A marriage made in heaven

Since word of the not-so-secret talks between AT&T and BellSouth about possible merger plans hit the press, many have decried the marriage of Ma Bell and one of her offspring as the death knell for competition. Hardly.

In the likely event that one of the nation’s largest long-distance carriers (AT&T, WorldCom or Sprint) links up with one of the Baby Bells (Verizon, SBC, BellSouth or Qwest), competition will be invigorated rather than dampened. As many industry watchers have pointed out, the competition between the incumbent local exchange carriers has been rather modest since the inception of the Telecommunications Act of 1996. A major merger between one of the big long-distance companies and a Baby Bell could change that overnight.

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The most talked about match-up is between BellSouth and AT&T. If this union were to happen, BellSouth, which has been very conservative in its out-of-region operation, would be competing with its Bell brethren across the country. The new entity would go head to head with Verizon in New York, Boston and Philly; SBC in San Francisco, Dallas and Chicago; and Qwest in Denver, Phoenix and Seattle.

Additionally, the impetus to get long-distance approval in BellSouth’s nine-state region would emerge as a driving force behind the united companies business plans. Ensuring open competition and unfettered access to the network would be of vital importance to the company as it seeks to recapture its long-distance customer base in Florida, Georgia and the Carolinas. AT&T’s bread and butter is long-distance service and although the margins are shrinking, this business still generates a massive amount of revenue for Ma Bell.

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AT&T has made no secret of its intentions to radically alter the shape and form of its business in the coming months. C. Michael Armstrong is obviously cleaning up loose ends as he charts AT&T’s course in the 21st century. A voluntary payment of upwards of $400 million to divorce itself from British Telecom and the Concert venture is clear evidence of the sincerity of AT&T to make some bold moves to re-vector the business.

Selling the core telecom assets to one of the Bells may be part of this great plan. But despite the much-heralded idea for BellSouth and AT&T to tie the proverbial knot, the deal is far from sealed. BellSouth is wary of taking on the albatross of AT&T's vast cable networks, while AT&T is loathe spend any more shareholder money than absolutely necessary to jettison the cable properties. It is foreseeable that even if AT&T does merge with BellSouth or another Baby Bell, the union may be neither first nor the last of its kind in the industry.

Will companies like Sprint and WorldCom continue to buy and build when they can merge? If AT&T does jump into bed with one of the Baby Bells, the pressure to follow suit will certainly become hard to resist.

Nudged toward marriages of convenience, a number of the biggest IXCs may choose to partner up with their erstwhile rivals, the local incumbents, or they may instead choose to continue the capital intensive approach to building or acquiring facilities that has characterized their actions for the past several years. WorldCom’s recent purchase of Rhythms Netconnections’ assets demonstrates that if the desire was there, long-haul carriers could quickly and cheaply gain a local connect to millions of customer in the most competitive markets around the country.

The question is: Will companies like Sprint and WorldCom continue to buy and build when they can merge? If AT&T does jump into bed with one of the Baby Bells, the pressure to follow suit will certainly become hard to resist.

In today’s altered landscape littered with carcasses of failed competitors, any action that can guarantee competition without resorting to governmental micromanagement of the marketplace sounds like a good idea.

Regardless of which match-up we see in the near term, it clear that a big merger between a Bell and one of the long-distance carriers will pass regulatory muster with the FCC. Things have changed greatly since Reed Hundt, former chairman of the FCC, called the combination of AT&T and an RBOC “unthinkable.” Qwest proved that buying a Bell was possible, although Nacchio’s company wasn’t the largest player and U S West was the wallflower of the Baby Bells. Nonetheless, the precedent was set and larger deals loom on the horizon.

From a regulatory point of view, the Telecommunications Act of 1996 was intended “…to promote competition and reduce regulation in order to secure lower prices and higher quality services for American telecommunications consumers and encourage the rapid deployment of new telecommunications technologies.” In today’s altered landscape littered with carcasses of failed competitors, any action that can guarantee competition without resorting to governmental micromanagement of the marketplace sounds like a good idea.

Getting the Bells to compete out of market without “voluntary merger conditions,” imposition of fines and other forms of artificial incentives is good for consumers and makes the FCC’s job a little easier. Any real impediments to a merger would probably come from the Department of Justice. The DOJ will carefully consider the ramifications of the union and the mechanism for determining market dominance will be the litmus test for any RBOC-IXC merger.

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At the end of the day, the cost and benefits of the proposed merger will be the determining factor. If the price is right, these companies will get together—if it isn’t, then perhaps we’ll see some other solution to the financial woes of the long-distance companies. A better match-up may also be found. A BellSouth-Sprint combo certainly wouldn’t be out of the question. Sprint has cleaned up the business and is looking for suitors according to most insiders. I guess we’ll just have to wait and see.
Robert A. Saunders is a senior analyst with The Eastern Management Group, Bedminster, N.J., a management consulting firm focused exclusively on the communications industry. He can be reached at rsaunders@easternmanagement.com.

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