Between the lines: Alarm bells ring over Telstra's Asian link

Misery loves company. If Telecom can find any comfort as its share price slides, it is that its Australian equivalent, Telstra, has done no better.

Telstra, too, is facing fierce competition in its home market, and while one of its problems may be the opposite of Telecom's - in that it has too much money to spend - it also needs to expand overseas.

Last year's merger in New Zealand with Saturn was impeccable.

Saturn had done the spadework, faced the investment risk and proved that its business plan worked.

And the merger is a rare case where the combined entity is greater than the sum of the parts.

Although important in the New Zealand market, Telstra Saturn is still small beer in the Telstra scheme of things.

Telstra would dearly like a deal in Asia, and the "strategic alliance" announced in a memorandum of understanding last April with Hong Kong's Pacific Century CyberWorks looked like just the thing. It would open the door to China and investment in substantial telecommunications assets.

Unfortunately, it has become clear that PCCW needed Telstra every bit as much as the other way round. Telstra's presence, and the $A5 billion - depending on the figure you hear - it would bring to the table provided substantial assurance while PCCW completed its scrip-based takeover of Cable & Wireless-controlled Hong Kong telco HKT.

Alarm bells should have been ringing all over the place. While Hong Kong investors were dazzled by the aura and family connections of PCCW's chairman, Richard Li, there was evidence that the puff had run ahead of the substance.

A February dissection of PCCW by independent Hong Kong analyst David Webb had valued PCCW at $HK6 a share, considerably less than the $HK20-plus ascribed by several pedigree-named broking houses.

Now the analysts are looking foolish because, since February, PCCW's price has dropped from $HK26 to around $HK9, giving Mr Webb cause to say: "I told you so."

That obviously is bad news for those HKT shareholders, including C&W, who took PCCW scrip. But it is also far from encouraging for Telstra, because at least part of its investment was predicated on the value of PCCW.

Under the April memorandum, Telstra is to make a $US1.5 billion convertible loan to PCCW, yielding 3 per cent. But given that it converts at $HK19.52 a share, it may be unlikely ever to do so, making it, as Mr Webb says, more like a soft loan with Telstra taking on the trappings of the World Bank.

The April agreement was never binding and Telstra could walk away from it, although with the connections PCCW offers it still has good reason to secure a revised agreement that more accurately reflects PCCW's value.

Many lessons might be gleaned, not least that sharemarket analysts are likely to be optimistic in their valuations of large companies, particularly if their jobs are at risk if they give a more sober appraisal.

For all the travails, Telstra may come out with a much better deal than the one it originally signed, even if the credit for that belongs to serendipity.