Switkowski: transforming Telstra into a high-tech telco

Published on:

Telstra, Australia's incumbent telco, has a significant broadband footprint, satellite capacity, two wireless networks and the largest ISP and cable TV company in the country. The company is now focusing on data/Internet and E-commerce growth opportunities. Telstra's new CEO Ziggy Switkowski talks to Mark Holmes about the operator's high-tech, high-growth strategy.

In February 1999 Ziggy Switkowski was appointed the new CEO of Telstra, the incumbent operator in Australia, which is still majority state-owned. His appointment came as surprise to many, as Patric Russel, a telecoms equity analyst at Merrill Lynch, explains: "Well it was a bit of a surprise when Ziggy Switkowski was appointed CEO, because it took so long. Then they ended up with an internal candidate. He came from their major competitor, so he understands the landscape in Australia."

Russel believes that Telstra is one of the most forward-thinking incumbent telcos around: "The company is richly endowed with assets. It has a lot of technological flexibility with two wireless networks, GSM and AMPS, migrating to CDMA. It has a relatively large modern copper network. It has the capacity to migrate to DSL. It has got a very large broadband footprint. It has got fibre-optic rings in the cities. It has got satellite capacity. It is the largest cable TV company. It is the largest ISP in Australia. It is the largest long-distance, mobile and local provider and so on. It has got a very broad range of data products, which are supported on these various networks by a brand which is vigorously marketed. You probably won't find an incumbent around the world with as much technological flexibility as Telstra."

Switkowski and his new management team will be leveraging these assets to boost shareholder value, in a bid to reduce dependence on voice revenues. Russel sees this as critical to Telstra's future success: "I guess that the main challenge for the company is to migrate from basically having 30-40% of its revenues coming from voice services to a data platform and to do it in a way that is not damaging to shareholder value. So basically this involves moving from the old circuit-switched world to the digital IP world. Obviously this is going to affect margins on some services such as traditional long-distance voice, but it is potentially going to create an enormous amount of growth in other related services."

The operator may adopt a more aggressive approach with regards international investments and acquisitions. However, Telstra is hampered by the government's majority holding, as Russel explains: "The major weakness for the company is that it is government-owned. This factor restricts its ability to grow in terms of using its script to make acquisitions. It would probably like to be more freewheeling. At the end of the day, it is still partly answerable to the commonwealth government of Australia and there are clearly some conflicts of interest associated with that ownership."

In an exclusive interview Switkowski sets out his agenda for the company and explains how he intends to build on Telstra's impressive legacy.

How do you view the domestic market in light of increased competition? What do you believe to be Telstra's competitive advantages? How do you view Cable & Wireless Optus?

Competition is vigorous throughout the domestic market. We now have about 26 licensed carriers and new entrants. There are relatively few constraints, because there is regulated access to key services such as the PSTN. I think that our advantages lie in the fact that we are a full service provider.

We have a broadly diversified product and revenue base and we have the legacy advantages of a very strong brand, a history of being part of the social fabric of the whole of Australia and, since the introduction of competition in the early 1990s, a performance that has met customer expectations in quite a convincing way.

While we are participating in a very competitive market, I think that Telstra remains very well placed to continue to do well. I would also like to note that, when searching for evidence of a healthy competitive environment, one looks for in my mind, the following trends: reduced pricing; the level of innovation in new products and services; the quality of service to customers, level of capital spending and availability of choice. All those dimensions are very healthy in the Australian market. I think that Telstra has demonstrated over the past few years an ability to perform very well in the business sense.

Cable & Wireless is a strong competitor. As you know, they are in the middle of an interesting take-over initiative of the number three player in the country, AAPT, which probably has a little way to run before that is concluded.

Optus has proven to be formidably capable in the GSM/mobile business and has had a domestic monopoly on satellite provision. They have done very well between mobile and satellite and are a lively competitor in business services. So I think that their involvement in the Australian market has been good for consumers.

How do you view the current ownership structure of Telstra? When will the government relinquish its golden share?

The current ownership structure marks the halfway stage. The next step to reduce government ownership is being debated by our legislature at the moment. The government would like to sell the remaining stake in the company.

In our opinion, complete privatization is in the best interests of shareholders, customers and the community and will enable Telstra to compete more effectively against some of the largest companies in the world, so that we have the ability to raise capital, for example, enter joint ventures which may involve equity swaps and generally manage our balance sheet more easily.

Is it true to say that Telstra's ability to issue new shares is constrained by the government's majority holding in the company? Are you using the same investment banks which advised you on the IPO in November 1997?

The latter question is a matter for our owners - the government that sells its stake in Telstra. Therefore the government employs the joint global co-ordinators. I think they have signalled that they are using the same co-ordinators if the next tranche proceeds. In terms of limitations on Telstra, the government is prevented by legislation from owning less than 66.7% of Telstra.

So if we wanted to raise equity capital, we would probably need to participate to the same degree as private shareholders. But we are finding that government is more risk-adverse and conservative by nature. Therefore to engage them in these sort of strategic issues does constrain our ambitions to some extent. In addition bringing the government to the table as a potential partner in any JV discussions is not always welcomed by our partners. So these are a couple of examples where the government gets in the way.

Why have you argued for the gradual introduction of competition in rural and remote locations in Australia? Do you believe that competitors may be able to offer cheaper services by using satellite technologies?

Let me make the point that we (Telstra) have been the provider of basic telephony services to all Australians, including regional Australia since the beginning of telephony 100 or so years ago. We believe that we do it well. We believe that we do it very effectively. However, given the diversity of carriers in Australia today, it is quite proper to open up regional Australia for competition.

We are happy to participate in that process and demonstrate that we are good providers for the bush. There are emerging new generation technologies, including satellite telephony that will be of interest, but we are very mindful of the need for robust enduring solutions in often difficult, non-powered locations. I think that this is an area where we are particularly strong and our competitors are not well informed about the needs of customers in those markets.

How do you view the decision of the ACCC (Australian Competition and Consumer Commission) to issue a fourth competition notice, alleging delaying tactics and overcharging? How do you explain the number of complaints from other carriers about the transfer of customers?

Frankly we are somewhat perplexed, because the fourth notice appears to cover the same ground as the earlier notices. We are contesting the ACCC court action which was launched just prior to Christmas last year. I will remind you that the concerns focus on customer churn costs, the time of processing the churn and the need to make system investments to meet industry needs.

We believe that we have responded satisfactorily to all these concerns. We are not receiving customer complaints of any kind. The complaints are primarily made by our competitors in the industry. I guess that we are not surprised that they are taking this particular view.

Telstra could face fines of up to $A4 million ($2.6 million) a day from the ACCC. Do you believe that your competitors have any cause for complaint? How do you answer allegations that Telstra's business practices have been anti-competitive?

The ACCC indicated their areas of concern to us just prior to Christmas. The cycle time of processing those churns is more influenced by the time that order resides with competitors, rather than with us. We are making investments in the systems that are required to automate that process.

So we think that we have responded constructively and promptly. We have reviewed the ACCC allegations. We feel very, very confident about our position. While they have powers to impose substantial fines were we to be found guilty of improper behaviour, we don't believe that we are substantially exposed.

How do you view cellular in Australia? How many subscribers do you currently have? How do you view the potential for pre-paid services in Australia?

The cellular market in Australia is quite extraordinary. The level of penetration is now in the 30-plus range and moving up quickly. We don't see any reason why mobile penetration should stop at 50% and not go any further.

We launched some pretty aggressive marketing programmes pre-Christmas. We now have 2.2 million GSM digital customers and about a million amps customers with a total market share of just over 50%. So Telstra continues to travel well in a very dynamic market.

Pre-paid services in Australia have not proven as popular in terms of volume as they have been on the continent for example, but it is still comparatively early days since their introduction. Australia already has low access plans in place in the mobile market since the early 1990s.

So the Australian consumer has quite a number of low-cost cellular options, which makes it a little harder and a little less convenient for pre-paid services. But we are participating in that particular market.

We are launching a CDMA network to replace the analogue network and the CDMA network in conjunction with the GSM network. In my opinion the proliferation of wireless products will underpin attractive growth for us in this market.

How do you rate Vodafone and its ability to leverage wireless business clients, in view of its impending merger with AirTouch?

Obviously, any carrier with global offerings in an increasingly global market would be a positive. Vodafone and AirTouch will become quite a formidable global operation. But at Telstra we have an international point-of-presence strategy and offer GSM international roaming to 62 countries. We are working on a global product solution across all Telstra's products to cater for the world-wide needs of our customers.

What are your opinions on CDMA? Which suppliers do you work with in cellular? How do you view the potential for wireless data?

We are pretty optimistic. We are moving into CDMA technology. Recently we tested the network in one of our regional locations in the state of Victoria and confirmed its integrity, voice quality and reach. We demonstrated that it was the equivalent or better than analogue in country locations, which is really very important for our rural customers.

Nortel is our CDMA supplier for the network. You may know that it is Ericsson for GSM. In handsets we pretty much deal with all the manufacturers around the world. Our leading suppliers are Nokia, Ericsson, Motorola and Panasonic. We will be trialling CDMA for packet data speeds of up to 144kbts/second mid-next year. Once we have demonstrated the robustness of that services, this will open up a whole bunch of new opportunities for customers to gain access to the Internet.

We are pretty excited about wireless data services. We are seeing in the evolution of the mobile market a move beyond simple handset acquisition for voice telephony to a whole range of value-added products based on digital technology and mobility. We are going to see handsets turn into quite diverse communications devices, which will provide us with plenty of opportunities for affordable and attractive non-voice applications.

What pricing packages are you devising to attract long-distance customers? How will Telstra increase profit margins in the fixed market and regain customers who went to C&W Optus?

Unsurprisingly, long distance is the most competitive market in Australia, attracting the greatest number of suppliers. I think that it is the one area where Telstra's market share has been reduced the most to below 50%. At this point it appears to be stabilizing owing to the introduction of a range of pricing programmes such as the Easy HalfHour, where our offer enables people to make long-distance calls for 30 minutes at attractive rates.

We have other cap-call offers that are simple and low cost, which also appear to be reaching a market valuing that approach. International long distance is very important to Australians, given the high proportion of Australian residents with overseas relatives and heritage. We are looking to technology to reduce our overall costs as well.

Margins will be increased through better utilization of the network, for example. Of course, volume growth will come through the sales of enhanced services such as caller-number display, message bank and increased use of the Internet. So we are seeing a stabilization of our revenue base and our margins.

What are your plans to build up your wholesale business in the local market? Do you believe that wholesale should account for more than 10% of revenues and that you should reduce your dependence on retail?

We established a discrete dedicated wholesale business unit within Telstra in 1995 with a charter to manage Telstra's entry into the wholesale business. More recently that business unit was expanded and given more support by the company in terms of high-level delegation and higher priorities.

I don't believe that we will ever overtly seek to reduce our dependence on retail, as that is such an important business requiring dedication and focus on our part.

On the other hand, clearly as the number of competitors in the Australian market increases and their share of the conventional business increases - as the regulatory forces are determined to see that this happens - we will seek to be the preferred wholesale supplier to our competitors.

At the moment, wholesale revenues constitute about 10% of total revenues. I can see them growing considerably beyond that percentage.

What are your opinions on Internet telephony? Could you tell us about the voice over Internet trial between the UK and Australia? How will these new technologies affect Telstra's operations?

We have been trialling voice over the Internet in the UK. We have been doing it with technologies that we have been trying to make vendor independent. We are testing really the quality of the service, scalability and certain price sensitivities.

When we are comfortable that we have understood those dimensions, we will seek to roll out the product. I am working on a rule of thumb which suggests that at some time in the early part of the next decade, Internet telephony will begin to account for about 1% of our voice telephony revenues and then grow by 1% each year thereafter. About half of that will cannibalize our existing business, while the other half will be genuinely incremental.

How much do you spend annually on network modernization? How do you view DSL and ATM?

The best approach at trying to work out our annual spend is to look backwards at a programme which we call the Future Mode of Operation, where we sought to completely digitize the network. The programme was completed this year at a cost of A$3.3 billion ($2.2 billion) over three years. That should provide you with a sense of the scale of our expenditure in the context of our overall A$4 billion capex budget each year.

In terms of DSL and ATM, ATM is the technology that we use to provide enhanced data services and bandwidth-on-demand in the core network. Of course DSL is a set of access technologies that will allow our customers to connect to the core network. ATM has proven to be an important service for a number of our large corporate customers. We offer advanced ATM services which provide full inter-working with frame relay. DSL is one of a number of access technologies that we are investigating to provide high-speed access to our customers. We are probably still some months away from concluding the actual business plan for DSL in this country.

Could you tell our readers about some current research projects involving Telstra? When do you expect to make an announcement about the upcoming Data Mode of Operation (DMO) contract?

We expect a decision relatively soon on the DMO subject to current commercial negotiations. In terms of research projects, as you know we run the largest industrial research laboratory in Australia. It covers a variety of applications in our business.

You should remember that, as a full service network and quite distinctly so, we range all the way from conventional telephony on the fixed-line network through the HFC network, wireless, satellite and a full suite of products that are built on these platforms.

So our research effort underpins a fair diversity of technologies and applications. But as an example we have been looking at CDMA technology now for the better part of seven years. So when we launch CDMA, we will genuinely be at the leading edge in terms of the products.

We have a new generation of Internet search engines based on artificial intelligence which we are particularly enthusiastic about. As an example, one search engine can understand natural language. This means that when you place a query for something like a glass of wine, it distinguishes the request from a query directed at searching on wine glasses. This is kind of helpful, as we establish search engines to interrogate supermarket lists or restaurant menus for example.

Owing to our participation in the pay-TV industry as the largest supplier of pay-TV in the land, we have a range of TV and web-based integration activities - interactive TV - in our research efforts, including on-line programme guides and multi-media information related to TV programmes.

The appetite for the Internet, building on the growth in usage of our network from fax and e-mail, means that we have developed a virtual second line concept, permitting customers to receive phone calls, whereas the phone line would otherwise be tied up in an Internet session.

We are using WAP (Wireless Application Protocol) to provide enhanced data capabilities connecting to the web while on the move through the digital mobile network. These represent just a few examples of activities that are being conducted in our research labs.

Can you explain why you are creating a multi-media group? Is this aimed at refocusing the company to exploit the potential for Internet and data services?

The answer to the second question is clearly "Yes". This is such an important part of our business. If I might preface this statement, I would add that the company is very determined to exploit the growth in this industry and therefore grow at historically higher rates, as growth is going to come from four primary drivers - international business, the wholesale business that we talked about, Internet, E-commerce and data, while the fourth element is wireless/mobile.

So we have designed an organizational structure that puts clear resources in places where they are clearly aligned with these growth sectors.

Part of the strategy behind the creation of a multi-media group is to send a strong signal to the market that we are serious about exploiting new developments, such as the Internet, which we expect to underpin our growth and our value to shareholders over the next few years.

How are you targeting the business sector in Australia? How do you see the future for E-commerce?

We have done a couple of things to emphasize our commitment to the business sector and E-commerce. Firstly, high-end businesses, the government, institutions as well as small-to-medium businesses, are collectively very important. They represent nearly half of the company's revenues and earnings contributions. Their growth rate is faster than average for an already fast-growing industry, so they matter to us.

We are finding that business customers are especially demanding in their requirements for ever-increasing complete and complex solutions with service guarantees that reassure them about the integrity of the network and the reliability of the products. I think that those demands play to Telstra's strengths very well.

But there are two particular examples that I would offer up: the fact that we are the telecoms supplier and sponsor to the Sydney 2000 Olympic Games and that we have responsibility for the end-to-end provision of all telecoms services to the games, which is a hitherto unprecedented commitment by a telco. In this way we make sure that we are engaged in a really Manhattan-type project in the telecoms space on a stage that is particularly visible to the entire world. So our commitment to complex projects is certainly on display there.

Secondly, along with others we believe that the appetite and interest in electronic commerce is just now achieving lift-off in Australia. We are seeing that this is the case in the surveys that we are undertaking. We are seeing that in direct contact, particularly by small-to-medium businesses.

So we have configured our organization to focus on small-to-medium businesses. We have made some investments in certain E-commerce organizations, applications and technologies. We expect to see an increasing contribution from E-commerce applications in the immediate future.

Can you describe the varying usages of ADSL, HFC and satellite for your data services? Is there a risk of cost duplication on your networks? When do you expect to expand the HFC broadband network from 2.5 million to 5 million homes?

Well we use the hybrid fibre coax network to promote pay-TV and broadband Internet, which we refer to as Big Pond cable. As I mentioned earlier, ADSL is currently under development. We are still analysing the business plan. Were it to be launched, it would not be much before next year.

ADSL is for us an access service which will be targeted initially to teleworking and broadband Internet. It is likely that it will be deployed in metropolitan areas that are not currently served by the HFC network.

We use satellite technologies for a wide variety of applications from pay-TV, remote learning and broadband Internet. This is in general provided in areas where the fixed network is uncertain or unable to support these applications. They will be increasingly relevant, as we seek to deliver on our universal service obligations to regional Australia.

There is a risk of cost duplication on our networks, although we think that it is minimal, as we conduct an active review of the technology that is likely to provide the highest quality service at the lowest cost to our customers. In our case, cable is limited to the existing pay-TV roll-out areas.

As you know ADSL is technically limited to 3-4 kilometres from existing exchange buildings. That leads quite logically to the use of satellite to provide broadband access to the rest of the population. At this stage our broadband HFC network reaches 2.5 million homes. We have no plans to extend beyond that.

Will you have to reduce the number of employees to make the company more efficient? Which efficiency benchmarks do you use?

I recall that the headcount for Telstra has fallen from about 94,000 employees in 1991 to about 54,000 now. We are part way towards the completion of a five-year business plan that projects a continued reduction in staffing levels, albeit at slower rates.

Now we are discovering that, even as our headcount falls in some parts of the company, we are vigorously recruiting in other parts of the organization, as we seek to get the right balance of skills in the organization and position ourselves to be an increasingly IT and IP-literate company into the next decade.

We are helped by having a whole bunch of metrics and benchmarks that are available in our industry from peer companies. We sense that we are making good progress in terms of productivity gains measured by these benchmarking studies.

On the other hand, we know that the world continues to improve quite quickly and we will have to maintain vigilance and focus to ensure that our costs continue to fall as a proportion of our revenues.

We are seeing opportunities to reduce costs by improving our processes, removing some overlapping responsibilities and exploiting more strategic sourcing arrangements with our vendors. These constitute just some of the examples. We can also reduce costs by unlocking the potential of a workforce that remains enthusiastic about contributing more productively to achieving the company's vision.

How are you restructuring Telstra's international operations? Do you have any ambitions to become a regional hub in the Asia Pacific?

Firstly we are looking to our international businesses to contribute to the accelerated growth of Telstra that we have targeted over the next several years. We believe that the Asian geography is an area where Telstra has a strong legacy, quite an important franchise and historically deep relationships. So the platform is there for us to build on and grow.

Our international strategy can be thought of as having the following dimensions: we have some offshore investments mainly in Asia, which we will continue to manage more effectively. We are proposing to encircle the globe with a number of points of presence, so that we can provide international customers with global products. We are continuing to look at forging alliances as appropriate, where our multi-national corporations can benefit, either from lower costs of capacity or end-to-end connectivity in a customer-friendly way.

So these will be the criteria that we will use to drive our international strategy. I think that our regional hub ambitions have been well documented over the years. We have worked pretty closely with Australian government departments such as foreign affairs and in particular with Austrade, to promote Australia as a hub. We are finding that the Sydney 2000 Olympics is providing a very attractive event and opportunity that has caught the attention of overseas organizations, as they seek to establish a stable hub in the Asian environment.

Would you like to scale up Telstra's international investments? Do you expect international investments to yield an increasing proportion of revenues, as the domestic market gets more competitive?

We will certainly be looking to international investments to contribute more than they have so far. At the same time, we have very demanding criteria for both the risk and returns that we demand of all our investments. We do have a strong balance sheet, and one that is capable of bulky investments, should the right ones come along.

But we are more interested in investing in the future, that is in the data/Internet and E-commerce space that in the past characterized fixed line construction in third world locations. We are poised to scale up our offshore operations, assuming that we have business opportunities that meet that criteria.

Could you tell us about your presence in Vietnam? What are your opinions on the future of global alliances?

We are proud of our achievements in Vietnam over the past decade or so. We have a privileged position with the Vietnamese government owing to our long-standing presence in that country and the fact that we have a good business. We have been responsible for ensuring that Vietnam has a high quality telecoms infrastructure that is as good as any in South-East Asia.

In fact, one of our senior executives, Peter Shore, was acknowledged by the Vietnamese government and presented with a medal for his services to the Vietnamese telecoms industry.

In terms of alliances, as I have described, that is one of the key approaches that we have adopted to participate around the world. I don't want to foreshadow some of our discussions at the moment, because it is a pretty competitive industry. I am reluctant to show too much of our hand. But it is fair to say that Telstra is seen as an attractive ally owing to our franchise in this area.

In a recent interview that we conducted with James Crowe, he talked about the difficulties for traditional telcos to adapt to change owing to 70-80 year-old business models, claiming that new entrants who can come in and build a network from scratch have a distinct advantage. What do you think?

Well, the question probably has more relevance offshore than it does here, where Telstra has defined the communications industry since the beginning of telephony in the 1880s in Australia. But it is abundantly clear, that in order to be relevant and successful, the business model of the past is not the way forward.

The way forward will require us to effect the transition into a high-touch, high-tech and high-growth enterprise. By high-touch, I mean that we should be truly in touch with customers determined to deliver high-quality service through a workforce that is motivated, incentivized and well-trained to deliver that service.

By high-tech I mean that we represent the only example of a large, technically sophisticated intensive capital and IT enterprise in Australia, making technology judgements all the time. In terms of high growth, we are blessed by being a player in the most dynamic industry in the world, which should lead us to evolve disproportionately quickly and use that fast growth as an opportunity to accelerate the transformation of the organization into a 21st century communications telco. We will adhere to the following model going forward: we will build upon the past, but we will very quickly evolve away from it.

Finally, how have your experiences at Kodak and Optus shaped your vision for the future of Telstra? What are your hopes and ambitions for the next two-three years? What general trends do you see emerging in this time?

A cosmic question. I will just hit on a couple of those points. Firstly we are clearly driven by shareholder value. I believe that you deliver disproportionately attractive returns to shareholders by being exquisitely good at delivering customer service.

You can only do that if you have people with the right skills working with good processes in an environment that motivates them to contribute. So the connection is between the satisfaction of your people to deliver satisfaction to customers and therefore meet shareholder expectations.

That connection is a strategic one for me. We will be working on those dimensions. Secondly, I would go back to that headline phrase I used earlier. We are going to be a high-tech, high-touch, high-growth 21st century communications company. We also benefit from our presence in a very dynamic industry. We are resourceful. We have got a strong balance sheet.

We have an appetite to accelerate the transformation, a process that was initiated by Frank Blount during his time here. He took the company a huge way towards becoming a truly world class operation. You will see fairly rapid progress in all those dimensions over the next two-three years.