NBN Implementation Study released

The Commonwealth Government recently released the Implementation Study it commissioned into the construction of the National Broadband Network. The Study was prepared jointly by McKinsey & Co and KPMG.

The Study, released on 6 May 2010, largely confirms the proposals of the Government and NBN Co for network design, roll-out and wholesale service offering. The Study provides a "conservative" estimate of the costs of the 8 year NBN build at $42.8 billion - compared to the Government’s original estimate of $43 billion.

However, the Study has suggested changed settings in several key areas.

Network design, coverage recommendations and last 10% solution

FTTP to 93%

The Study recommends that NBN fibre coverage be extended to 93% of premises (instead of the Government's original objective of 90%).

Premises deemed to be “adequately served” by other high speed network providers would be counted towards NBN Co’s coverage objective. This will discourage overbuild by NBN Co; however, the Study expects NBN overbuild of Telstra’s existing HFC network.

The Study assumes that NBN Co will deploy a combination of shared and “home run” or point-to-point fibre cabling. Previously, NBN Co has anticipated using some point-to-point fibre, but the Study models a rollout comprising 50% point-to-point fibre.

Wireless and satellite usage

Whilst there has been accelerating migration of fixed services to wireless, the Study concludes that there are significant limitations on wireless broadband in terms of the number of mobile towers and the amount of spectrum required, and that for most end users wireless will be at best a complementary service to fixed broadband.

The Study recommends that, for NBN Co to provide the guaranteed minimum speed of 12 Mbps outside the fibre footprint:

• fixed-wireless should be made available to the first 4% of premises outside the 93% fibre footprint to be rolled out and operated by a separate commercial provider chosen by public tender; and

• a satellite service be made available primarily for the remaining 3% of premises outside the fibre footprint (but offered to all premises outside the fibre footprint), using at least two Ka-band satellites.

Deployment may involve large scale aerial rollout and mandated access to utility infrastructure

The Study recommends that NBN Co statutory powers and immunities be enhanced as follows:

• extend the low impact facilities definition so that local Government planning and property owner consent for NBN Co facilities is not required including all overhead cabling and network termination devices. The Study estimates up to 55% of rollout could be overhead. If the rollout in the 1990s of pay TV networks is any guide, this may cause significant community protest in residential areas where NBN Co conducts aerial rollout;

• require bodies corporate of multi-dwelling units to allow NBN Co to access the building and install fibre;

• provide mandated access to utility (i.e. non-telecommunications) ducts, pipes and poles on terms agreed with NBN Co or, failing agreement, set by the ACCC. This is a very significant proposal for utilities, for whom the price of access and its operational impact will be a key focus; and

• consistent with existing proposed legislative amendments, obtaining access to detailed information about existing network infrastructure belonging to both telecommunications carriers and utilities.

The preferable funding model for the NBN is 100% Commonwealth equity

Funding the NBN investment

The Study concludes that, during the NBN roll-out and until it becomes EBITDA positive, NBN Co should be 100% funded by Government equity. This is estimated to amount to a Government investment of $26 billion over approximately six years.

It is expected that the $26 billion would largely be funded by Government bonds, and that the projected internal rate of return for the NBN project will slightly exceed the Commonwealth bond rate of 6%. The Study concludes that commercial funding of the NBN will not be available for at least six years into the roll-out.

Subsequently, NBN Co would raise private debt and, through this and earnings, fund the balance of the $42.8 billion project cost and repay around $20 billion of the Commonwealth's funding by year 15 of the project.

Costs of the network build

The $42.8 billion cost estimate assumes that the NBN is built without any agreement between NBN Co and Telstra for access to Telstra's network infrastructure or the decommissioning of its existing fixed-line networks and the transfer of its customers to the NBN. However the Study estimates that the sharing of infrastructure could reduce NBN costs by $5 billion or more.

Pricing, take-up and future directions in telecommunications

Wholesale services and pricing

The Study concludes that a wholesale-only, open access mandate for NBN Co is crucial to achieving competition objectives, but recommends the Minister be allowed to make exceptions to the wholesale-only rule. This remains a risk for access seekers who may end up competing with NBN Co for retail customers, despite wholesale-only being a key tenet of NBN Co from its inception in 2009.

There are no proposals for changes to the nature of NBN Co’s wholesale service offering, which the Study accepts will be a Layer 2 only Ethernet bitstream service. However, the Study does contemplate the Government requiring NBN Co to move up or down in the wholesale service stack if market conditions make it appropriate to do so. The Study states that mandated operation at Layer 2 only should in practice mean there is little demand from retail customers for NBN services.

The Study recommends that NBN Co be required to price its services "for affordability and take-up in the near term", and not as a "premium product". Based on the Study’s modelling, entry-level (20 Mbps) wholesale service pricing would commence at between $30 and $40 per month. Critically, the Study concludes that such wholesale pricing will enable retailers to offer consumers higher speeds than legacy services without significantly increasing retail prices, and anticipates broadband penetration of around 80% over time. The Study does not consider the empirical role of inertia in keeping many customers using legacy services despite the benefits of a migration. However, it does contemplate NBN Co providing one-off "migration incentives" to retailers, which could presumably be passed on to end users.

Wholesale prices would increase over time (as the relative value of fibre increases), under regulatory supervision.

The Study favours uniform national NBN pricing, although:

• pricing would be different for premises served by wireless or satellite;

• transit backhaul would be priced separately and a mandatory requirement in areas where there is no contestable backhaul; and

• the proposed pricing does not take into account financial incentives NBN Co offers retailers to encourage migration to the NBN.

Limited discrimination allowed by NBN Co

Importantly, whilst the Study recommends that NBN Co be allowed to offer differing access terms and conditions to different customers as long as the same terms and conditions are available to all access seekers “in like circumstances”, it recommends not allowing volume discounts unless at least three access seekers have the scale to qualify for such discounts.

High-speed broadband take-up and emerging applications

One of the key assumptions of the Study is that the superior technology and bandwidth of the NBN will drive increased take-up of high-speed broadband, especially as new applications emerge.

The Study asserts that existing fixed broadband offers have been of relatively poor quality, having been hampered by Telstra's vertically integrated structure. As a result, the Australian broadband market offers growth potential greater than population growth. Furthermore, as consumers move from existing fixed-line networks to the NBN, the economics of the existing networks will deteriorate rapidly, sharpening the incentives for network operators to migrate their customer base to the NBN.

The Study asserts that the NBN will “unlock a new wave of fixed broadband growth by providing superior services”. Emerging video services have always been critical to NBN Co’s business case, and the Study confirms that position, with specific reference to 3D HDTV, high-definition videoconferencing and gaming. The Study targets not only IPTV but also “over the top” (OTT) video as services likely to evolve in such a way as to sustain greater demand for high-speed broadband.

The Study also notes the emergence of “triple play” offers in overseas markets, but notes that new business models in Australia may struggle given existing free-to-air and pay TV content arrangements. The Study also asserts that rights to distribute content on the Internet are already being consolidated in the same way as they are through terrestrial delivery platforms. It states that access to content is an area in which changes to market structure and government regulation may be required, to ensure that key content remains available for emerging operators.

Competing with the NBN

Whilst the Study does not suggest that alternative networks be barred outright from competing with the NBN, it recommends that any future fixed line access network built in Australia offering superfast speeds (over 25Mbps) must offer wholesale services on an open access and equivalent basis. This will make such alternative rollouts (and possibly network upgrades) less likely, as there will be no ability for any service provider launching such a network to use it solely for its own retail purposes.

In addition, a universal service levy may be imposed on any such network builder in “high value, low cost” areas, further affecting the financial viability of network competition.