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The task facing Australia's cabinet on Tuesday, when it meets to thrash out plans for the A$32bn (US$24.7bn) privatisation of Telstra, can be summed up in one question.

How to carry out the world's largest international equity offering while also pleasing Australia's voters and politicians, international markets, and the telecommunications company's vocal new management?

“This is going to be a tough sale for financial and political reasons,” says a Sydney-based investment banker.

With the Telstra sale, or T3, likely in October/November 2006, just months before polling, prime minister John Howard knows the mere perception of a botched deal would cost him dearly at the ballot box.

Nick Minchin, the finance minister, told the FT: “Politically and financially we can't afford to take any risks with the sale” of the government's 51.8 per cent stake.

The government has been studying a 1,200-page “scoping study” by UBS and local investment boutique Caliburn Partnership, which explores options including a staged sale of its holding. Mr Minchin even commissioned a report on the merits of an online share auction like the one used in Google's listing last year.

However, people close to the transaction argue the government wants to sell the holding in one go, albeit through multiple channels, to avoid the political and market risks of a drawn-out divestment process.

Under this plan, some Telstra stock would be packaged into exchangeable securities, such as convertible bonds, in order to tap fixed-income investors. A second, significant, portion of the offering would go to the government's Future Fund, set up to pay the pensions of soldiers and civil servants.

The more controversial part of what one analyst calls the “slicing and dicing of T3” is what proportion of the shares will be acquired by the company itself.

Telstra, led by its new chief executive Sol Trujillo, is believed to be resisting government pressure to buy back as much as A$10bn.

The company is understood to be arguing that it needs cash and a healthy balance sheet to fund capital expenditure and operational improvements in its sprawling business, which includes 10m fixed-line customers, 8m mobile phone subscribers and more than 40,000 staff.

“The company will probably do a buy-back but it is not going to break the bank for T3,” says a person familiar with the management's thinking.

With or without a large buy-back, the bulk of T3 will have to be taken up by Australian retail investors, and domestic and foreign institutions. Observers believe the government, with an eye to the polls, will try and ensure the Australian public gets a good deal.

“Retail investors are also voters and we'll need to be conscious of those dynamics,” said Mr Minchin.

In practice, smallshareholders are likelyto receive the option topay in instalments, tax breaks on dividends, and incentives not to sell the shares in the short-term. Analysts doubt whether these sweeteners, used in the sale of a A$16.6bn government stake in Telstra in 1999, will attract enough retail demand. They argue some 1.8m Australians already own Telstra shares, and most have been suffering paper losses after buying the stock five years ago at A$7.40, well above the current price.

Foreign investors, who own only 6 per cent of Telstra shares, are the other obvious target. Mr Minchin pledged to pull out all the stops to lure overseas funds, including raising the foreign ownership cap from 35 per cent to 49 per cent, if necessary.

But, with Telstra's shares on a higher earnings multiple than its international peers, foreign fund managers have to believe Mr Trujillo can deliver cost-cuttings and operational improvements to offset the steady erosion of its market share.

The scale of Mr Trujillo's task became apparent yesterday when Telstra shares fell nearly 2 per cent withinminutes of its announcement of record results that beat analysts' expectations.

The job of the former head of USWest, one of the “Baby Bells”, and the UK mobile phone business Orange, will be made easier if the government's new sector regulations turn out to be not too demanding on Telstra. An agreement between Mr Howard's squabbling coalition partners on the funding of telecoms services to Australia's scarcely-populated countryside would also help.

But, in the words of an investment banker, T3's appeal to foreign investors will largely depend on whether Telstra can “sex up its story”.

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