TI’s network spin-off could still pose regulatory questions

By Luca Schiavoni, Analyst, Regulation

The Italian fixed incumbent Telecom Italia (TI) is looking to spin off its network. It would be owned by a separate company, of which TI would retain a controlling stake.

This move is likely to facilitate the removal of the remaining retail obligations on TI’s retail business (the Newco), although not immediately. The Italian regulator AGCOM should proceed to further deregulate the fixed retail market only after it has found evidence that TI no longer has SMP.

The spin-off could also pose other challenges to the regulator. The participation of the Italian treasury in the new company (the Netco) may lead to a conflict of interests between the government’s investment and regulatory arms.

The upcoming regulatory guidelines from the EC on the pricing of regulated access could help to increase the attractiveness of the asset, given the role played by technologies such as vectoring in enhancing the performance of copper networks.

Retail regulation may fall away after the spin-off, but not immediately

The possibility of TI spinning-off its network been rumoured more than once, but the comments of its most prominent managers suggest that it is now likely to actually happen.

The operator’s president, Franco Bernabe, has spoken of greater convenience in regulatory treatment, apparently convinced that at least some of the remedies to which TI is subject in the fixed market will fall away once it has spun off its asset.

In particular, the obligation to submit its retail tariffs to AGCOM for approval, confirmed after the latest market review in 2009, is expected to be waived following the spin-off.

However, it is TI’s intention, at least in theory, to retain control of the new company that would run the network. Before the regulator removes such obligation, it should therefore review the retail market and be satisfied that the spin-off has actually produced the competitive effects that would make it appropriate to lift the obligation.

In the UK a similar situation occurred when Ofcom accepted BT’s undertaking to functionally separate its network.

The obligation to notify Ofcom of its retail rates was waived only in 2009, four years after the separation had occurred, when the regulator finally declared that BT no longer had SMP in the retail markets.

We expect the Italian regulator to take a similar approach, and not withdraw the obligations in place in the fixed retail markets immediately. Any withdrawal should happen only after a market analysis is carried out following the spin-off of the network, so that its effect on the market can be assessed.

The potential participation of the government may pose further regulatory questions

It is significant that TI is considering involving the “Cassa Depositi e Prestiti” (CDP) in the spin-off. The Italian Ministry of Economy and Finance holds 70% of the CDP, and although the extent of the company’s participation is at present unclear, the return of public investment after years of full privatization is likely to pose new regulatory challenges.

Having public participation in a sector that has been fully liberalised is problematic for a number of reasons, including possible conflicts of interest between the government (which will be a de facto shareholder of the company) and the regulator, the independence of which could then be under scrutiny.

However, as Ovum noted in the report An Evaluation of the Independence of National Regulatory Authorities, there are other European countries in which the state holds a stake in the main incumbent. This is generally not desirable, although in many cases it has been difficult to assess whether or not it has had an adverse effect on competition and the independence of the NRA.

In this particular case, there is unlikely to be any direct effect on competition. The state’s participation would not be in a service provider, but in a network, and it looks unlikely that the government will hold a controlling stake in the Netco.

However, it would still require the regulator to take extra care in deciding objectively, given the different interests of the wholesale provider and the operators.

As fiber investment lags behind, the life of copper networks is likely to get longer

We understand that the pressure on TI to seriously consider the spin-off of its copper network has mounted from many of the smaller investors. Among the main reasons the company is now looking to go ahead with the spin-off are the need to seek new sources of profit, to reduce its debt, and to share costs with other parties.

Behind all of these is the fact that wholesale access is less profitable than it was in the past, largely due to the continuous downward trend of regulated prices of both voice and broadband access services.

However, the EC’s announced changes to the regulatory framework for wholesale broadband access could create an incentive for new investors to step in. This is because the changes represent a move away from the existing approach, in which wholesale access costs were often being artificially reduced.

So far, that approach has not generated the desired level of investment in fiber (particularly FTTH). The EC was relying on this increased investment to meet the targets set in its Digital Agenda (100% coverage of 30Mbps connections and 50% take-up of 100Mbps connections by 2020).

In the last few months the EC has developed a more realistic view, and has acknowledged that achieving those targets by deploying FTTH is very unlikely.

Given the development of new technologies such as vectoring that enable better performances over copper, we are now more likely to see operators investing in FTTC. This makes the life of copper access networks potentially longer, and could go some way to make TI’s spun-off network appealing to other investors.

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