Telkom moves to Entrench it's Position

By: Duncan McLeod

Investors dumped Telkom shares last week, wiping out more than R6bn in shareholder value. The sell-off came in response to moves by the fixed-line operator to increase spending on its network and a warning that its margins are likely to fall somewhat short of earlier forecasts.
 

The sell-off, though, may have been overdone. The investment - R30bn over the next five years - is necessary as competitive pressures build. The second network operator will come on stream soon and the cellular operators, which have been eating away at Telkom's voice revenues for some time, are now aggressively competing for broadband subscribers, too.

If it's to remain competitive, Telkom needs to build a next-generation (Internet-based) network capable of delivering super-fast broadband access. Its voice business will naturally decline - voice is a fading business proposition for fixed-line operators the world over - so it needs to recognise and exploit new revenue streams. It has identified offshore expansion, broadband and IT services as the most critical factors for success.

Its R2,4bn bid for Business Connexion, one of SA's most successful IT services groups, is in line with this, but the proposed deal raises serious concerns. The acquisition makes sense, given that the IT and telecom industries are converging. But rival IT services companies are correct when they argue that Telkom should not be allowed to use the billions of rand it generates by virtue of its monopoly in fixed-line communications to muscle its way into a competitive sector where its rivals don't enjoy the same privileges. The Internet Service Providers' Association has already lodged a complaint with the competition commission. Others are likely to follow suit.

Much as Telkom needs to expand into new areas to keep its growth prospects alive, the authorities should block the deal, at least until the market has been normalised. The danger is that Telkom would use its right to provide telecom access - a right IT services groups do not enjoy - to compete unfairly for contracts. Could Telkom resist offering discounted telephony to a big corporate client, in return for a juicy IT outsourcing contract? The company has shown little regard in the past for competing fairly and there's no reason to think that it has mended its ways.

So, the competition authorities should veto Telkom's proposed acquisition until all its competitors in the IT services market are afforded similar rights to Telkom. In most cases, these companies won't need to roll out their own networks and won't want to. But it's important they have this ability to counter any proclivity by Telkom to engage in anticompetitive behaviour or even to overcharge for access to its lines.

Even a fully open and competitive market may not resolve the problems, though. In the longer term, radical remedies may be required. One option is to break up Telkom. There is a recent precedent for this. The Australian government plans to split Telstra, the incumbent fixed-line operator which still dominates the market 15 years after the introduction of competition, into separate wholesale and retail components.