Fibre Broadband Shares

[Snoopy]

The roll out of fibre broadband in New Zealand has been on a public/private partnership model. Details of the oversight regime can be found here:

https://www.crowninfrastructure.govt.nz/ufb/what/

The resulting fibre broadband network is a natural monopoly that will require ongoing government oversight.

There are four fibre broadband companies in New Zealand.

1/ 'Chorus', a listed public company on the NZX , that in May 2011 was engaged to build out 24 of the 33 designated Ultra Fast Broadband build out areas at the time. It also had the job of filling in any regional gaps not covered by companies 2,3 and 4 as listed below. Chorus is also the operator of the legacy copper wire network all over New Zealand.
2/ 'Northpower', a power network company that has also taken on the task of rolling out fibre broadband to the following Northland communities: Kaipara, Whangarei, However there are certain outlying areas in these regional centres and 'the far north' that are instead built by Chorus.
3/ 'Ultrafast Fibre' that has covered the Central North Island: Hamilton, Cambridge, Te Awamutu, Kihikihi, Hautapu, Tirau, Tokaroa, Putaruru, Ngaruwahia, Te Kowhai, Tauwhare, Huntly, Raglan, Tauranga, Katikati, Omokoroa, Te Puke, Aongetete, New Plymouth, Hawera, Normanby, Eltham, Stratford, and .Whanganui
4/ 'Enable' that has built fibre broadband all over Christchurch. Lyttelton, Lincoln, Prebbleton, Rolleston, Tai Tapu, Kaiapoi, Mandeville, Tuahiwi, and Woodend

Chorus has its own thread that is busy enough. The other three companies are not publicly listed in NZ as I write this. There are certain discussion topics in relation to funding (via the Crown Infrastructure Partnership) and other 'market' issues that are not unique to Chorus, and are of interest to the other fibre network building companies as well. But it is also clear that these legislated monopoly networks are very different and have an entirely separate place in the market to the retail telecommunications companies in NZ: Spark, Vodaphone NZ (jointly owned by Infratil and Brookfield Asset Management) and Two Degrees (controlled by Trilogy International). So I think there is need for a space to discuss issues relating to fibre broadband that are not necessarily related to Chorus, but are not relevant to the retail telecommunications players. This thread is that space.

SNOOPY

[Snoopy]

I hold a very minor 'position of interest;' in 'Enable Networks' courtesy of being a Christchurch ratepayer. 'Enable Networks' was created to be the builder of the fibre broadband network in Christchurch. Lyttelton, Lincoln, Prebbleton, Rolleston, Tai Tapu, Kaiapoi, Mandeville, Tuahiwi, and Woodend. 'Enable Networks' (ENL) is a wholly owned subsidiary of 'Enable Services Limited' (ESL) which is in turn a wholly owned subsidiary of 'Christchurch City Holdings Limited' (CCHL). CCHL is the commercial arm of the Christchurch City Council. ESL and ENL make up the 'Enable Group'.

The founding shareholders of ENL were ESL and CIP (Crown Infrastructure Partners, was Crown Fibre Holdings). CIP were bought out on 29th June 2016.

Does Enable hold a top three position in its chosen market space. As the monopoly wholesale provider in the greater Christchurch region, the answer has to be 'yes'.

Conclusion: Pass Test

SNOOPY

[Snoopy]

The 'Enable Annual Reports' may be found here:

https://www.enable.net.nz/about-enab...-publications/

Profits for the last five years have been normalised as described in the notes below:

'Earnings Per Share' = 'Adjusted Net Profit' / 'No. Shares on Issue'

FY2016: [$3.311m - $11.838m + 0.72( $0.377m + 0.005m)] / 34m = -24.3cps

FY2017: [-$8.518m - 0.72( $0.023m)] / 44m = -19.4cps

FY2018: [-$3.783m + 0.72($0.021m)] / 67.5m = -5.6cps

FY2019: [+$10.830m + 0.72($0.015m)] / 67.5m = 16.1cps

FY2020: [+$11.320m + 0.72($0.010m) - $0.006m] / 67.5m = 16.8cps


Notes

1/ For FY2016, I have removed $11.838m of asset revaluations that came about from a business recombination, added back $377k of business acquisition costs and $5k of Forex losses.
2/ For FY2017, I have removed $23k of Forex gains.
3/ For FY2018, I have added back $21k of Forex losses.
4/ For FY2019, I have added back $15k of Forex losses.
5/ For FY2020, I have added back $10k of Forex losses and subtracted $6k from asset sales

The eps trend is all one way, and that is up!

Conclusion: Pass Test

SNOOPY

[Snoopy]

ROE or 'Return on Equity' is calculated as follows:

ROE = Adjusted Net Profit / (Shareholder Equity - Equity Adjusted Asset Revaluations)

FY2016: -$8.252m / [$100.799m - (0.2944x $11.838m)] = -8.48%

FY2017: -$8,535m / [$138.888m - (0.3270x $11.838m)]= -6.32%

FY2018: -$3.768m / [$212.952m - 0.4068 x ($11.838m + $24.854m)] = -1.90%

FY2019: +$10.841m / [$227.988m - 0.4157x ($11.838m + $24.854m)] = +5.10%

FY2020: +$11.321m / [$311.323m - 0.4690x ($11.838m + $24.854m +$66.424m)] = +4.31%


Notes

1/ I have decided to adjust shareholder equity by removing the equity funded component of all historic asset revaluations. Asset revaluations are beneficial for shareholders. But since no shareholder funds were outlaid to obtain these revaluations (a good thing), it will artificially reduce the return on 'paid for' company equity - if I include the revaluations in my ROE calculations. To calculate the adjustment to make to:

1/ the shareholder equity for all historically revalued assets,
2/ for each year

I have taken the cumulative historically revalued totals and multiplied each total by the equity ratio of that year.

Although we are going in the right direction, at no time in the last five years has Enable got even close to our return on equity target.

Conclusion: Fail Test



SNOOPY

[Baaarney]

UFF in the Waikato was recently sold by WEL networks to the Australian based First State Investments. A poor decision in my view as a Waikato resident who enjoys the benefits of WEL through power discounts and community grants etc

https://www.ultrafastfibre.co.nz/investor-news-2

https://www.welenergytrust.co.nz/sal...unconditional/

May 12, 2020/WEL NETWORKS SELLS SHARES IN UFF HOLDINGS LTD
Electricity distributors WEL Networks Limited (WEL) and Waipa Networks Limited (Waipa) have agreed to sell their shares in UFF Holdings Limited, the holding company for Hamilton-based fibre business Ultrafast Fibre Limited (UFF).
First State Investments (FSI) has agreed to purchase WEL’s 85% majority shareholding and Waipa’s 15% shareholding for $854 million of which a consideration of $200 million payable to WEL is deferred for 18 months from completion. The $200 million deferred payment is supported by obligations enforceable against the Purchaser.


WEL Group Chairman Rob Campbell says: “The UFF sale enables WEL Networks to strengthen the core electricity business balance sheet, allowing us to pursue new opportunities and invest in innovative energy solutions in accordance with our business strategy. The investment in fibre has both delivered valuable infrastructure to our communities and proved a very successful investment for WEL.”


Following their successful 2016 investment in First Gas, FSI are delighted to add another important network business to their investment portfolio in New Zealand, FSI Infrastructure Investments Director Gavin Kerr says.
“We look forward to supporting the strong fibre uptake the business has achieved in New Zealand’s highest growth region and continuing to provide high-quality fibre infrastructure services to the community. The business will remain headquartered in Hamilton and we will be working with the existing management team who have done a great job building the network from the beginning of the fibre network rollout in New Zealand under supervision of Crown Infrastructure Partners.”


WEL Energy Trust Chairman Mark Ingle says the sale places WEL in a strong position to explore new technologies and take new opportunities in the provision of clean, innovative and affordable electricity to the Waikato Region; a position the Trust is proud to have supported the Company to achieve.


“This is a great opportunity for our Waikato community. We’d like to congratulate the WEL and Waipa teams on their 10-year fibre investment journey. The Trust acknowledges the WEL Board and Executives who grasped the UFF opportunity, then built and delivered the world class fibre network UFF now operates, and those who have now enabled the realisation of that investment’s financial success.”
Ultrafast Fibre CEO John Hanna welcomed FSI’s investment and involvement in the business. “We are very pleased to have a highly experienced, long-term investment partner on board. There’s never been a better or bigger time for fibre and we look forward to the ongoing support from our new investors as we continue to explore new opportunities and develop exciting new products for internet users around the North Island,” he says.


Established in 2010, Ultrafast Fibre owns and operates the fibre network in the urban areas of Hamilton, Tauranga, Whanganui, New Plymouth, Tokoroa, Hawera, Cambridge and Te Awamutu, providing access to ultra-fast broadband for more than 237,000 premises.

The transaction is subject to Overseas Investment Act consent and change of control approvals.

[Snoopy]

Net Profit Margin = Adjusted Net Profit After Tax / Working Revenues

FY2016: -$8.252m / [$63.370m - $43,144m -$8.538m] = -70.6%

FY2017: -$8,535m / [$36.272m - $8.781m]= -31.0%

FY2018: -$3.768m / [$48.473m - $6.628m]= -2.14%

FY2019: +$10.841m / [$58.678m - $2.486m] = +19.3%

FY2020: +$11.321m / [$76.985m - $2.000m] = +15.4%

Notes

1/ I have removed 'Contract Construction Revenue' of $43.144m when ENL was regarded as an associate to ESL, before ESL gained full control of it . From FY2017 onwards ESL took full control of ENL. This transaction occurred on 29th June 2016. Balance date for ESL/ENL is 30th June of each year.
2/ I have removed 'inventory' revenue from each year. 'Inventory' represents goods bought to be on sold to contractors for the building of the network.

The above trend is showing that as the fibre network finishes being built, and the take up improves, then profit margins for the business improves. That should not come as a surprise to anyone reading this. What might come as a surprise is to see the net profit margin dip in the last reported financial year. However, I see this as a 'rogue result' that does not devalue the underlying uptrend (yet).

Conclusion: Pass Test

SNOOPY

[Snoopy]

UFF in the Waikato was recently sold by WEL networks to the Australian based First State Investments. A poor decision in my view as a Waikato resident who enjoys the benefits of WEL through power discounts and community grants etc

https://www.ultrafastfibre.co.nz/investor-news-2

https://www.welenergytrust.co.nz/sal...unconditional/

May 12, 2020/WEL NETWORKS SELLS SHARES IN UFF HOLDINGS LTD
Electricity distributors WEL Networks Limited (WEL) and Waipa Networks Limited (Waipa) have agreed to sell their shares in UFF Holdings Limited, the holding company for Hamilton-based fibre business Ultrafast Fibre Limited (UFF).
First State Investments (FSI) has agreed to purchase WEL’s 85% majority shareholding and Waipa’s 15% shareholding for $854 million of which a consideration of $200 million payable to WEL is deferred for 18 months from completion. The $200 million deferred payment is supported by obligations enforceable against the Purchaser.
WEL Group Chairman Rob Campbell says: “The UFF sale enables WEL Networks to strengthen the core electricity business balance sheet, allowing us to pursue new opportunities and invest in innovative energy solutions in accordance with our business strategy. The investment in fibre has both delivered valuable infrastructure to our communities and proved a very successful investment for WEL.”

Following their successful 2016 investment in First Gas, FSI are delighted to add another important network business to their investment portfolio in New Zealand, FSI Infrastructure Investments Director Gavin Kerr says.
“We look forward to supporting the strong fibre uptake the business has achieved in New Zealand’s highest growth region and continuing to provide high-quality fibre infrastructure services to the community. The business will remain headquartered in Hamilton and we will be working with the existing management team who have done a great job building the network from the beginning of the fibre network rollout in New Zealand under supervision of Crown Infrastructure Partners.”

I didn't realise that 'Ultrafast Fibre Limited' (UFF) was a side hustle for two of the big regional power companies. I was even more surprised to read in the WEL Networks press release that you referenced, that UFF was a 100% debt funded venture! If WEL Networks never intended putting any capital into the project, it looks like the ultimate sale of the UFF company was planned from 'birth'.

SNOOPY

P.S. I wonder what the roll out "under supervision of Crown Infrastructure Partners" (CIP) means? I thought CIP was strictly an arms length funding mechanism.

[Baaarney]

After I made that post I found that the WEL Energy Trust is to be wound up by 2073, so I guess ultimately the lines company will be sold as well

"As per the Trust Deed, on winding up of the Trust in 2073, the fund will be distributed to Territorial Authorities (Capital Beneficiaries) in specific proportions (Hamilton City Council – 63%, Waikato District Council – 35%, Waipa District Council – 2%)."

[Snoopy]

After I made that post I found that the WEL Energy Trust is to be wound up by 2073, so I guess ultimately the lines company will be sold as well

"As per the Trust Deed, on winding up of the Trust in 2073, the fund will be distributed to Territorial Authorities (Capital Beneficiaries) in specific proportions (Hamilton City Council – 63%, Waikato District Council – 35%, Waipa District Council – 2%)."

Someone with more legal expertise than me might like to comment. But IIRC there is a maximum life set on trusts by law. So this wind up date may reflect that. It might be possible that at the wind up date, these assets are folded into a new trust. But it is certainly an interesting perspective on how the original grouping of the assets was handled.

While "Ultrafast Fibre Limited" is a company, as is "Enable Services Limited" and its subsidiary "Enable Networks Limited", The Christchurch City Council has not seen the need to use a trust structure to administer those Enable assets.

SNOOPY

[Snoopy]

All of the Buffett tests are there for a reason. So a 100% pass rate (all four tests being passed) is needed to go on to the next level of analysis. The 'Return on Equity' calculation for 'Enable' is a big fail (a best of circa 5% is well short of the 15% target). This is not a real surprise, as Buffett does tend to prefer companies with a lower level of capital assets. The 'Enable' assets are relatively new, certainly so compared to the copper wires, probably most of which have a history dating back over 50 years. New assets imply a high asset valuation.

The 'Return on Equity' for 'Enable' will certainly improve going forwards, as more connections are made to the existing fibre network. It will also improve as the overall value of the network depreciates and the accompanying ongoing capital expenditure reduces. At EOFY2020 (30th June 2020), the customer connection rate at 'Enable' had risen to 63%. That compares favourably to 'Chorus' which, at the same date, had a fibre network connection rate of 60%. ROE at 'Chorus' was greater at an albeit still not Buffett inspiring 7.2%. 'Chorus' carry their networks at historic cost. So in this sense, my historic revaluation adjustments that increase ROE for 'Enable' -that I have measured at EOFY2020 to be 4.31%- makes the two ROE figures comparable. Where the companies do differ is where 'Chorus' can rely on the profits of the long established 'legacy copper wire network' as well. Given the depreciated book value of the copper network, and roughly comparable 'customer service charges' for the older and newer technologies, it is no surprise that the ROE on the legacy copper network is greater than the ROE on much newer fibre assets.

This is a long winded way of saying that I expect the ROE of 'Enable' to improve going forwards. But having failed the Buffett test, I feel it is more appropriate to consider both Chorus and 'Enable' as 'dividend shares', with any growth that might arise in the future as a bonus.

SNOOPY