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BT: we need fibre, not share buybacks

The short-term thinking that's holding back UK plc

5 things you didn’t know about cloud backup

Analysis Fibre to every home and business (FTTH) in the UK is desperately needed if the UK is to keep its long-term economic competitiveness.

It's extremely disappointing that BT today announced a £2.5bn share buy back programme. We'd all be better off in the long-term - BT shareholders included - if BT invested that in deploying fibre, rather than a short-term cash giveaway.

Guaranteed profit

BT manages the UK local loop through its Openreach subsidiary, and Ofcom allows BT a regulated 10 per cent return on its investments, therefore contrary to some beliefs there is little or no risk to BT shareholders on a FTTH deployment - just a regulated return at the Openreach level and potential upside at the operating unit levels (Retail, Wholesale and Services) with the sale of additional services, improving margins or market shares.

For a practical example: if it costs Openreach £10bn to deploy FTTH, and the cost of borrowing is six per cent, then Ofcom will guarantee Openreach an additional £400m of pre-tax profits per annum (£10bn multiplied by (10 per cent minus six per cent). This is also a big tax benefit for BT, as an investment of this level will reduce its tax bill for many years to come. Even with a full 20 per cent tax charge, £320m of additional earnings for BT with its current PE Ratio of 17.5 adds around £5.6bn of market capitalisation for shareholders.

There is a big debate going on throughout the world about open access and regulation of fibre projects. Most of these debates are irrelevant in the UK, because there is already a separation of the network and service divisions of BT. For instance, Openreach can provide three distinct network services at the exchange for all other service providers: a voice, data, and broadcast video pipe with an associated tariff menu.

Saving money by spending it

In the 12 months to March, Openreach had operating costs of £3,289m. It's seriously doubtful that FTTH would add more costs to this figure because BT's copper network, which in some parts of the UK is over 70 years old, is so expensive to maintain. Many of the distribution frames in the exchanges are also extremely old, and we know from LLU statistics that maintenance costs are extremely high.

In the United States, Verizon claims that operating costs have been dramatically reduced by replacing copper with fibre, and the investment almost pays for itself. However, the weather in the UK is nowhere near as extreme as parts of the US. Also, Iliad in France claims that margins are higher for fibre than LLU, which also implies a cost advantage.

In the UK's regulated environment, Ofcom assumes that operating costs are reduced by 1.5 per cent per annum for regulated prices. This efficiency gain could almost certainly be increased if FTTH replaced the Copper Local Loop.

Triple Play opportunities

The Openreach products would effectively be a voice, data, and video "pipe". Effectively, the situation could be quite similar to the existing LLU setup with a standalone data pipe, a combined voice and data pipe, and an extra product for broadcast video. This broadcast video product would be similar to the current proposal at Ebbsfleet which bundles the Freeview channels, DAB channels, and the Sky "satellite" channels.

Obviously, the video pipe is an additional revenue stream for Openreach. I would guess that the appeal of Freeview and DAB channels alone is limited to customers where reception of Freeview is poor or multi-dwelling units where aerials are not permitted.

However, the bundling of pay TV channels would add up to a viable end-user service. It would also provide a third distribution channel, and would probably win some market share from both Sky Satellite and Virgin Media Cable networks. Also, because Openreach is effectively a network provider with BT as its biggest customer, it would provide opportunities for a whole variety of entrants into the UK pay TV market.

5 things you didn’t know about cloud backup

Next page: Digging up the road

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