Baby Bells Strive to Thrive In New Era for Industry

PHONE FRENZY

AND then there were ... three? The mammoth merger announced April 1 by two of America's seven regional phone companies has peaked speculation that other Baby Bells will follow suit.

"At the end of the day ... there might be three" Baby Bells left after a wave of consolidation in the industry, predicts Arthur Solomon, a communications expert at Arthur D. Little, a Cambridge, Mass., consulting firm.

Pacific Telesis Group, which provides local telephone service in California, plans to be swallowed up by SBC Communications Inc. of San Antonio, whose region stretches from Missouri to Texas, in a $16.7 billion deal that would make SBC America's second-biggest phone company.

The moves are spurred largely by recent industry deregulation. The Baby Bells and long-distance carriers, are now free to enter one another's businesses, under guidelines being developed by the Federal Communications Commission (FCC) and state regulators.

Some observers worry that the merger trend may deliver consolidation absent the competition that the new law aims for. "It sets back the cause of competition," says Brad Stillman of the Consumer Federation of America, a lobbying group in Washington. "These are monopoly companies" in their home regions, he says, and now their financial and market power is getting bigger.

Yet the impetus to merge or form new alliances appears compelling.

The major phone companies all want to be global players in a fast-evolving information industry, providing everything from video and Internet access to wireless phone service. To get there they need money and market clout.

"We clearly see the idea that bigger seems to be better," says Stuart Brotman, president of a telecommunications consulting firm in Lexington, Mass. Firms are trying to both move into new markets and defend their strongholds against new entrants.

As San Francisco-based Pacific Telesis saw its stock price surge on the news, investors eyes turned from the Sun Belt to the Northeast, where Nynex has reportedly talked about linking with Bell Atlantic for months. But that potential deal has been held back by difficulties agreeing on a price for the Bell Atlantic buyout.

Indeed, it is not clear that more Baby Bell mergers will be forthcoming, though analysts do predict growing alliances. In the wake of the deregulation law, there is no single clear model for industry players to follow.

"You're going to see a variety of approaches," says Mr. Solomon of Arthur D. Little.

"I don't think the name of the game is put two of the Baby Bells together and come up with an offspring," Mr. Brotman adds.

There is little agreement on who the likely winners are in the new competitive environment. The daring strategies that are emerging represent a huge change in the nature of the phone companies as investments. Once seen as a haven offering secure dividends to conservative investors, these are now high-risk firms - a shift many small investors may not yet be aware of.

Already one of the Bell companies has gone the route of buying a giant cable television firm. US West's $10.8 billion buyout Continental Cablevision, announced earlier this year, will allow the Denver-based phone giant to gain a large communications presence extending far beyond its current region.

Meanwhile, the long-distance companies are trying to find their own strategies. Some analysts see AT&T, MCI, and Sprint having a tougher road to travel than the Baby Bells, given the high expense of connecting lines into individual homes. But others say the long-distance firms may prosper by providing local service through wireless phones or through alliances with cable-TV firms.

Baby Bells cannot enter the long-distance market until there is enough competition in their now-monopolized markets. State regulators will approve local-competition pacts forged between the Bells and their new competitors, following guidelines now being formulated by the FCC. Among the key issues: the price at which the Bells will resell use of their local-access lines to rivals.

Analyst Solomon discounts worries that mergers will hurt consumers. "We probably don't need another seven major long-distance companies [or] cable operators," he says.