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Published: Jul 18, 2007 in Knowledge@Emory

In 1984, the U.S. government broke up AT&T. American courts had ruled that the company was anti-competitive, and had acted in illegal ways to restrain competition and to keep telecommunications prices high. Now that AT&T and BellSouth have announced their merger, the U.S. telephone landscape will be dominated between two giant providers, AT&T and Verizon, and the country will be one step closer to reassembling Ma Bell.

Why has this happened? What strategic moves should smaller players in the telecommunications industry make, now that the Baby Bells are hardly babies any longer? What does this mean to Atlanta, which will lose the jobs and prestige that go along with being the headquarters of a major company like BellSouth? And with the old Bell System coming back together bit by bit, are consumers destined to return to the bad old days of high-priced telecom? Experts at Emory University and its Goizueta Business School weigh in.

When AT&T and BellSouth announced on March 6, that they intended to merge in a deal worth an estimated $67 billion to BellSouth’s stockholders, telecom experts at Goizueta Business School weren’t surprised.

Jagdish Sheth, a professor of marketing and corporate strategist with deep experience in consulting for the telecommunications industry, had been making public predictions about the inevitability of such a merger for more than a year. “It was inevitable, and if BellSouth had refused to sell, there would have been a hostile takeover,” he says.

Another professor with extensive experience with the telecommunications sector, Benn Konsynski, a professor of decision and information analysis, has predicted that this or something like it would happen for years. In fact it was apparent to him as he began doing some work on the original divestiture of the Baby Bells from AT&T in the early 1980s. “In some sense, I’ve been awaiting over the last couple decades for the reunification of the Bell System and that’s in essence what’s been happening here,” says Konsynski.

“However – It’s not your father’s Bell System,” says Konsynski. “The competitive environment is quite different from that of the late 70s and early 80s.” There is a whole new basis of competition and, unlike the original case, no Judge Harold Green to temper the pace of change in the market.

The rise of the regional Bells stemmed in part from a miscalculation on the part of AT&T, according to professors. At the time of the break up, the long distance business was the most profitable part of telecommunications, while local and regional service was seen as low-margin, and unattractive. Ironically, the powers that be at AT&T spun off those parts while keeping the core long distance business – the same business that 15 years later would prove the least valuable part of the franchise: enough that one of the acquisitive babies, SBC of San Antonio, eventually acquired AT&T [last year] and took its name.

“BellSouth quitting the game was inevitable,” says Sheth. “BellSouth had several chances in the last ten years to make major acquisitions and mergers, but they decided, based upon financial reasons, not to make strategic investments. In the process, they became relatively small in size compared to the other two Baby Bells.”

More importantly, the Cingular wireless service, which BellSouth and AT&T own jointly in a 40/60 split, had become “a bone of contention” between the two companies, “and without wireless you cannot sustain anymore in this business,” observes Sheth.

At the same time, Sheth says, “over the years, BellSouth exited every other geography in the world. They sold their property in Australia, they sold their property in Europe, and they’re last major piece was Latin America, so they sold all that to focus on the [the Southeastern U.S.]. They basically became, more and more what you would call a local company, in an industry that is becoming more and more global.”

BellSouth’s regional focus paid off for shareholders in the short run, but its inward focus may have come at a high price. “They’re good people and it’s a good company. They’re well respected and they’re profitable … but they have not been on the cutting edge of innovation,” says Jeff Kagan, an independent Atlanta-area telecommunications analyst – and innovation is essential right now, according to Kagan, as telephone companies prepare to go toe-to-toe with cable.

Sheth believes the merger is a good deal for BellSouth, as well as for AT&T. “It is also a good deal for the new AT&T, because to try to capture that much revenue through competition in the nine-state geography would have been much more expensive,” he says.

The dealmakers have touted cost-saving synergies between the companies, as people always do at merger announcements, but Sheth says there really are some tremendous sources of savings between the two companies. “Not necessarily in people reduction, as people generally think, but more in terms of the two networks putting together,” he says.

So shareholders win, but are there any losers in this round of capitalism’s eternal game of musical chairs?

Sheth sees Qwest as coming under pressure now, as the third of the remaining Baby Bells. The author of a book called the Rule of Three, Sheth believes that telecommunications will, like most industries, eventually consolidate around three major players.

For Qwest, Sheth sees two options ahead — either merge with Sprint or Nextel, to give it a necessary wireless arm it now lacks — or, he says, it could merge with Verizon, in which case the most likely candidate for the third large player in the industry would become Alltel.

“I think you’ll see some further consolidation, as we all have expected,” Konsynski says. “Any standalone entity in the communications arena is either an acquirer or subject to acquisition. Anything of moderate size better be aggressive on acquisition or be acquired and that’s where BellSouth has been, frankly for the last decade.”

Further down the road, Sheth sees the telephone providers merging with the cable providers, as more and more data is routed over the Internet. There might be a play similar to what happened when print content providers such as Time Inc. bought Warner and other kinds of media companies. But this consolidation would work out better than the media consolidation has. “There are definitely more synergies between cable and telecom, especially from a consumer/customer viewpoint,” he says.

Kagan, the telecommunications analyst, however, foresees a world in which the competition will be between cable and telephone giants, each offering the consumer the same bundle of services, from Internet to TV to long distance. “At some point over the next year, two years, three years, depending on where you are in the country, you’re going to have the choice to give all the business to one company or the other,” he says.

Consumers in general may be better off, but Atlantans have reason not to cheer for this merger. “I think Atlanta’s going to suffer,” Konsynski says. “Certainly the assertion is that Cingular will stay here. How much of the scale activities at BellSouth will remain in Atlanta I don’t know. I suspect there will be some downsizing in the Atlanta area as they seek synergies across the company. That’s the bad news for [Atlanta],” he says.

“The buyout will cost Atlanta jobs,” says Finance Professor Jeffrey Rosensweig, “and I’m concerned about that. We’ve already seen Scientific-Atlanta and Georgia-Pacific go from having Atlanta headquarters to having Atlanta divisions. Add in the manufacturing layoffs recently announced at the GM plant in Doraville, GA and the Ford plant in Hapeville, GA and the picture looks fairly grim.”

Rosensweig says he is particularly concerned about the outlook for workers in their 50s who will be displaced. “Finding employment at a comparable rate won’t be easy,” he says. “Further complicating the matter is the fact that in the U.S., healthcare is often tied to employment–and this emphasizes the need to address that system.”

However, Rosensweig believes that there can be a silver lining for some employees. “Employees with a wealth of experience sometimes take the opportunity to put their skills to work doing something that they’ve always wanted to pursue,” he adds.

And what does all this consolidation mean for consumers? Although more pieces of the old Bell system are fitting back together, professors seem confident that it won’t be bad news for consumers. “I think technology’s made a big difference here. It’s not as easy to get a stranglehold,” says Thomas C. Arthur, a professor of law who specializes in antitrust, civil procedure, and administrative law at Emory’s School of Law.

Professors say that there are so many different voice communication options now, including wireless, cable, and VoIP (voice over Internet Protocol), that the providers won’t be able to regain the kind of pricing power the old system once had. “The reunification or almost-reunification of the Bell System is not a hazard or threat to competition in part because of the wireless venues and the cable-driven venues and other venues that will grow and create a whole different competitive marketplace,” assures Konsynski.

Another important change in the landscape is the Telecommunications Act of 1996, which required telephone companies to provide competitors with access to their lines, according to Arthur. “Before the statute and before the lawsuit, the FCC [Federal Communications Commission], which regulated AT&T, had the authority to make them interconnect, but it wasn’t anywhere nearly as definite or as strong,” he says. Now, the language is much stronger, he notes, and that makes it much harder for a local provider to leverage its control over long distance lines the way Ma Bell once did.

“If this is anti-competitive, you would expect to see some combination of higher prices and crummier service,” Arthur says. “Take traditional cable, that’s the example I use for my antitrust students. You want to see what a real monopoly is, look at cable…high price, crummy service, you don’t like it, tough. That’s a classic monopoly,” explains Arthur.

While executives at the merging companies have said that service for consumers will improve under the new regime, historically, being part of an oligopoly or having a monopoly has meant never having to say you’re sorry.

But that theory doesn’t always play out as expected, according to Arthur, who notes that some markets react different. For example, the makers of Coca-Cola and Pepsi were able to compete seriously for decades in spite of the fact that they controlled 80% to 90% of the market. “Despite that though, they used to beat each other over the head,” he says.

While Arthur says that he expects the U.S. Justice Department will take a close look at the deal to make sure it isn’t anti-competitive, he suspects that it won’t have problems going through. The U.S. government has gotten less vehement in its antitrust prosecutions in recent decades, observes Arthur, as popular suspicion of Big Business has waned. “The old-fashioned, populist, we-know-they’re-up-to-something cultural attitude hasn’t been as strong in Washington,” regardless of which party is in power.

“It’s really been a bipartisan thing,” Arthur says. “At the margin, Democratic administrations—I’m talking particularly about the Clinton Administration— have tended to be somewhat more skeptical, but not a lot. The old battles, there used to be some real battles in antitrust, [are over] and at least for now there’s been more of a consensus in the last say 20 years.”

One reason for that lower degree of concern about antitrust issues, Arthur notes, is that economists have learned more about how oligopolies work. While lawyers and people who are interested in politics tend to describe changes in the number of prosecutions for antitrust violations as political fights, Arthur says, the shift may also reflect advances in economic theory.

“Economists really are scientists,” he says. “Not all of them are, but most of them are.” And like any scientist, as evidence accumulates, old theories change and new theories arise. “What happens sometimes is not that one theory will completely kill the old, it’s that you tend to get something that’s more in the middle.”

In the case of antitrust issues, Arthur says, the merger guidelines that took effect in 1992 reflected that more sophisticated understanding of what led to the kind of anti-competitive situation that the antitrust laws were designed to protect consumers against. “They’re still concerned about concentration and big markets, but they’re also saying, well, there are some other factors,” he adds.

But George Benston, a professor of accounting, finance, and economics at Emory and Goizueta, is skeptical that the change in the antitrust climate has had to do with growing wisdom. “I would love to think that economists actually convinced somebody of something, but I suspect not, unfortunately,” he says.

“There always were economists who thought that a lot of the antitrust movement was ill-placed and that it was not very useful. That’s been true for quite awhile. The question is, who listened to them?” Benston asks. The real difference is that there are different people in power now, he says: “We’ve got an Administration that’s more likely to listen to them than not, as against the fact that the thinking has changed.”

Assuming that the merger is approved by shareholders and the government, what does “the mother and child reunion” that the media are talking about say about the original decision to break up AT&T? Did the policy actually facilitate competition, as government prosecutors hoped?

Konsynski says that he thinks the break up did speed up innovation, and the regional Bells did compete well for some time. Although the irrational exuberance of the late Nineties, eventually led to too much capacity being created in the sector. The result, he notes, has left the country with a lot of capacity now and a very competitive telecommunications sector.

The merger also sheds a different light on AT&T’s decision to break itself up into seven smaller units, according to Konsynski. At the time, Konsynski notes that IBM fought its antitrust suit and resisted breaking itself up into different pieces. “They were considered the winner because they didn’t break up,” Konsynski says. “AT&T was often considered a loser because it did break up, but in fact when you look at the history of how things have played out, who was the net winner and net loser?”

Although the Bell companies still dominate telecommunications, IBM has long ago been joined by a score if not a dozen other major competitors as the computer industry has grown into something much vaster than almost anyone imagined in 1984.

“There are many of us that believe that AT&T did the smart thing and that IBM may have been even better served in breaking itself at that time into competitive arms,” Konsynski says.

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