How do you know what something is worth?
February 9, 2010
The old axiom holds that something is worth what someone is willing to pay for it.
But what if the asset is not for sale? How do you value a business asset – a car or a computer for example – for the purpose of a balance sheet?
There is a well established and eminently sensible approach that covers most cases. Take what was paid for the asset (the historic cost), subtract an amount every year for wear and tear (depreciation) and the value is what is left.
Sometimes, working out how much to subtract for wear and tear can be a bit hit and miss. In rare cases, assets appreciate in value because of scarcity or some other special condition.
But for the most part, common sense dictates that if you start with the historic cost, you won’t go too far wrong.
The ACCC is presently discussing how to determine the value of Telstra’s fixed line network. It is doing this to calculate the appropriate rent that should be charged for other carrier to access, or use, the monopoly parts of that network.
Seemingly in defiance of common sense, the Commission is starting the process by offering up a list of alternative ways to calculate the starting value.
It is asking this question even though it has already calculated the depreciated historic cost of the network using information provided to it by Telstra under the law. That is, it has calculated already what Telstra’s network cost and what should be written down to account for how much it has been “used up” in the years since.
One of the other ways of working out the value of the network suggested by the ACCC is Depreciated Optimal Replacement Cost. This method basically involves constructing a model that tries to work out how much it would cost to build the Telstra network today.
This is a bit like working out what your car is worth by calculating how much it would cost you to build it in the backyard yourself.
From scratch.
Another method being considered is the Net Present Value method. This involves adding up all the income that Telstra gets from the network, multiplying the income by the number of years that it might continue to generate money and calling that the value of the assets.
The problem with this is that the ACCC believes that Telstra charges more than it should from those using its network. So NPV would simply turn inflated prices into an inflated asset value.
Both DORC and NPV obviously and fundamentally fail the common sense test.
So why are DORC and NPV being considered at all? Because Telstra and other large incumbent telecommunications companies around the world have invested millions of dollars over decades dragging regulators such as the ACCC into theoretical nonsense games.
Compare the different outcomes from the different approaches and it soon becomes clear why Telstra is willing to make the investment in this regulatory fight.
According to figures presented by the ACCC to the Government, the accounts Telstra as provided to the ACCC indicate that the actual price Telstra network paid for its network minus deprecation (depreciated historic cost) is $8 billion.
But the model that Telstra has constructed to work out what it would cost to build its network today (Depreciated Optimised Replacement Cost) would value exactly the same network at closer to $40 billion.
It is easy to dismiss these arcane regulatory debates as egg head shenanigans, but there is a very good reason to pay attention.
The Commission’s choice of methodology will determine how much each and every telephone call, broadband connection and line rental costs for years to come. The price every Australian pays for basic phone services could be four times higher under the DORC methodology than under the depreciated historic cost approach
In the next few months, the Commission is going to have to make a decision about whether it stands up to Telstra and delivers the best deal for consumers and competition, or whether it trades their interests off to avoid a fight with Telstra.
Watch this space.
