Smart investors bet on outcome of court case

Business Opinion: How smart is Smart Telecom really? Last week, the company that was set up five years ago by former stockbroker Oisín Fanning finally bit the bullet and started legal proceedings against Eircom, which it accuses of abusing its dominant position to block its attempts to crack the residential broadband market.

At the heart of the dispute is Eircom's less-than-enthusiastic approach to giving other telecoms companies access to its network as required under law. It bears some similarity to the German army's retreat from Russia in the second World War. Defeat is inevitable, but every foot of ground will be fought over and paid for in blood.

The rearguard action currently being fought with Smart is over how customers should move from Eircom to broadband lines leased from Eircom by Smart. The smaller telecoms firm is alleging that Eircom is making this unnecessarily difficult, primarily because customers are not able to retain their phone numbers, In addition, any of Smart's existing 80,000 customers who want to switch to Smart's broadband service have to return to Eircom for a week to do so.

In addition, Smart alleges that the €4.9 million deposit Eircom is seeking as security for future trading is excessive and imposes unfair and onerous commercial conditions on it.

The case underscores the failure of the regulator, ComReg, to force Eircom to comply with various directives on local loop unbundling. This situation has arisen for several reasons, including a paucity of powers on ComReg's behalf and various legal challenges by Eircom.

Smart's case against Eircom is the first to be taken under the Competition Act 2002 and the first of its kind in the State. About the only things that can be said with certainty about the case is that it will go on for a long time and be very expensive. Hanging in the balance is Smart's ambition to become the number two player in the market through offering broadband and other services via lines rented from Eircom.

With the benefit of hindsight, Fanning's game plan appears to be something along the lines of to go out and raise some cash from investors and borrow a shed load more based on a business plan that involves leasing lines from a dominant incumbent.

The plan envisaged doing this in the full knowledge that the incumbent did not want to lease the lines and would fight every inch of the way while the regulator would be of very little use. A court showdown of some sort with Eircom seems to be the only logical outcome of such a plan, and that is where things have now fetched up.

From this perspective, an investment in Smart is - and was always going to be - a bet on the outcome of a case in the High Court. And anyone placing such a bet would have to take into account the resources available to both sides. Eircom has a market capitalisation of €1.3 billion while Smart weights in at £47 million (€70 million).

All of a sudden Smart does not look so smart.

However, Fanning's supporters dismiss this analysis as overly simplistic. They say the case being taken against Eircom is not the final act in some life or death struggle for the company. Whether it wins or loses, Eircom will eventually have to give Smart what it wants because it is Government policy.

This could happen as soon as the end of the year if the Government proceeds with legislation to give ComReg new powers. Taking the case is a necessary step and if it forces Eircom to comply sooner rather than later then its money well spent, argue Smart's fans.

If you accept this analysis - and doing so requires a considerable amount of trust in the Government delivering on its promises - the real question is whether Smart, which has already raised €60 million in debt and equity, has the financial wherewithal to hang on until Eircom complies.

According to the last set out accounts, for the year to the end of December, Smart had €4.7 million in cash after a cash outflow of €12.4 million offset by financing of €15 million.

But this is not a particularly remarkable state of affairs for a start-up firm and Smart said last February that it had raised €20 million from private investors via a special purpose vehicle to fund its broadband plan.

In addition, Smart has 80,000 customers for its ordinary voice service and plans to meet its target for broadband customers this year despite the obstacles put in its way by Eircom.

Smart fans also point out that its institutional and large private backers all came on board with their eyes open. Among them are two very astute businessman, Lochlann Quinn, formerly of Glen Dimplex, and Brendan Murtagh of Kingspan. Neither, it is argued, would have expected Eircom to roll over and such is their confidence in the Smart that they are bank rolling its bid for Meteor, the third mobile phone operator which has a price tag of around €350 million. Smart is reported to be down to the last three in the contest and its supporters would argue that you don't last that long in a competitive process without showing the colour of your money.

The result of the Meteor auction will be known in mid July. If Smart is not successful it will be interesting to see how much of an appetite Quinn and Murtagh have left for a punt on Fanning's case against Eircom.