In The Spotlight: MCI’s Grand Maneuver in the Race To Offer Telecom Service Bundles

MCI WorldCom Inc.’s proposed acquisition of Sprint Corp., a transaction that would have been unthinkable only five years ago, may be setting the standard for future deals of the size and scale that will be necessary for keeping up with technological advances and for creating mighty global players across a wide range of industries. The $129 billion hyper-deal would join the nation’s second- and third-largest long-distance carriers and put their combined market share within hailing distance of market leader AT&T Corp.’s dominant share. Upon announcement of the deal, a $129 billion stock transaction that includes the assumption of $14 billion in debt, concerns about a long-distance duopoly between MCI WorldCom and AT&T and increased long-distance rates quickly surfaced. But as industry analysts point out, there is plenty of competition on the horizon that will help keep rates where they are now. “Competition is far from over,” says F. Drake Johnstone, V.P. at Davenport & Co. LLC. “I think we will continue to see long-distance rates come down,” he added. Deals of this scale, he says, will be necessary in order to move toward the ultimate goal of the telecommunications industry: the creation of global, full-service carriers that can meet all of a customer’s needs for wireless and wireline services. An MCI/Sprint combination would be a big step in that direction. Peter Dresch, Director of Media Relations at J.D. Power & Associates, Agoura Hills, Calif.-based marketing information services firm, stresses the importance of bundling services. According to the firm’s 1999 Residential Long-Distance Customer Satisfaction Study SM, local phone companies that offer both local and long-distance services have experienced increases is customer satisfaction over the past two years. In fact, ALLTEL Communication Services Inc., SNET Mobility Inc., GTE Corp., and Frontier Corp. have made the biggest improvements in overall customer satisfaction compared with 1998. The dynamics of telecom m&a activity is grounded in a “race for convergence,” which is now coming to a boil, explains Dresch. Even though customers are skeptical about mergers and acquisitions in general, he states, they are aware that some telecom companies currently offer multiple services, and the demand for bundled telecom services is increasing. MCI WorldCom and Sprint, as part of their proposed merger, have committed to building a nationwide, two-way, MMDS wireless network which would serve about 57 million homes. Over that wireless network, the combined company would be able to offer everything from cable TV to wireless services. MCI WorldCom’s pursuit of Sprint is one of the latest deals designed to move away from selling a single service, such as long-distance, toward offering “service bundles,” including long-distance, local, wireless, Internet, and cable TV services, notes Daniel Zito, an analyst at Legg Mason Wood Walker Inc. Last summer, Qwest Communications International Inc., an upstart long-distance company, solidified its agreement to acquire US West Inc., a Baby Bell, and AT&T snatched up two of the nation’s cable companies – MediaOne Group Inc. and Tele-Communications Inc. – in the hope of selling their customers local phone service. Sprint is the most rapidly growing player in the increasingly important wireless communications market, and the deal would provide MCI WorldCom with much-needed wireless operations. Wireless services are important to MCI WorldCom not only because of the growing popularity of cellular phones but also because wireless technology increasingly will be used for Internet access and data services. In Scandinavia and parts of Europe some countries have 50% to 60% wireless penetration of their populations, compared with about 25% of the population in the U.S., Johnstone notes. In about three to four years, he adds, more than 50% of our population will be wireless. “So, you’ve got to have a nationwide wireless network. That’s why you have MCI WorldCom buying Sprint PCS, and that’s why Nextel is widely regarded as a takeover candidate, and that’s why VoiceStream acquired Omnipoint and Aerial last summer and probably will make a play for Powertel,” he says. Sprint would bring to the deal about four million cellular phone customers on a network that serves the biggest U.S. cities. Sprint PCS service provides its cell-phone customers with access to the Internet. Combining the Sprint PCS business with MCI WorldCom’s SkyTel paging operations would make the new MCI WorldCom a stronger provider of “all distance” services. MCI WorldCom acquired SkyTel Communications Inc. in October 1999. If the proposed deal gets the regulatory go-ahead, as many analysts think it will, it would produce a strong rival to compete with long-distance leader AT&T Corp. and the regional Bell operating companies (RBOCs), which are poised to enter the long-distance market in key regions of the country. Analysts note that while the resulting market shares might suggest that the deal would make the market too concentrated, the Federal Communications Commission (FCC) and the U.S. Justice Department would take into account new entrants into the market, including the RBOCs, Qwest Communications, Level 3 Communications Inc., and Global Crossing Ltd., which acquired Frontier last September. Yet, regulators have stated that the two merger partners would “bear a heavy burden to show how consumers would be better off ” if the deal gets the green light. Johnstone and Zito both believe that the deal will be approved. “It’s just a matter of timing,” says Johnstone. He notes that within the next five or six months Bell Atlantic is likely to enter the long-distance market in New York state and SBC Communications will be working toward entering the long-distance market in Texas. “For me, the prerequisite for the merger getting done will be the entry of the RBOCs into the long-distance market. Once they’re in, that should make it easier for regulators to approve the deal,” says Johnstone. Yet, if something happens to delay the entrance of the RBOCs into long-distance, he notes, it could take more than a year to approve the merger. Zito notes that most likely the combined company would have to sell Sprint’s Internet operations, which dominate the market. MCI WorldCom today carries more than 50% of worldwide Internet traffic. When WorldCom bought MCI, the combined company had to divest MCI’s Internet operations, and ended up selling the business to Cable & Wireless PLC. What makes it likely that Bell Atlantic will soon enter the long-distance market in New York, Johnstone says, is that the company will no longer have WorldCom and Sprint throwing up legal challenges to its entry. “They are actually supporting Bell Atlantic’s entry, since it now is in their own interest,” he says. “I am not enamoured of Bell Atlantic. I don’t think that the local telephone companies have been very customer service-oriented. They charge high rates, and I think they are in for a tough battle in the long-distance market. He believes that when long-distance carriers such as AT&T and MCI WorldCom enter the local phone service market, they will have great success in signing up customers. Quickly snatching market share in long-distance services If the RBOCs were not getting into long distance, Johnstone says, then regulators probably would not approve the merger. It is widely expected that the RBOCs would gain about 25% to 30% of the long-distance market share over a number of years, so they could prove to be potent competitors. “Once you have RBOC entry into the more-populous states, such as New York, Texas, and California, it doesn’t take too many states to account for a huge portion of the long-distance market,” he says. According to Zito, a big question that remains is how long it will take the RBOCs to meet the legal requirements of getting into long-distance. Specifi-cations in the Telecom Act bar them from entering the long-distance market until they have opened up their local markets to other phone companies. The FCC has turned down at least five applications for entering the long-distance market by the RBOCs so far. One of the overarching goals of the FCC, as well as the Telecom Act, explains Johnstone, is to promote local competition. In his opinion, a big reason why the FCC will probably approve the merger is MCI World-Com/Sprint’s commitment to build a nationwide MMDS wireless network, which is the infrastructure for providing broadband services to the home. “Then you would have three different providers of broadband services – AT&T and the cable companies, RBOCs, and MCI WorldCom/Sprint. That’s good for competition,” he says. Size MattersProposed and Completed Deals ValueDeal ($bil)MCI WorldCom/Sprint $129.0+SBC/Ameritech Corp. 63.0Vodafone/AirTouch 58.0Bell Atlantic/GTE 55.0AT&T/TCI 53.6AT&T/MediaOne 54.0WorldCom Inc./MCI 41.9+Qwest/US West 35.0Bell Atlantic/NYNEX 21.3SBC/Pacific Telesis 16.5+ = includes the assumption of debtSource: SDC Merger & Corporate Transactions Database<\TBL>