08 July 2006

Bundling buzz has hollow ring
By JOE LEAHY
Financial Times
(c) 2006 The Financial Times Limited. All rights reserved

A few months ago, I noticed a forlorn blue object in the corner of my living room. It was my fixed-line telephone.

I suddenly realised I could not remember the last time I had used it, or that anyone had rung it - these days, I stay in touch by mobile phone, SMS, e-mail or Skype. Yet the fixed-line was still costing me HKDollars 110 (Dollars 14) a month, so I decided to cancel it.

Thus ensued a phone call that took at least half an hour. It seemed PCCW, Hong Kong's dominant fixed-line provider, was almost ready to pay me if only I would keep that phone. Its sales assistants offered me various plans, each one cheaper than the last. When I finally still insisted on cancelling it, they outlined a termination procedure so tedious I promptly abandoned the idea altogether.

Where am I going with this? Well, PCCW's core telecoms and media division is now up for sale. And one of the main selling points is the fact that the company, controlled by Richard Li, son of Li Ka-shing, Hong Kong's richest tycoon, has managed to arrest a structural decline in the group's telecoms business.

Mr Li has even managed to generate a buzz around what should be seen as a tired old telephone utility by emphasising some of its new businesses, in particular its internet protocol TV (IPTV) service - pay television offered over the company's broadband network.

Stopping the rot in the core telecoms and media business is important for PCCW. The division, one of whose main components is the fixed-line operation, accounted for 70 per cent of the group's HKDollars 22.5bn in turnover last year.

While revenue for local phone calls fell 10 per cent, and international calls fell 2 per cent last year, the overall telecom and media division's revenue grew4 per cent.

Analysts say one of the main elements of PCCW's success in this has been "bundling" - selling consumers not only the fixed-line but also mobile phone services, broadband internet access and IPTV.

PCCW's eagerness to use bundling to retain its customers or attract new ones has almost become the stuff of legend in Hong Kong.

One securities analyst tells how his wife rang PCCW and had their fixed-line monthly charge reduced to HKDollars 80 in return for signing a 12-month contract.

When the contract expired, she negotiated again and this time was also given free mobile phone access. Then PCCW later rang offering free IPTV services. A workman duly came and installed a set-top box for the service - again for free.

But while this is great for customers, the question for would-be buyers of PCCW is how much it all costs. Details on this front are murky, particularly concerning the IPTV service, known as Now TV.

A pet project for PCCW, Now TV is generating the most excitement of any division in the current takeover talks. Even Rupert Murdoch, head of News Corp, has said he would be interested in it.

Launched in 2003, Now TV had 549,000 subscribers at the end of last year, although only 391,000 were paying customers.

So far, however, the service is not making money. While few figures are available, Vivek Couto, analyst at Media Partners Asia, estimates Now TV's revenue at Dollars 60m. Compare this with more than Dollars 40m in programming costs, more than Dollars 15m for the free set-top boxes and about Dollars 20m for marketing and other expenses, and the service is losing about Dollars 15m.

As more paying subscribers come on line, Now TV is expected to break even on a cash basis possibly as early as this year, amid estimates it will be generating Dollars 200m in revenue by 2010.

Now TV is a useful marketing tool for the company's other services, which in turn cross-subsidise it. Mr Couto says, for instance, that Now TV helps PCCW sell its broadband service for a premium of more than45 per cent above the market rate.

But whatever Now's promise, it is hard to see how it will ever become strong enough to offsetthe eventual demise of PCCW's fixed-line telecommunications service, as people increasingly turn to the internet to communicate.

Its revenues are peanuts compared with the group's total turnover. It would also be complex to strip Now out of PCCW and spin it off because of its dependence on the company's fixed-line infrastructure.

So while bundling is a good story, perhaps PCCW's suitors should instead be thinking about unbundling - unbundling the company's cost structure to see how healthy the business really is.

Now, about cancelling that phone line . . .