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6.1 Where Should the Boundary between the Separated Units Be?

61. This is the first-order question for development of the Minister's Determination as any operational separation requires a clear place to make the split.

62. The separation regime under the Act requires Telecom to establish and maintain at least three separate business units: a stand-alone fixed network access service business unit, a wholesale unit, and a retail unit. However, the exact boundaries of these units are not defined in the Act.

63. Ofcom's starting point for the operational split of British Telecom (BT) was the separation of enduring economic bottlenecks into a separate access network services division. In the UK, Ofcom required BT to set up Openreach with control of access network assets that it considered would be enduring bottleneck assets. Ofcom considered that any other access assets, even if they are currently used to supply significant market power services, should not be placed in Openreach.

64. Ofcom explains what it means by, and the concerns it has of, enduring bottle necks as:

Some assets in the network are either economically impossible or highly economically inefficient to try and replicate: the so called enduring bottlenecks – mainly though not exclusively in the access part of the network. Without open and truly equivalent access to such assets, sustainable infrastructure based competition would be too risky and too easily frustrated.⁶

65. Ofcom further describes an enduring bottleneck as "a part of the network where not only does one operator have significant market power, but where effective infrastructure based competition is unlikely to emerge in the medium term".⁷

66. A similar starting point has been adopted for the requirements for the operational separation of Telecom i.e. separation of enduring economic bottleneck assets into the control of the stand-alone fixed network access business unit (referred to as the ANS Unit in this document). Like the UK equivalent, Openreach, this stand alone unit will be subject to a stronger degree of separation than for the other operationally separated units.

67. It is considered that there are a number of fixed network bottleneck assets that will not be replicated on a ubiquitous basis by competitors in the medium term. Sustainable and significant infrastructure-based competition is not expected to develop in New Zealand in the access network in the medium term. The further development of intermodal competition in mobile, wireless and satellite is expected and encouraged as part of the broader Stocktake package. However, the need to regulate for access to enduring telecommunication service bottleneck assets on an equivalent and non-discriminatory basis will remain critical to promoting competition and facilitating a high-performing sector for the long-term benefit of end-users of telecommunication services in New Zealand.

68. Whilst the high-level basis for identifying the assets included in the ANS Unit is to identify enduring bottleneck assets within Telecom's network, it is recognised that there are practical difficulties in picking a dividing line that will perfectly align to enduring bottleneck assets both now and in the future.

69. Operational separation is a longer term form of regulation that is not readily or quickly reversed. It is considered that it would add significant implementation cost to the industry and end-users to attempt to constantly shift assets between different units of Telecom. Thus, in setting the boundaries of the ANS Unit, consideration has been given to a dividing line that will remain effective as Telecom rolls out Next Generation Access Networks (NGANs) and which minimises potential investment co-ordination difficulties by placing all current and future access assets in a single unit.

70. The sections below outline the proposed scope of the separated units in terms of assets, services and people to achieve the purposes outlined in Part 2A of the Act.

6.2 Fixed Network Access Service Unit (the ANS Unit)

71. Section 69D(1)(a)(i) of the Act requires Telecom to establish and maintain a fixed network access service business unit (which may provide a wholesale function for those services). Telecom must operate its fixed network access service business unit on a stand alone basis, at arms length from any other business unit (section 69D(1)(b)).

72. The following sections outline the proposed scope of the ANS Unit in more detail. The behavioural obligations and "stand alone" requirements that will apply to the ANS Unit are discussed in more detail in Section 8.

6.2.1 High-level Role

73. The primary role of the role of the ANS Unit will be to operate, and provide equivalence of access to, Telecom's "Local Access Network" and "Regional Access Backhaul Network", which together make up the "Access Network" (those terms are each clarified later in this document). In particular, the ANS Unit will perform this role by:

1. Supplying access-seekers (including other Telecom units) with access to regulated services that primarily use the Local Access and Regional Backhaul Network assets, i.e. access to Telecom's unbundled copper local loop and supporting co-location and backhaul services.
2. Controlling and maintaining the Local Access and Regional Backhaul Networks.
3. Undertaking efficient investment in the Local Access and Regional Backhaul Networks.

74. As a generalisation, the ANS Unit would primarily be supplying wholesale access to the raw network inputs in the "last few kilometres" of Telecom's fixed network infrastructure i.e. the lines, ducts, cabinets, and exchanges. The diagram below illustrates the focus of the ANS unit against a typical value chain for telecommunications services.

Diagram 3: Typical Value Chain for Telecommunications Services

→ Full size version of Diagram 3: [7 kB GIF]

75. The ANS Unit will be subject to the strongest separation requirements. Thus it is appropriate for it to be focussed at the deepest network level in the telecommunications value chain. Regulation deeper within the network potentially reduces the need to regulate downstream wholesale and retail services.

6.2.2 Services

76. The ANS Unit will be a s "a fixed access network one-stop-shop" that will provide the following currently regulated services to access-seekers:

1. "Telecom's Unbundled Copper Local Loop Network" services (often referred to as LLU).
2. "Telecom's Unbundled Copper Local Loop Network Co-location" services (often referred to as LLU co-location services).
3. "Telecom's Unbundled Copper Local Loop Network Backhaul (distribution cabinet to telephone exchange and telephone exchange to interconnect point) (often referred to as LLU backhaul services).

77. In addition, the ANS Unit will be required to provide any services that become regulated in future and which primarily use the Access Network assets. This would include services that are added to Schedule 1 of the Act and services that are the subject of a registered undertaking in accordance with Schedule 3A of the Act.

78. However, it is not intended that the operational separation requirements should compel the ANS Unit (or any other unit of Telecom) to supply any services to third party access seekers unless those services are regulated under the Act. The preferred approach is for mandating of access to new services to continue to be dealt with in accordance with the access regime set out in the Act.

79. In general, it is not proposed that the Minister's Determination will set detailed terms and conditions of access such as price. Terms and conditions of access will continue to be set in accordance with the existing mechanisms of the Act. The operational separation model in this paper aims to complement the regulated access regime by ensuring that where Telecom is required by the Act to provide a service to its competitors, Telecom provides this service on equivalent terms and conditions to its external wholesale customer as it does to itself.

80. The ANS Unit shall determine Commercial Policy⁸ in respect of its services. ANS's responsibilities will include, in particular:

1. Service management.
2. Sales (including supply to other units within Telecom).
3. In-life service management and marketing.
4. Specification of the services and their functionality.
5. Deployment of services, including design, construction, testing and commissioning.
6. Service-related procurement processes.
7. Setting of prices (except where these have been otherwise set by the Commission in accordance with the Act)

6.2.2.1 Exclusion of Basic Telephone Services, Leased Lines, Partial Private Circuits and Number Portability

81. The model outlined in this paper excludes a number of "value added" services from the ANS Unit such as basic telephone services, leased lines and number portability, which are not a direct alignment to the Access Network assets that it is proposed the ANS Unit should control.

82. There are two ways in which the ANS Unit could deliver such services. The first would be to include the related assets in the ANS Unit. This is not considered desirable as these assets are not considered to be enduring bottleneck access assets (assets are discussed further in section 6.2.3 below).

83. The second way would be for the ANS Unit to "buy" the relevant wholesale access from the Wholesale Unit and then to provision such services back to the Wholesale Unit and the access-seekers. BT has adopted the second approach in respect of some services such as Wholesale Line Rental (a wholesale telephone service product), which is provided by Openreach but Openreach does not control the underlying assets. Adopting this approach may increase the internal transaction costs for Telecom and add significant cost and complexity to the operational separation model. However, Ofcom, did consider it desirable for Openreach to include some leased line and partial private circuit products. Comment is sought on the costs and benefits of excluding or including these products from the proposed ANS Unit.

84. LLU, along with supporting co-location and backhaul services, are existing regulated services which largely align to the Access Network assets that it is proposed the ANS Unit should control. A "bottom-up" approach has been taken in identifying the services that the ANS Unit should provide by first defining the scope of the fixed access network for the purposes of operational separation.

85. It will be important to strike an appropriate balance between delegating matters of implementation detail to the Commission, whilst ensuring sufficient rigour and foresight in the Undertakings to pre-empt well-known potential implementation issues and delays (e.g. access to co-mingling space and power supplies in Cabinets and exchanges).

86. The preferred approach is for there to be a high degree of alignment between the assets that the ANS Unit controls and services that it provides. In practice, this means that the ANS Unit will be less reliant on other units within Telecom as it would not need to "buy" wholesale access to assets that it does not control. This approach has the benefit of reducing the internal transaction costs and the overall cost of service delivery for the industry.

6.2.3 Assets

87. The Act does not define the boundaries of the "fixed network access services business unit", i.e. ANS. In order to define those boundaries, it is necessary to define the scope of the fixed access network for the purposes of operational separation.

88. The preferred approach:

1. Adopts the same starting point as Ofcom by separating enduring economic bottleneck assets (where infrastructure-based competition is unlikely to emerge on a ubiquitous basis in the medium term) into the control of ANS Unit.
2. Takes a forward-looking view of the access network, by placing regional backhaul assets under the control of the ANS Unit.
3. Includes relevant transport electronics under the control of the ANS Unit.
4. Emphasises a technology neutral and future-proofed approach to the assets under the control of the ANS Unit such that it includes fibre assets, wireless local loops, future access assets, and is not just limited to the existing copper network.

89. It is proposed that the ANS Unit will control and operate the current and future assets contained within Telecom's Local Access Network and supporting Regional Backhaul Network, which together make up the "Access Network".

90. For the avoidance of doubt, the Local Access Network includes the following assets:

1. Cables and lines, including copper and fibre and ducts.
2. Civil infrastructure and buildings, including ducts, roadside cabinets and buildings that are used to primarily support the Local Access Network, and power and building services equipment in cabinets.
3. Transport electronics, including fixed wireless systems, but not service nodes (such as DSLAMs,⁹ multi-service nodes, PSTN switches or other such devices that are used to deliver value-added services to end-user customers).
4. Connection points, including copper and optical distribution frames.
5. Support facilities.

91. Whilst there are emerging networks in some metropolitan areas and a number of emerging niche wireless solutions, the majority of residential customers will rely on Telecom's Access Network for delivery of high bandwidth broadband solutions. The need of niche players to interact with the network underpins the importance of access at multiple points in the physical layer.

92. In the medium term, competitors will continue to require wholesale access to regulated services provided by Telecom's Access Network in order to build scale and customer base and effectively compete with Telecom in the broadband market. In particular, assets within the Local Access and supporting Regional Backhaul Network such as ducts, lines and cables, are considered to be the least easily replicable of Telecom's fixed network assets. Equivalence of access to such assets (where access is regulated under the Act) in the medium term will be critical to the promoting competition in telecommunications markets and achieving the purposes of Part 2A of the Act.

93. The ANS Unit shall:

1. Determine which services the Local Access and Regional Backhaul Networks must support, including any appropriate enhancements in the functionality of these networks.
2. Have full responsibility for building, maintaining and repairing the Local Access and Regional Backhaul Networks.
3. Be responsible for investment decisions relating to the Local Access and Regional Backhaul Networks (except as otherwise provided in Section 8).

94. In some cases, an access-seeker may require backhaul to beyond the coverage of the Regional Backhaul Network as defined in this document. In particular, one of the regulated LLU Backhaul services requires Telecom to provide backhaul services to the access seeker's nearest point of interconnection. Under the proposed model, the ANS Unit will provision these services. Therefore, in any cases where the access-seeker requires backhaul to beyond the Regional Backhaul Network, then the ANS Unit will buy in core network transmission capacity from Wholesale to the agreed delivery location.

95. The ANS Unit shall have sufficient influence over backhaul assets contained within Telecom's core network in order to discharge its responsibilities under the undertakings in relation to delivery of backhaul services.

96. The diagram below is a simplification of the proposed boundary between the assets controlled by the ANS Unit and those assets, which will continue to be managed by Telecom as they see fit (i.e. no specific control requirements).

97. Further detail on the proposed assets is contained in Appendix 1.

Diagram 4: Proposed Boundary Between the Assets Controlled by the ANS Unit

→ Full size version of Diagram 4 [12 kB GIF]

6.2.3.1 Inclusion of Regional Backhaul Assets

98. The geographical demarcation point between the access assets that the ANS Unit will control and the core assets that Telecom Group will control centres on where regional backhaul assets should be placed. The preferred approach is for all regional backhaul assets, as defined above and in Appendix 1, to be controlled by the ANS Unit.

99. Replication prospects in backhaul are heavily dependent on geography. Whilst a bottleneck asset test could be applied on a geographical basis to determine which backhaul assets should be included within the ANS Unit, this would be subject to constant contest as the market evolved. A constantly shifting asset split between the ANS Unit and the rest of Telecom is not considered desirable. An asset split based on a geographic approach would also make it more difficult for Telecom to take a co-ordinated network architecture approach to upgrading and maintaining of the Regional Access Backhaul Network. It is preferable that accountability at a unit level for Access Network investment, quality, and performance should rest with a single rather than multiple units.

100. The disadvantage of this approach is that the some assets, which are considered replicable in certain geographic regions, will be included within the ANS Unit. However, this model does not require ANS to provide access to all of the assets included within the scope of the ANS Unit. The conditions specified for LLU backhaul under Schedule 1 of the Act should ensure that Telecom is only required to supply backhaul services in markets where they face limited competition. Thus, geographical differences in competition in markets for backhaul should be adequately provided for in the wider regulatory context.

101. An additional complicating factor for determining an appropriate asset split is that with the transition to Next Generation Access Networks (NGANs),¹¹ a demarcation point that makes sense today may no longer make sense in Telecom's network of tomorrow. Increasingly, a distinction is being made between NGANs and Next Generation Core Networks. The operational separation model takes a forward-looking view of the access network, and places regional backhaul assets under the control of the ANS Unit.

6.2.3.2 Inclusion of Transport Electronic Assets

102. In the United Kingdom, Openreach controls and operates just the physical layer of BT's access and backhaul networks i.e. it does not control any electronics such as exchanges, data switches, optical electronics, DSLAMs or fixed wireless systems but it does own some support assets such as line testing and diagnostic systems.

103. The approach proposed in this paper:

• includes transport electronics such as pair gain systems, fixed wireless systems and any electronics used in say an optical fibre solution.
• excludes service electronics such as exchanges, data switches, DSLAMs.

104. If the Openreach approach were followed and electronics such as pair gain systems, fixed wireless systems and any electronics used in say an optical fibre solution were excluded, this would mean some 15% of customer lines would not be under the control of the ANS unit. Telecom's network typography has significantly more remote cabinet sites connected to the backhaul network using active copper, wireless and fibre optic transmission systems, than BT. Many of the lines excluded would be rural lines.

105. Inclusion of all access assets, including transport electronics and fixed wireless systems, in the ANS has a number of advantages:

• Clearly places the accountability for fixed access network investment, quality and performance in one unit.
• Reduces the internal transaction costs between ANS and other Telecom units, as the ANS will not need to "buy" in transport electronics.
• Enhances the autonomy of the ANS unit as it is highly accountable for the development of regulated access products for all service providers and will have little reliance on other Telecom units in order to provision key access wholesale services.

106. A disadvantage of the proposed approach is that the number and complexity of operational support systems that will need to reside in ANS will increase. In this model, ANS will need to manage a variety of "Layer 1 and 2" services which are both regulated and unregulated.

6.2.3.3 Inclusion of Fibre and Future Assets

107. It is proposed that Telecom be required to place its existing and future fibre and fixed wireless access assets in the ANS Unit, not just the existing and future copper. This means that the ANS Unit will be the Telecom unit responsible for implementing all future Access Network investment (including potential roll-out of fibre closer to the customer).

108. This is similar to the approach of the BT Undertakings. Openreach is required to control the "Access Network" which is defined to mean "the Electronic Communications Network which runs from a Local Access Node to a network termination point on an End-User's premise and which supports the provision of copper-based access services and fibre-based access services to End-Users".¹²

109. Regardless of the technology deployed in Telecom's Access Network, it is considered that the Access Network has characteristics, which mean that it is unlikely to be significantly replicated in New Zealand in the medium term. Including future, fibre and fixed wireless assets in the ANS Unit is expected to:

1. Minimise potential investment co-ordination difficulties as one unit will be responsible for undertaking upgrades in the Access Network; and
2. Reduce the risk of discriminatory investment in the Access Network as the ANS Unit will be better incentivised than other Telecom units to undertake investment in a transparent and non-discriminatory manner.

110. If future and fibre assets were excluded from the ANS Unit, then the ANS Unit would essentially be the custodian of a dwindling copper asset. There would be a significant risk that the ANS Unit would not have the right incentives to invest in the most cost-effective technology.

111. As noted earlier, including future, fibre and fixed wireless assets within the ANS Unit is not intended to mean that Telecom must provide wholesale access to these assets unless Telecom is required to in accordance with the Act. However, if those services become regulated services in the future, then the ANS Unit would be required to supply them in a manner that complies with the equivalence requirements.

6.2.4 People

112. Telecom employees working for the ANS Unit shall include:

1. All employees, including their line management up to and including the manager of ANS, who are associated with the provision, installation, maintenance, faults and repair of Telecom's Local Access Network or Regional Access Backhaul Network (as described in section 6.2.3).
2. All employees involved in the planning, design, implementation and in-life service management of products based upon the Telecom's Local Access Network or Regional Access Backhaul Network, including their line management up to and including the manager of ANS.
3. Those employees who carry out activities which are ancillary to those described in (a)-(b) above, those who support and manage them, and those who undertake the sales function of ANS.

113. Where any of the functions described in the paragraph above are performed by contractors rather than Telecom employees, ANS must be responsible for managing the relevant contracts and must ensure that those contracts are consistent with the separation plan. In some cases, that may require Telecom to negotiate amendments to the terms of its current agreements with contractors.

6.3 Wholesale Unit

114. Section 69D(1)(a)(ii) of the Act requires Telecom to establish and maintain one or more business units which must provide a wholesale function for all relevant services (except to the extent that a wholesale function is provided by the ANS Unit).

115. The Act requires Telecom to operate its wholesale business unit or units at "arms length" from any business unit that provides retail functions. A number of specific behavioural obligations and "arms length" requirements will apply to the Wholesale Unit. These are discussed further in section 8.

116. The key services, assets and people requirements for the Wholesale Unit are discussed below.

6.3.1 Services

117. The existing Telecom wholesale unit supplies a wide range of regulated, non-regulated, fixed and mobile wholesale services. Some of these services, such as LLU, will be supplied by the ANS Unit. However, there are still a large number of wholesale services that could potentially be "relevant services" for the purposes of operational separation and thus be required to be provided by the new Wholesale Unit under separation.

118. In terms of meeting the purpose of Part 2A of the Act, it is considered that there is only a proportion of this wider wholesale service set that should be considered "relevant services" for the purposes of the Minister's determination.

119. It is proposed that the relevant services that would be supplied by the Wholesale Unit would cover regulated fixed network services (other than those to be provisioned by ANS). The scope of those services would be as follows:

1. it would include any service that is a designated service or specified service listed in Schedule 1 of the Act, regardless of whether there is a Commerce Commission determination currently in force in relation to that service (subject to (b) below), other than:
   1. Interconnection with Telecom's fixed PSTN;
   2. Interconnection with fixed PSTN other than Telecom's;
   3. Local telephone number portability service;
   4. Cellular telephone number portability service;
   5. Any interconnect or multi-network services that become designated services or specified services in the future as a result of the process under Schedule 3 of the Act or become subject to a registered undertaking under Schedule 3A of the Act.
2. in the case of the 4 "resale of retail services" service descriptions in the Act,¹³ it would only include:
   1. those services that are included in the Designated Services Price List (DSPL) that was prepared under the terms of the Commission's Telecom-TelstraClear Wholesale Determinations (DSPL would need to continue to be maintained and audited);
   2. any replacements for, or successors to, a DSPL service;
   3. any resale service that is covered by a future Commission determination;
3. it would include any service provided by Telecom that becomes a designated service or specified service in the future as a result of the process under Schedule 3 of the Act or that becomes subject to a registered undertaking under Schedule 3A of the Act,
4. but it would not include "regulated mobile services", i.e.:
   1. the specified services of "national roaming" and "co-location on cellular mobile transmission sites"; or
   2. any mobile services that become designated services or specified services in the future as a result of the process under Schedule 3 of the Act or become subject to a registered undertaking under Schedule 3A of the Act.

120. In practice, the above definition would currently include unbundled bitstream access, unbundled bitstream backhaul and those resale services that are listed in DSPL.

121. The above approach requires a minimum set of services to be provided by the Wholesale Unit. A number of both equivalence requirements and behavioural obligations are proposed in respect of these services (discussed further in sections 7 and 8). Telecom would retain some flexibility about which unit would provision other wholesale services which are not included in the list above.

122. The advantage of this approach is that operational separation requirements are appropriately focussed on certain services which are considered the most important to achieving the purposes of Part 2A of the Act. However, a disadvantage of this approach is that Telecom may potentially set up a second wholesale unit in respect of other wholesale services. Two Wholesale Units or subdivision of the Wholesale Unit is not being required and appears to create unnecessary complexity for Telecom and third-party service providers.

6.3.2 Assets

123. It is not proposed that the Wholesale Unit should be required to have any specific control over assets. It would need to enter into arrangements with other Telecom units to obtain access to those assets that are necessary for the provision of Wholesale's "relevant services".

124. Unlike the scope of the proposed ANS Unit, the Wholesale Unit would continue to be primarily a service management and provisioning desk for relevant wholesale services. Wholesale will not be required to control any specific assets though Telecom would be free to include assets within the Wholesale Unit.

125. In practice, it is expected that the Wholesale Unit will retain a strong level of integration with the parts of Telecom responsible for technology planning and control of fixed network assets that are not required to be part of ANS. Whilst such fixed network functions are not required to be within the Wholesale Unit, the operational separation model still provides for separation of these upstream network and wholesale functions from downstream retail functions by virtue of the proposed arms length requirements.

6.3.3 People

126. Telecom employees working for the Wholesale Unit shall include those who have responsibility and control in relation to the Wholesale Unit's "relevant services" as follows:

1. Service management, including service specific terms and conditions and pricing (except where these have been otherwise set by the Commission in accordance with the Act).
2. Service specification.
3. Service related procurement processes.

6.4 Units that provide Retail Functions

127. The Act requires Telecom to establish and maintain one or more business units that provide one or more other functions (for example, retail).

128. It is not considered necessary to define in detail the services, people, or assets required to be within those units. However, a number of arms length rules and behavioural obligations are being proposed to ensure that business units that provide retail functions are sufficiently arms length from the Wholesale Unit, fixed network business units and the ANS Unit in order to maintain separation between upstream and downstream functions within Telecom. These requirements are discussed in further detail at section 8.