally.

Is there a business case for a NZ-US Pacific cable?
No. There has never been a business case for an NZ-USA cable - that is why Southern-Cross (SX) is connected to Australia and why Pacific Fibre's plans also included Australia - by far the bulk of traffic from this neck of the woods goes between Australia and the USA.

Is there a business case for a further Australia-NZ-US Pacific cable?
Clearly there was a business case for the SX cable but at the time that too was questioned, and for a period SX was in doubt with some of the original participants pulling out. Even when completed it ran at a significant loss for a number of years.

The three investors (Telecom, Singtel/Optus and Verizon) took significant risks and have reaped commensurate rewards. Without SX, those who now claim it is too expensive (and that is only New Zealanders not Australians) need to think what the costs would be without it.

By effectively installing two cables with diverse routes SX not only built in resilience but also put in place an effective barrier to any future competing deployment. So while there may be a business case for a further cable, as with SX and most other long distance cables, the business case will be risky and long term and in this game "how long" is often critical.

It may well be that the business case will only stack up once SX ceases to be reliable.

Other perceived weaknesses with SX (such as lack of future capacity) are relatively minor - not only can SX increase capacity, but alternatives such as local caching and, if necessary, moving Australian traffic onto other cables can reduce demand.

Besides the protection afforded by diverse routes SX's other significant advantage over any existing, alternative cables is its lower latency due to its more direct route to the USA. Pacific Fibre recognised this and proposed an even more direct route.

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But that more direct route also incurs additional risks - without the security of a second cable to mitigate those risks.

So while there is a business case for a future cable it may well be based upon replacing SX as it starts to become unreliable rather than competing with SX.

But if that is the case it means that SX is in the driving seat as its business case to replace SX will always be stronger.

Will the failure of Pacific Fibre mean higher broadband prices?

No. It may mean that broadband prices will not fall as fast as they might otherwise have done, but SX prices have consistently fallen over the years irrespective of Pacific Fibre - it faces increased competition in its main market which will keep it reasonably honest.

Would a further cable mean that prices will plummet to the same level as in the US?
No - the best we can hope for will be comparable prices with Australia. The small size of our market, the lack of scale of the players in our market, that we import vastly more content than we export - and our distance from the major markets will always dictate that we will pay more than the US customer.

Will the Ultra-Fast Broadband (UFB) project be at risk because of this?
No - as indicated above SX has sufficient capacity. It is only if SX gets towards the end of its life and there is no alternative cable that UFB might be affected - but if we reach that position UFB may be the least of our worries.

Why, if SX charges the same wholesale prices in Australia and NZ, are broadband retail prices different?
A couple of reasons - first, Australia is a much bigger market with a lot more competition at all levels of the market not just the international transit market.

Second, SX gives volume discounts - the volumes are significantly greater in Australia so the discounts are significantly greater and these get passed down to end users in the more competitive Australian environment.

Is this about the US and China security concerns?

Nobody knows - it is just as likely to be broader Sino-US, Sino-Australian, US-Australian trade relationships and suspicions dressed up as a security issue.

Would the US or Australian governments refuse landing permission to Pacific Fibre if it had Chinese investment, or was built using Chinese equipment?
Probably not - there do not seem to be any security issues raised with Chinese built satellites being used to transmit "non-security" data - the various security agencies are likely just to keep government and security traffic off them which would be the simple thing to do in this case - but that lack of government traffic might also damage the business case.

Should the Government have invested in Pacific Fibre?
No. For several reasons - first, Pacific Fibre much preferred the Government to be a guaranteed anchor tenant (which the Government was). Pacific Fibre could then have used that guarantee of future business to obtain commercial loans or investment.

Second, Pacific Fibre would have preferred the Government to give it a grant, either directly or disguised as an interest free loan - but why would the Government want to distort the market in that way? It would effectively be subsidising Australian (and American) users of the cable as well.

Third, if the Government wanted to invest in a cable it could do so through Kordia which it already owns. Fourth - if the government's objective is to subsidise the end user's consumption and production of data in order to improve economic growth - there are better and more effective ways of doing that, not least via UFB and the Rural Broadband Initiative (RBI).

Should the Government support any future cable?
The major argument for government support of a further cable is the resilience argument. Although the likelihood is slight, if SX failed completely the economic impact would be dire. The closer we get to such a point of failure the greater the risks of failure increase due to age. The level of economic damage will also increase over time given our increasing use and dependency.

An additional cable across the Tasman would provide the necessary additional resilience, it would cost significantly less than a cable across the Pacific and the benefits would largely accrue to New Zealanders.

It might also improve competition in wholesale and retail markets to the benefit of end users. If the cable went from Melbourne to Nelson or some other South Island point, rather than from Sydney to Auckland, resilience would be increased further, there might also be some minor regional development benefits, and potentially it could attract some Australian investment.

So yes, the Government should support a trans-Tasman cable for resilience purposes - preferably by tendering its anchor tenancy demand albeit that demand is currently relatively small.

If the anchor tenancy was insufficient to get the business case over the line the Government could use Kordia to build the cable. That at least would remove some doubt from the market as Kordia competing against Pacific Fibre has divided the demand pool to the disadvantage of all.

Should Southern Cross be able to bid for the anchor tenancy, or other Government funding, of a future trans-Tasman cable?
If the principal objective of the Government is increased resilience then any supplier could potentially be suitable. SX owning this cable would not significantly reduce competition as SX is already the only game in town.

There are however secondary objectives such as improved competition in the future which would almost certainly need to be taken into account but contractual or regulatory mechanisms could be put in place to achieve those objectives.

Summary
As long as SX remains reliable, making a business case for an additional Australia/NZ/US cable will be extremely difficult. SX itself is in the best position to know when the current cables will become unreliable so from an investment timing perspective its owners have a distinct advantage.

It could also replace or replicate cable legs without interrupting business - again a distinct advantage.

Resilience is the major reason why the NZ Government might invest in a further cable - a trans-Tasman cable would suffice for this purpose. As well as providing resilience it will also serve to ensure that prices in NZ and Australia remain comparable and it may also improve competition in downstream NZ markets.

If resilience is the major objective, as long as it met certain conditions, there should be nothing stopping SX from bidding to deploy a further trans-Tasman cable.

Nevertheless, the New Zealand Government has a number of options available to it, should it wish to accelerate such a cable.

It can tender government demand as an anchor tenancy; it could build the cable itself via Kordia.

It could enter into a Public Private Partnership (PPP) using Kordia, SX or any other operator and use the PPP vehicle to meet any additional objective through contractual or regulatory means. The costs would be relatively low - the benefits relatively high.

Reg Hammond is an independent ICT consultant - formerly the Manager of the ICT Regulatory Group in the Ministry of Economic Development where among other things he advised successive Governments on ICT policy, including policy relating to international telecommunication cables.

- BusinessDay.co.nz

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