The news out of New Zealand is that TCNZ’s fixed line business is following the same international trends faced by other incumbent telcos. Most analysts believe that with fixed-to-mobile substitution currently at relatively low levels in New Zealand (6% - 7% of homes are mobile only) and take up of VoIP continuing at a relatively modest pace in New Zealand, TCNZ is still positioned at a relatively early stage of the decline faced by other incumbent telcos. Core PSTN revenues have continued to decline at TCNZ, down about 3% per year over the last couple of years.

This relatively secure position is set to change, dramatically. Vodafone now has mobile products available as direct substitutes for both the home phone and broadband connection.

Vodafone eating away at landline, broadband, and mobile verticals: Vodafone recently launched another home phone replacement product, “Local Zone” which allows for a mobile to be used to make unlimited landline calls while at home. These offers are incremental to existing Vodafone mobile plans. The local zone product is Vodafone’s second direct challenge to TCNZ’s access revenues following the “Home phone plus” service. Costing as little as $25 per month, Home phone plus is a direct home line replacement using the 3G or GSM network. Customers plug their landline phone into a Vodafone box which plugs into the wall for power but uses the mobile network for transmission. This can be bundled with wireless broadband and various calling options.

Vodafone is targeting select groups with these products, tradespeople and others that operate home offices. However, we believe that this could have much wider appeal, making it much more practical for households to disconnect the landline and go mobile-only.

Competition in wireless broadband in NZ is still in its early stages. Vodafone enjoys a speed advantage over TCNZ by offering services over HSPA compared to TCNZ’s EV-DO network. While monthly charges are the same for both Vodafone and TCNZ, Vodafone is more competitive in terms of subsidizing the upfront costs of accessories such as laptop cards. Vodafone is also bundling wireless broadband with its Home phone plus service, offering 1GB of data each month for an additional $40, or 3GB for $60.

What strategies are open to TCNZ? Like most incumbents in developed markets, TCNZ faces declining earnings in the traditional fixed line business. We expect a sustained decline in access and calling revenues which will only be partially offset by growth in its broadband base. TCNZ will have to look at mobile, IT services, and strategic expansion into overseas markets to ensure that its revenue and profits continue to meet investor expectations.

Wireless broadband is becoming a major driver of revenue growth for mobile operators in other developed markets. We believe this is a prime opportunity for TCNZ following the launch of the WCDMA network. However, TCNZ will likely be reluctant to address the market aggressively ahead of bringing the new network online. This has been an element in the decline in TCNZ’s wireless data ARPUs as the limited growth of wireless broadband has failed to offset pricing pressure on SMS/messaging products.

Wireless broadband pricing is likely to get much sharper as Vodafone and TCNZ duke it out. At the same time, margins on wireless broadband are exceptional (85% - 90%). TCNZ should be aggressive at utilizing its network capacity and address some of the in-roads made by Vodafone into its core customer base.