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AT&T deals send regulators scrambling

The recent string of cable mergers and deals has federal regulators wondering what--if anything--they can do to make sure giants like AT&T don't return to their monopolistic past.

Take two of the world's largest companies, both with current or past antitrust problems, put them together in a multibillion-dollar technology alliance, and what do you have?

A potential problem, say some in government and regulatory circles--but not one that today's laws can do much about.

In the space of just a few See related story: The new world order months, AT&T, already the largest U.S. long distance company, has become the country's largest cable company. This also gives the firm increasing control over the two dominant Internet-over-cable companies, @Home Network and Road Runner.

On the heels of AT&T's cable purchases, Microsoft has invested $5 billion in the communications giant in return for a contract to provide software for the set-top boxes that will serve as the brains of AT&T's broadband cable access system.

AT&T's merger binge and Microsoft's input has many concerned that the companies are building a technological alliance that may prove to be the economic equivalent of a monopoly. Yet today's convergence of communications technologies appears to have outpaced regulators' traditional ways of addressing antitrust concerns.

"Regulators are scratching their head trying to figure out how to approach this," said Rachelle Chong, a former FCC commissioner who is now a partner at San Francisco's Coudert Brothers law firm. "I don't think [today's rules] fit. That's the biggest challenge for policymakers."

Microsoft's purchase of about 2.6 percent of AT&T is certain to raise eyebrows among regulators. The Justice Department and 19 states, already locked in a landmark antitrust lawsuit against the Redmond, Washington, software company, are likely to scrutinize AT&T's promise to use Microsoft software in up to 10 million set-top boxes.

The recent cable push by AT&T--whose long distance monopoly was dismantled in the 1980s--only heightens concerns that the company is working to rebuild its once-dominant position in the telecom world.

Over the past year, AT&T has made major inroads into related communications markets through deals with British Telecommunications and IBM.

Regulators "have looked very carefully [at those deals] and it stands to reason they're going to look at [the Microsoft-AT&T transaction] here," said Scott Flick, an antitrust attorney at Howrey & Simon. Investigators "are going to be looking at the implications of combining AT&T's position in cable access with Microsoft's resources in technical areas."

Ultimately, however, the recent deals are not likely to trigger antitrust laws, three legal experts said, as the companies involved have few overlapping businesses.

"A merger between two firms that only make complementary products is very hard to challenge under existing law," said Herb Hovenkamp, a professor of law at the University of Iowa. "The only mergers that get any serious examination are ones where companies are competitors or close to being competitors."

The point applies both to Microsoft's investment in AT&T--which legally counts as a merger--as well as to the long distance carrier's buyout of MediaOne, Hovenkamp added.

Although Microsoft and AT&T rivals are expected to formally oppose the recent deals, legal action blocking them would be tough for other reasons. For one, the commitment to use Microsoft's Windows CE is not exclusive. AT&T has repeatedly stressed it is free to use competing software, including Sun Microsystems' Java, and has plans in the works to do so.

Opposition to AT&T's deal with MediaOne will similarly be softened by arguments that it will open up competition for local telephone service, which remains dominated by the Baby Bells three years after Congress passed laws aimed to encourage local competition.

Steeper hurdles elsewhere?
"Ultimately, with some qualification, I think that all of these transactions will go ahead," said William Kovacic, a professor of law at George Washington University, who added that scrutiny from state and local regulatory agencies may end up being where the real action takes place.

"All of those review processes are inherently more political than the federal antitrust agencies, and the competitors know they can fight the same battle all over again in each arena," Kovacic said.

If the AT&T deals provide little for antitrust regulators to sink their teeth into, they may give regulators on other fronts more traction.

As part of the 1992 Cable Act, Congress instructed the Federal Communications Commission to set a cap on the size of any single cable company, largely in an attempt to limit the ability of operators to influence programming.

The FCC ruled that a cable network of any single company could serve no more than 30 percent of all U.S. homes. A federal judge in Washington quickly threw out the rules, deeming them unconstitutional. The decision has been on appeal since.

Nevertheless, the FCC has continued to defend its 30 percent stance, both in a proposed rulemaking last year and through the court's appeals process, which will reach oral arguments this fall.

With its acquisition of MediaOne, AT&T will come up squarely against that figure. AT&T chief executive C. Michael Armstong has said he would wind up with between 25 percent and 35 percent of the market, while others who include joint ventures and other minority investments say the number could possibly exceed 50 percent.

Either way, it's too much even by the FCC's own rules, critics say.

"Approval of the transaction in its present form is on its face a violation of the rules that the FCC has adopted and continues to defend," said Andrew Schwartzman, an attorney with the Media Access Project, a Washington consumer advocacy group. "I don't see how the FCC can say with a straight face that they were right all those years, but that this merger is OK."

Even if the AT&T-MediaOne merger itself isn't stopped, critics want AT&T to open its cable networks to competitors like America Online, which as yet don't have access to high-speed cable networks. Under current rules, cable Internet subscribers have to use an ISP affiliated with their cable company, such as AT&T's @Home Network.

The issue has come up twice before, when the FCC ruled on AT&T's merger with Tele-Communications Incorporated, and later when regulators reported to Congress on the progress of broadband technology rollouts. Both times the FCC declined to open up the cable networks, saying the market wasn't yet mature enough to rule on the issue.

But the time to wait has passed, opponents say.

"Two months ago, the FCC said these are important issues that bear monitoring," Schwartzman said. "You can count on us or someone else going back to the FCC and saying, 'Well, now's the time to act.'"

Nevertheless, some observers say critics concerned about AT&T's expansion are missing the point.

AT&T and analysts say the company's primary objective is to get into the $100 billion local phone market--not to create a cable TV powerhouse, or even create a broadband or set-top monopoly.

Competition is exactly what policymakers have sought since deregulating the telecom market, but the push has met with little success in residential markets. AT&T's ability to provide local competition should be welcomed, even if it creates concerns about the company's size, many analysts say.

"I don't think the question is how big a company is, it's whether consolidation leads to competition," said Jack Fields, a former GOP congressman who helped write the 1996 Telecommunications Act. Fields now represents several big local phone companies, but says that AT&T's growth is not far off what policymakers had expected. "If AT&T and the cable companies become competitors to the telephone companies, then that's the result that we all wanted to see."

Game rules changing
Legislators have expressed concern about AT&T's mergers, and several hearings are scheduled in June to consider whether any new legislation is needed to stop the trend.

"The 1996 Telecommunications Act has failed miserably and has left us with results that are the exact opposite of what was intended," said Sen. John McCain (R-Arizona) in a statement last Friday. "Rather than promoting competition, the Act has led to a flood of megamergers."

Another bill was introduced last week that would force AT&T and the cable companies to open their networks to outside ISPs and telephone firms.

But insiders say that policymakers have a long way to go before their rules catch up with the changes in the communications industry, and may be doomed to see their new attempts again be outpaced by the rate of technological change.

"I don't think there's any question that regulators are extremely confused when they are attempting to govern markets whose structure is changing by the minute," said Thomas Hazlett, resident scholar at the American Enterprise Institute. "They attempt to apply old rules to new situations, and it's more challenging than it's been in the past."