NEW YORK-Competition, as intended, is causing the telecommunications pie to enlarge. But it also is creating numerous consolidation plays among carriers as they strive for dominance and economies of scale within and across borders.
“You have to wonder where it’s all going to end up,” said Cheryl A. Tritt, a partner in the Washington law firm of Morrison & Foerster L.L.P. and former chief of the Federal Communications Commission Common Carrier Bureau.
“There is a trend to mammoth, multinational oligopolies and also hundreds of niche businesses. Five years ago, I would never have dreamed it could be this way.”
In the days of the movie, “The Graduate,” the code word for success was `plastics.’ “Now, the magic word is `bandwidth’ for faster, better, cheaper communications,” she said. “There is a need for everything, for vertical integration that is driven by the Internet, and voice is becoming a commodity.”
WorldCom Inc. steadily followed a vertical integration strategy even before it made its unsolicited bid for MCI Communications Corp. Oct. 1. Its takeover offer is possibly the boldest such play to date, but it certainly won’t be and isn’t the last example of the forces at work for consolidation. Just last week, GTE Corp. followed with its own offer to take over MCI.
“The globalization of the telecommunications industry is pushing companies to look beyond their borders and to go beyond joint ventures-like British Telecommunications and MCI did with Concert-to ownership and control,” Tritt said.
In the domestic personal communications services sector, outright takeovers, especially by foreign companies, haven’t yet made splashy headlines. However, the announcement Oct. 14 that Hutchison Telecommunications Ltd. is buying a minority stake in Western PCS Corp., a subsidiary of Western Wireless Corp., marks the start “of foreign capital coming into this market,” Robert Moore said (Story on Page 15).
“You’ll start to see a number of PCS companies doing partnerships with international telcos,” said Moore, managing director of media and communications for Donaldson, Lufkin & Jenrette Securities Corp., New York, adviser to the transactions.
Brian O’Reilly, managing director of the communications finance group for The Toronto-Dominion Bank, the single largest bank lender to wireless telecommunications companies, went even further in his assessment.
“Consolidation in the PCS industry will accelerate,” he said. “The Hutchison deal will be a predictor of things to come for PCS.”
“If you’re global, you have to be in the United States,” Moore said.
The vast quantities of capital required to build out sophisticated telecommunications networks are another factor at work in the consolidation trend.
“Telecommunications isn’t for the faint hearted. These networks cost millions of dollars, and the FCC’s enchantment with auctions has driven up the price,” Tritt said.
Hutchison’s investment in Western Wireless PCS and its parent company, for example, “allows Western Wireless to settle its finance program for the purposes of PCS buildout and walls that off from its cellular operations,” Moore said.
The demands of the capital markets are driving a lot of these pairings, Tritt said. “Wall Street gets really excited every time there’s a merger rumor, and that helps stock prices, especially for the takeover target,” Tritt said. “There also are companies that have no revenues but have access to spectrum, and they are coming out with [initial public offerings]. It’s amazing. I’ve never seen a stock market like this.”
There is a reality check that needs heeding in the consolidation rush, said S. Ross Brown, San Francisco-based managing partner of global telecommunications practice for Egon Zehnder International Inc., one of the world’s largest executive search firms.
“It’s about strategy, about taking things on, not about bigger is better. AT&T (Corp.) is evidence that bigger isn’t always better,” said Brown, who formerly was chief executive officer of Pacific Telesis International.
“You have to be light on your feet and have the right technology, with a value addition that is truly a hook.”
Bell Atlantic Corp.’s recent takeover of Nynex Corp. “might be a case of bigger is better, but they want to do a lot more than just be twice as big,” he said.
In a very significant way, some of the baby Bells have been slow to learn what established long-distance and upstart wireless and wireline carriers have been quick to demonstrate. “As rates go lower for any form of communications, the multiple in usage is much greater than the percentage discount on price,” Ross said.
It is this proven phenomenon that has whetted the appetite for companies looking to acquire other companies and for investors seeking to buy telecommunications securities. “They buy at one size with the vision that the pie will be six times larger.”
Given this law of the marketplace, Ross said he believes big carriers with price plans built around a well-developed network would do better to “change their business model from one of monopoly retailer to one of monopoly wholesaler, possibly with a retail arm that competes against other retailers.”
Unleashing market forces and allowing capitalism’s invisible hand to work means that “equilibrium may be exceeded in a negative way, but then it will bounce back,” Ross said.
New carriers are springing up all over the place as a result of these forces. “They’re having a ball even though they’re losing money. Some are getting into it simply to be bought. There’s something mercenary about it, but that’s the whole venture capital market approach.”
In its recent report on telecom services, UBS Securities L.L.C., New York, said it expects the merger-and-acquisition trend to continue as companies seek “offensive/defensive combinations by creating local and long-distance domestic combinations, landline and wireless combinations or domestic and global combinations to offer integrated services.”
“The recent Texas Utilities acquisition of Lufkin-Conroe, a privately held local exchange company in Texas, signifies utility expansion into [multiple] services as well,” UBS said.
A wide variety of new players, including utilities and local telecommunications companies, are jumping into the acquisition arena, said Sharon Armbrust, senior analyst of Paul Kagan Associates, Carmel, Calif., and David Rhodes, senior vice president of Denver-based Daniels & Associates. Daniels helped raise private capital for the Lufkin-Conroe acquisition.
“When we go out on the road for an M&A deal, we are casting our net a lot wider because the whole idea of convergence is happening everywhere,” Rhodes said. “Companies are saying, `I want to bundle this or that service,’ often in a knee-jerk reaction to something a major player is doing.”
However, UBS Securities summed up the conclusion of many involved in or following this consolidation trend in telecommunications when it cautioned that regulators and shareholders from here on out also are likely to pay “closer attention to the competitive and financial impact of these transactions.”