How to measure monopoly power?: Definitions will determine the outcome of proposed MCI/WorldCom merger

The proposed MCI/WorldCom merger is generating heated debate about the best way to gauge power in this new, evolving market.

The $37 billion deal, now under review by U.S. and European regulators, would create a telecom behemoth with $32 billion in annual revenues and 22 million customers in more than 200 countries. It would be a major player in U.S. local and long-distance service as well as in international calling.

Initially, regulator concerns focused primarily on the companies' Internet backbones-high-speed networks that transmit and route data for Internet service providers and other customers. MCI is currently the world's largest backbone provider and WorldCom is No. 2 through ownership of the major backbones of UUNet Technologies, ANS Communications and CNS.

Critics charged that the merger would have formed a backbone operator that would have controlled 40% to 60% of the traffic that flows along the world's dozen or so Internet backbone networks, making it three to four times larger than its nearest competitor, Sprint.

However, the focus of the debate may shift now that MCI has offered to sell much of its Internet infrastructure, including its ISP contracts and 40 peering agreements, to Cable & Wireless if its merger with WorldCom is approved (Telephony, June 1, page 6).

Before MCI offered to sell its backbone business, a handful of critics, including GTE, Bell Atlantic and the Communication Workers of America, were fighting the merger proposal before the FCC, U.S. Department of Justice and European Commission. Last month, GTE filed a federal antitrust lawsuit in Washington, charging that "the merger will give MCI/WorldCom a stranglehold over the burgeoning Internet and the incentive and ability to stifle competition from all other rival Internet backbone operators, including GTE."

After the proposed sale to C&W was announced, GTE representatives said they did not believe the sale would go far enough to address Internet monopoly issues. And Sprint issued a statement saying it did not feel the proposed sale went far enough to constitute full divestiture of MCI's Internet business.

The DOJ and European Commission are looking at whether the merger would violate antitrust law.

The FCC is examining whether the deal is in "the public interest," a broader review that considers if the merger will enhance competition. The commission wouldn't specify its exact review criteria for the MCI/WorldCom deal, but observers point to Bell Atlantic's acquisition of Nynex last year as the model. In that case, the FCC weighed the transaction's potential harm vs. potential benefit to consumers. It approved the deal in the end, but not before attaching a list of conditions to ensure fair play among local service competitors.

"For some potential mergers, the harm to competition may be so significant that it cannot be offset sufficiently by procompetitive commitments or efficiencies," the FCC said at the time.

An FCC attorney said the commission will consider the impact of an MCI/WorldCom merger on the Internet backbone market because the issue was raised by so many companies. It's unclear what changes the FCC could force because it does not regulate the Internet.

But the DOJ could take actions that the FCC cannot, including going to court to stop the merger.

The DOJ's antitrust review of the MCI/WorldCom proposal centers on the Clayton Act, a 1914 federal law that prohibits a merger or acquisition whose effect "may be substantially to lessen competition or to tend to create a monopoly." The deal would be illegal if it created a monopoly-a company that can unilaterally exercise market control-or posed an increased risk of collusion in pricing or other market conditions, said Todd Miller, a Washington-based antitrust lawyer. The collusion threat in this case would be between MCI/WorldCom and Sprint.

"This is the easiest kind of case," a horizontal merger between two large, direct competitors in a heavily concentrated market, added another attorney for a merger opponent. "Usually, these sorts of mergers aren't allowed. Unless there's some unique circumstance, they [the DOJ] usually move to block it."

Scott E. Flick, a lawyer with Washington law firm Howrey & Simon representing GTE, said, "In a merger case, the ultimate issue is: If the merger goes through, will prices go up, will the quality of goods or services go down or will innovation be retarded? If the answer to any of those questions is yes, the merger is unlawful."

Traditionally, the DOJ judges a potential merger by defining a market, then estimating the partners' market share. The DOJ's 1992 guidelines identify five steps to analyzing a horizontal merger, including whether it will cause a significant increase in market share, cause adverse competitive effects, lead to anticompetitive conduct and generate efficiencies that the parties could not achieve through other means.

The specific measurements the DOJ uses depend on the nature of the market being analyzed and what information is available, Flick said. One common test is the Herfindahl-Hirschman Index, a measure of market concentration that above a certain level raises a red flag for investigators. More than one test can be used.

Exactly how the DOJ will judge the MCI/WorldCom case isn't known, but the companies and their detractors have offered plenty of suggestions. MCI and WorldCom have argued that revenue is the best measure and that even without the sale to C&W, they would have controlled just 20% of Internet revenues.

Other companies have said-and WorldCom and MCI have disputed-that the number of ISP connections and traffic capacity were better indicators of market power.

GTE-which tried to buy MCI last fall but ultimately lost out to WorldCom in a bidding war-operates its own Internet backbone network and ISP through its GTE Internetworking subsidiary.

As such, it both competes with MCI and WorldCom in the Internet backbone market and is their customer for interconnection.

MCI and WorldCom have argued that there is no separate backbone market, but critics disagree. "The European Commission doesn't agree and the Justice Department doesn't agree," said one attorney.

The EC is expected to render a decision by July 15. Because C&W is a European company, the EC may look more favorably on the proposed WorldCom/MCI merger than it did initially.

No action from the FCC or DOJ is expected until later this year. Most of the more than 20 state public utility commissions reviewing the deal have approved it, said an MCI spokesman.

SBC LOSS IN TEXAS The Texas Public Utilities Commission has recommended against SBC Communications' bid to sell long-distance service in its home state. In a unanimous ruling in May, the PUC found that the San Antonio-based telco has not met the conditions outlined for ensuring local competition. But the agency's chairman promised a "collaborative process" to help SBC succeed the next time.

SATELLITE PHONE RULES The FCC has proposed new rules to make it easier for Americans and residents of 40 other countries to use their mobile satellite phones in each other's countries. The rules would also protect users from confiscation or heavy taxes while traveling abroad and would allow satellite phone providers to operate their equipment overseas with only their home country's approval. Final rules could be adopted later this year.