PCCW, Telstra backbone cable jv faces tough competition
By Tony Munroe
HONG KONG, Feb 5 (Reuters) - Pacific Century CyberWorks and Telstra Corp (Australia:TLS.AX - news) this week launch their undersea cable joint venture into what is expected to be a ferociously competitive Asia-Pacific market for voice and data bandwidth.
``The prices are falling for bandwidth in Asia much faster than we're seeing a pickup in demand,'' said analyst Eric Tomter of Dresdner Kleinwort Benson in Hong Kong.
Where wholesale Internet and voice ``backbone'' capacity was scarce and costly through much of Asia until recently, an explosion of fat, new fibre-optic pipes coming online is expected to drive down prices and margins.
The combined business includes more than 30 submarine cables covering some 70,000 miles (112,000 km).
The 50/50 Internet protocol (IP) backbone business -- yet to be named -- is the largest of three joint ventures between PCCW, a struggling Hong Kong Internet and telecoms carrier headed by 34-year-old tycoon Richard Li, and Telstra, Australia's dominant telecommunications company.
All three joint ventures -- including a regional mobile phone concern 60 percent-owned by Telstra and a data centre operation -- are expected to become final on Wednesday, and all three plan to seek IPOs as market conditions permit, PCCW said on Monday.
IPO EYED
A PCCW shareholders' document indicates the companies could seek to raise at least US$1 billion by offering a chunk of the backbone business.
But global telecoms valuations have plunged in recent months and numerous carriers plan massive fundraising efforts, creating competition in the near-term for further capital-raising.
Dresdner's Tomter predicted the companies would not be able to pull off an IPO of the backbone business this year.
Signed in October, the venture posted combined pro forma revenue of about US$1.9 billion and earnings before interest, taxes, depreciation, and amortisation (EBITDA) of US$500 million in the year ended last June.
Some Telstra shareholders have complained bitterly over Telstra's alliance with PCCW, whose shares have plunged well-below their 52-week high of HK$28.50 to close at HK$4.675 on Monday, a decline of 2.6 percent on the day.
Telstra shares slipped slightly to close at A$6.96.
BITTER COMPETITION LOOMS
A year or two ago, bandwidth in and out of Hong Kong cost roughly five to 10 times that of traffic across the Atlantic, said Dresdner's Tomter.
But new Hong Kong entrant Asia Global Crossing (NasdaqNM:AGCX - news) has talked of cutting prices on leased circuits to China by roughly 80 percent of what PCCW charged a year ago, Tomter said.
``The competitors are bringing in these significantly bigger cables and newer cables,'' he said.
Adds Nomura International in a recent research note: "Put bluntly, the frenzy of cable-laying projects that characterise this business is likely to lead to a gross oversupply of capacity within the next 12-18 months.
The Nomura note said that while the PCCW/Telstra venture enjoys EBITDA margins of 25 percent, that's half the 50 percent EBITDA margins made by the same business in the past year.
Nomura predicts that international undersea cable capacity in Asia will surge from 394 gigabits per second (Gbps) at the end of 2000 to 1,424 Gbps this year and 7,564 Gbps at the end of 2004.
Some analysts also note that the new players will have more efficient and easily upgradable networks than PCCW/Telstra.
``I don't think they can compete on a unit cost basis with Level 3 (NasdaqNM:LVLT - news), Asia Global Crossing (NasdaqNM:AGCX - news) or SingTel C2C,'' Tomter said.
This month, Asia Global Crossing Ltd's broadband backbone network is set to go live in Hong Kong, tripling the 40 gigabits of network capacity available in and out of the territory -- all of which is now operated by PCCW.
Asia Global Crossing has said its Hong Kong capacity could be upgraded to 2.56 terabits (one terabit equals 1,000 gigabits).
Level 3 Communications (NasdaqNM:LVLT - news), meanwhile, plans to provide 320 gigabits of capacity into Hong Kong beginning in the second quarter of this year.
To be sure, industry insiders expect all that cheap capacity to drive demand from bandwidth-hungry applications and PCCW and Telstra are well-positioned in their home markets.
``They are the incumbents, they have very good access to the end users,'' said analyst Bertrand Chui of Worldsec International.
But a Jardine Fleming report released in November cut its valuation of the IP backbone business on an enterprise value basis to US$5.6 billion from US$9.5 billion, citing the competitive market and decline in valuations of rivals.
Dresdner's Tomter values the business at US$3 billion, compared with its valuation of roughly US$5 billion last June.
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