Outlook: No relief for British Telecom as Oftel gets tough once more

Marconi debt swap; Solvency under threat Ê

Internal links

BT faces new competitive threat

Marconi close to debt-for-equity swap

Credit Suisse forced to bail out Winterthur

Last year at British Telecom, a 90 per cent increase in the volume of telecommunications traffic translated into revenue growth of just 5 per cent. If volume roughly doubles for virtually no increase in price, that means the real cost of telecommunications is approximately halving each year. The arithmetic may be inexact and crude, but it also powerfully illustrates just why the telecommunications industry is in such a bind. Price reduction on this scale is very bad news for the industry's bankers and investors, but for customers and the rest of the economy, where the phenomenon is helping to drive very substantial levels of productivity gain, things could hardly be better.

For Ben Verwaayen, the new chief executive at BT, rapidly falling prices are a source of irritation as well as pride. It's time, he says, that politicians and businessmen stopped viewing telecoms as an industry that can be indefinitely milked for cost reductions and started realising that a financially healthy telecoms infrastructure is crucial to long-term economic health. Technology, overcapacity and still intense levels of competition, despite recent insolvencies, mean he's unlikely to get his way, in the short run at least. The cost of bandwidth is set to keep falling for some years yet.

As if all this were not bad enough, along comes David Edmonds, director-general of telecommunications with a new initiative for introducing competition into one of the last remaining bastions of BT's monopolistic heritage – the line rental charge. BT makes no money at all out of the £28 a quarter it charges subscribers for being connected to the telephone network, or so it claims, anyway. Instead, the profit is made from charging for calls. But line rental has been a useful tool for keeping the competition at bay in the domestic and small business market. If you want to use an alternative, cheaper carrier, such as Centrica's One.Tel, you have to carry on paying the line rental charge separately to BT. Mr Edmonds proposes that the cost of rental be made a wholesale charge, so that rivals can bundle it into their charging mechanisms.

This should allow for flat rate subscriptions for unlimited access, of the type that already exist for internet access, or the removal of line rental altogether with costs recovered via call charges. Either way, BT faces a step change in competition in an area of the market which hitherto has been comparatively immune to it. Mr Verwaayen is vehemently opposed to the full demerger of BT's retail, customer-facing business from its wholesale, network operation, but these proposals may mean he has to revisit the idea.

Since privatisation in 1984, price regulation has succeeded in reducing the average domestic telephone bill by 50 per cent in real terms, but these reductions are as nothing compared with what the big volume users of business have enjoyed. The introduction of broadband, voice over IP and now this, may mean that similar gains will soon be available in the domestic market too. As volume grows, for both voice and data, prices should plummet. Maintaining profitability in such circumstances is going to be a real challenge. British Gas had to break itself up before it could properly address a fully deregulated market place. It may be that BT has to do the same.

Marconi debt swap

Hope springs eternal when it comes to stock market investment, but the determination of investors to assign some sort of a value to shares in Marconi is a bit of a puzzle. For the first time yesterday this once mighty company publicly admitted that the recapitalisation process now under discussion with bankers and bondholders was likely to involve a debt-for-equity swap for a significant proportion of Marconi's £4.3bn of debt. Directors expect this to lead to "a very substantial dilution in value for existing equity holders". True enough, the shares fell on the statement, but not by much, and at just over 5p a share the company still carries a stock market value of £141m. This is but a pale shadow of the billions of value once assigned to the former GEC, but unfortunately it is still far too much.

Do the maths, and it becomes obvious that existing shareholders will be lucky to end up with even a token presence in the recapitalised company. Operationally, Marconi is still a big company with substantial sales, but it is too small to support the mountain of debt it took on in its dash for growth in the late 1990s. Realistically, Marconi's enterprise value (debt and equity) is unlikely to be any more than £2.5bn. That compares with current debt of £4.3bn. As it is, bankers and bondholders will have to write off the great bulk of this sum. They would also have the right to hog virtually all the equity in the subsequent debt-for-equity swap. OK, so out of charity alone, current equity holders might be left with something, but it is unlikely to be anything like the 10 per cent plus of the equity that the share price implies. Why would bankers and bondholders want to give away anything at all, let alone 10 per cent?

Those big City institutions still left in the stock understand their plight well enough, but it is not clear that smaller, retail investors do. Instead, there is a tendency to interpret any progress in the recapitalisation talks as a buying opportunity. It remains hard to believe that shares in a company once as large and vibrant as Marconi can be worth nothing at all, but unpalatable though it may be, that's the reality. It may also be the reality with the other big debt-for-equity swap negotiation going on at present, Telewest.

Never try to catch a falling knife, goes the old stock market saying. This seems to be the case even when the knife has fallen so far that it hovers only just above the ground. What a mess.

Solvency under threat

First Standard Life, then Friends Provident, now Winterthur. The list of life assurers attempting to recapitalise themselves because of falling stock markets grows longer by the day. In the first two cases, a big bond issue has been enough to do the trick.

But Winterthur seems to fall into a new and altogether more worrying category. The strangely named life assurer has been forced to go cap in hand to its parent company, Credit Suisse Group, for a $391m cash injection on top of the $747m bond issue launched just three weeks ago to help boost the reserves available for payouts to policyholders.

The hidden hand of the Financial Services Authority was presumably in their somewhere, insisting that more capital be injected if Winterthur was to avoid following Equitable Life and other lower profile cases into run-off. Sir Howard Davies, chairman of the FSA, has already admitted that alarm bells are ringing over the financial health of the life assurance industry. With the stock market now back to the level it fell to in the immediate aftermath of 11 September, he may have to consider easing the rules again to prevent enforced selling of equities.

In any case, it is unlikely that Winterthur is going to be the last. Can Lloyds TSB be far behind with Scottish Widows? Where there is a financially robust parent company, there's obviously reason for comfort, unless you happen to be a shareholder in that company of course. But for smaller independents, the situation looks perilous indeed.

jeremy.warner@independent.co.uk