SUPPLEMENTED STATEMENT OF MARK ROSENBLUM
VICE PRESIDENT-LAW AND PUBLIC POLICY, AT&T CORP.
TOPIC 8:
WHAT WE CAN LEARN FROM THE TELECOMMUNICATIONS INDUSTRY ABOUT POSSIBLE WAYS TO ASSESS PRO AND ANTICOMPETITIVE BEHAVIOR IN OTHER NETWORK INDUSTRIES?
Mr. Chairman, Commissioners, members of the staff, I appreciate this opportunity to appear before you to describe the AT&T restructuring announced September 20, 1995, and address whether this restructuring has any significance from an antitrust policy perspective.
The recently announced restructuring was not a response to any antitrust concerns and, indeed, has no necessary significance for, or impact on, antitrust policy generally. AT&T does not view its restructuring as the beginning of a trend toward divestitures generally, or in the telecommunications industry in particular. Instead, AT&T’s decision to restructure reflects our own conclusion that, for our particular enterprise, bigger and more integrated is not necessarily better.
The 1995 restructuring is the second major corporate restructuring of AT&T in little over a decade. By a wide margin, it is the earlier 1984 restructuring that has more relevance to antitrust policy. It also gives context to and, more importantly, provides a contrast with, the 1995 restructuring. I’d like therefore to begin with a brief review of the 1984 divestiture.
I. AT&T’S 1984 RESTRUCTURING
The restructuring completed on January 1, 1984, resulted from the Modification of Final Judgment (or "Decree") which granted the United States the structural antitrust remedy of divestiture that the Justice Department had sought in over three decades of antitrust litigation with the formerly integrated Bell System. This divestiture split the Bell System between its monopoly local exchange businesses (assigned to the seven Regional Bell Operating Companies which I will refer to as either the RBOCs or BOCs) and its competitive long distance and manufacturing businesses (assigned to AT&T).
A. The Antitrust Basis for the 1984 Restructuring
As you recall, prior to 1984 the Bell System was a single enterprise that participated in monopoly and related competitive businesses alike. Through the BOCs, the Bell System owned the local telephone exchanges, natural monopolies that could not feasibly be duplicated. Through AT&T and Western Electric, the Bell System also participated in three actually or potentially competitive businesses that depended on access to the local exchange monopolies: (1) long distance or "interexchange" services, which require access to local telephone facilities to originate and terminate calls; (2) the manufacture of telecommunications equipment (including equipment located on customer premises), most of which was purchased by the BOCs and all of which requires access to information about the evolving technical characteristics of the network's local exchanges; and (3) the provision of a very few "information services" (i.e., time, weather, and sports information), which similarly require use of local telephone facilities for transmission of the information.
In the 35 years that led up to the Decree, the United States brought two separate antitrust actions to break up the Bell System: the first in 1949 (United States v. Western Electric, No. 17-49 (D.N.J.)) and the second in 1974 (United States v. AT&T, No. 74-1698 (D.D.C.)). The basis for each was the Justice Department's contention that the vertically-integrated structure of the Bell System was inherently anticompetitive.
The Department proceeded under the theory that a firm with a lawful monopoly violates Section 2 of the Sherman Act if it "leverages" that monopoly to impede or foreclose competition in a related market -- even if the firm neither monopolizes nor attempts to monopolize that second market -- and that a monopolist acquires special duties if it controls an "essential facility" or a "strategic bottleneck" to which competitors require nondiscriminatory access. Judge Greene and other courts found that this dual control over the local telephone exchange monopolies and related competitive business gave the Bell Companies both the "ability" and the "incentive" to foreclose competition in the long distance and equipment manufacturing markets through discrimination and cross-subsidization. See, e.g., United States v. AT&T, 552 F. Supp. 131, 187 (D.D.C. 1982), aff'd sub nom. Maryland v. United States, 460 U.S. 1001 (1983); Litton Systems, Inc. v. AT&T, 700 F.2d 785, 798-802 (2d Cir. 1983), cert. denied, 404 U.S. 1073 (1984).
As to interexchange services, the Department contended that the local exchanges were "essential facilities" for all participants in the interexchange market. Because the BOCs' local loops and other local distribution facilities that connect the long distance carrier's intercity network to consumers are a "natural monopoly" that no interexchange carrier can feasibly duplicate, all interexchange carriers are absolutely dependent on obtaining access to these local bottlenecks in a timely fashion and at reasonable and nondiscriminatory prices.
In its complaint in United States v. AT&T the government alleged that Bell System companies had abused these local bottlenecks to impede interexchange competition. The Bell System was charged with denying intercity competitors access to essential facilities; discriminatory pricing of essential facilities; negotiating in bad faith over new forms of interconnection to those facilities; misallocating joint and common costs between monopoly and competitive services to "cross-subsidize" interexchange services; engaging in "price squeezes" by charging inflated rates for local access while simultaneously lowering interexchange rates; delaying release of the interface information that long distance carriers need to develop new services; and continually "shifting from one anticompetitive activity to another." See United States v. AT&T, 552 F. Supp. at 167; August 16, 1981, DOJ Memorandum, pp. 67-285; United States v. AT&T, No. 74-1698, Plaintiff's First Statement of Contentions and Proof, pp. 74-258 (November 1, 1978). In the Department's view, all this actual or possible conduct foreclosed competition, inhibited entry, and injured consumers and competition alike.
The Department further claimed that the Bell System's control over the local telephone exchanges inherently foreclosed competition in equipment manufacturing markets. In the Department's view, the Bell System could misuse its local monopolies to foreclose competition in these markets in three different ways.
First, in numerous episodes in United States v. AT&T, the Department charged that the BOCs and their centralized engineering affiliate, Bell Laboratories, had "discriminated" against the Bell System's manufacturing competitors in providing access to essential technical and engineering information about the local exchange networks. Second, the Department claimed that the BOCs had "subsidize[d] the prices of their equipment with the revenues from their monopoly services." See United States v. AT&T, 552 F. Supp. at 190. This allegedly permitted the BOCs to provide customer premises equipment to their customers below cost or without regard to cost, and it permitted Western Electric sales to the BOCs themselves at below-cost prices when necessary to assure that Western Electric products would be selected. Third, the Department claimed that when Western Electric's "privileged access to information [and other conduct] failed to foreclose competition," the BOCs would simply favor their affiliate's products, even when better or less expensive alternatives were available from unaffiliated vendors.
The Department further contended that the mere existence of the vertically integrated Bell System created "suspicions" that would inhibit competition, whether or not the Bell System in fact engaged in any anticompetitive abuses. The Department claimed that, whether due to the efficiencies of integration or the perceived likelihood of abuses, firms would be inhibited from entering the American market and selling products to the BOCs so long as they were affiliated with a manufacturer. See United States v. AT&T, 524 F. Supp. at 1379-80 [(quoting August 16, 1981, DOJ Memorandum, p. 51).]
These allegations were not limited to the two government antitrust suits. More than 70 private antitrust cases were brought against Bell companies under these same leveraging theories by interexchange carriers,(1) equipment manufacturers,(2) and other competitors.
A principal Bell System defense to these antitrust charges was that, almost without exception, the challenged conduct was not only subject to regulation, but had actually been reviewed or approved by the FCC or the state utility commissions that regulated the Bell System companies. This defense was repeatedly rejected by the courts.(3) In its 1974 case, the Department of Justice introduced extensive evidence to prove that regulation cannot remedy the antitrust problem created by the combination of exchange monopolies and related competitive businesses -- and that a structural remedy thus was essential. The Department's evidence showed that the local telecommunications network is so complex, so technologically dynamic, and characterized by such great joint and common costs that existing forms of public utility regulation simply could not prevent disputes or abuses. Thus, the Department claimed that regulation could not prevent discrimination in the provision and pricing of bottleneck facilities to interexchange carriers, discrimination in the provision of interface information and specifications for new products to equipment manufacturers, discrimination in the procurement of equipment, or misallocation of the BOCs' joint and common costs between competitive and monopoly activities. See, e.g., August 16, 1981, DOJ Memorandum, pp. 46-47, 125 n.*, 161-62, 281-82, 285, 374.
On January 8, 1982, AT&T consented to entry of the Department's proposed decree requiring AT&T's divestiture of the local exchange monopolies of the BOCs, imposing on them strict non-discriminatory equal access obligations -- fair access for all interexchange carriers and equal technical information for all manufacturers.(4) As explained by the DOJ in its Competitive Impact Statement, these non-discrimination provisions were designed to ensure that the divested BOCs did not, through subtle as well as overt action, take advantage of their monopoly position in local service “to disadvantage competitors of AT&T in the provision of intercity service, information services, or the provision of telecommunications equipment for purchase by a BOC or its customers.(5) The Consent Decree also imposed four concomitant line of business injunctions that prevented the divested BOCs from reentering adjacent competitive businesses, including interexchange services and equipment manufacturing.(6)
On the basis of the record Judge Greene, in the Tunney Act proceedings, found that AT&T's divestiture of the BOCs was "plainly in the public interest." United States v. AT&T, 552 F. Supp. at 223. Judge Greene similarly approved the line of business injunctions. The Court found that the interexchange services injunction was necessary because access to the BOCs' local exchanges is "essential" for interexchange carriers and any BOC that also provided interexchange services could disadvantage competing interexchange carriers in a variety of ways so long as the local exchanges remained monopolies. Id. at 188. The Court concluded that the equipment manufacturing injunction was likewise necessary because "[t]here is a substantial likelihood" that the BOCs would "frustrate" competition by nonaffiliated manufacturers if the BOCs were not enjoined. Id. at 190. Although the Court recognized that the information services market was evolving and uncertain, it also found that BOCs should also be excluded from that market "for reasons similar to those justifying the restriction on interexchange service." Id. at 189.
This Decree has been one of the most successful remedies in antitrust history. In the decade since divestiture, long distance has become intensely competitive and substantially deregulated. During this period, prices for long distance service, adjusted for inflation, fell 66%.(7) Nine companies now provide nationwide (or virtual nationwide) service,(8) competing in 45 or more states,(9) and fourteen interexchange carriers reported revenues in 1993 of at least $100 million.(10) The prolific construction of fiber optic networks by these interexchange carriers (there are now four nationwide fiber networks and at least eight regional networks) has created excess capacity that makes it virtually impossible for any one interexchange carrier to behave anticompetitively. And in perhaps the most telling testament to the reality of competition, customers exercised the ability to switch long distance carriers 27 million times in 1994 alone.
Indeed, reflecting these market realities, on October 12, 1995 AT&T was declared “non-dominant” in the domestic long distance market by the Federal Communications Commission.(11) The standard governing a carrier’s classification as dominant is its possession of “market power,”(12) which AT&T unquestionably had in 1980 when it was first deemed to be dominant.(13) The FCC’s recent finding that AT&T now “neither possesses nor can unilaterally exercise market power within the interstate domestic, interexchange market,”(14) was based primarily on market data relating to supply and demand elasticity,(15) as well as significant erosion in AT&T’s market share.
The Decree has had the same beneficial effect on competition in telecommunications equipment markets. Since divestiture, new firms have entered the American market to supply residential telephones, key systems, private branch exchanges, central office switches, and transmission equipment. Prices for each of these types of equipment have dropped dramatically, and innovation has burgeoned.
From the perspective of antitrust policy, AT&T’s 1984 restructuring -- and particularly the 1982 antitrust decree -- have obvious significance to telecommunications markets. The overriding message of the decades of antitrust litigation leading up to that decree is that, where an essential facility monopoly exists in one market, competition in adjacent dependent markets can only develop if potential entrants can be assured of fair and nondiscriminatory access to the essential facility. In the 1982 decree, of course, this was achieved through the divestiture of the local exchange business (seen as a natural monopoly) from the potentially-competitive adjacent long distance and equipment markets, the imposition of mandatory equal access and nondiscrimination duties on the local exchange companies, and the prospective prohibitions against the monopoly companies reintegrating with dependent competitive businesses. Only where the essential facility loses its bottleneck or monopoly characteristic will the need for such safeguards abate.
In our view, the 1982 decree has equal significance to “other network industries” from an antitrust perspective. As in telecommunications markets, firms possessing monopoly control of essential facilities have the ability to foreclose or distort competition in adjacent markets that depend on the facility -- unless participants in those adjacent markets have access to the essential facility on fair and reasonable terms. The challenge and opportunity for antitrust enforcement policy, therefore, is to identify what services or facilities are “essential” to competition in network industries, and determine whether those facilities are available to all competitors. Where such essential facilities are subject to the “bottleneck” control of a monopoly provider or providers, it would be appropriate to consider whether market forces alone are sufficient to assure access. Where the owner of the essential facility also seeks to compete in adjacent markets, it may well be necessary to adopt antitrust remedies along the lines of those crafted in the 1982 decree, at least to the extent of mandating a regime of equal access and nondiscrimination.
II. AT&T’S 1995 RESTRUCTURING
AT&T’s 1995 restructuring, in contrast, was motivated not by antitrust considerations (much less by antitrust litigation), but by the increasingly formidable management challenge of operating an integrated product and service enterprise in which the lines between the products and services, and between strategic customers and competitors, rapidly were becoming obscured. On the network equipment manufacturing side, for example, AT&T’s Network Systems Group has relied heavily on sales to the BOCs (which together account for a very large portion of its sales and revenues). The BOCs, however, have made plain their intention to enter the long distance business, and their concerns that AT&T is preparing to enter the local exchange business. The perception that each company is a likely strategic competitor of the other in the services market has significantly affected the “traditional” supplier-customer relationship on the equipment side. Similar factors arising from AT&T’s role as a supplier to the BOCs affect AT&T’s services business. AT&T’s judgment in choosing to restructure at this time reflects the view that, among other things, its equipment and services businesses each will enjoy a greater degree of flexibility and opportunity for success if it were relieved of these conflicts.
It was for this business reason that AT&T, on September 20, 1995, announced its plan to separate into three publicly-held, stand-alone global businesses:
- (1) AT&T’s Communications Services Group, which is the long distance service business that remained with AT&T after the 1984 divestiture, and three other AT&T services business units acquired or created after the 1984 divestiture will comprise the “new” AT&T services company with $49 billion in annual revenue. AT&T will create a new AT&T Laboratories unit, its core comprised of those Bell Labs employees doing research and development relevant to this services business.
- (2) A new Systems and Technology Company will be comprised of the Network Systems Group, Microelectronics, Global Business Communications Systems, Consumer Products and the other businesses in the Multimedia Products Group, with annual revenues in excess of $20 billion. Bell Laboratories, except those resources transferred to AT&T Laboratories as most relevant to the new services company, will be the research arm for this new business.
- (3) Global Information Systems will be the third standalone company, competing in the computer market.
- (4) AT&T also plans to sell its remaining majority interest in AT&T Capital Corp., AT&T’s financing business, to the general public or to another company.
AT&T hopes to complete all of these transactions before January 1, 1997. Apart from a possible initial public offering of about 15% of the equipment company shares in 1996, AT&T’s three stand-alone companies will be owned by the current AT&T shareholders.
As explained above, the decision to restructure reflects the need to more sharply focus our equipment and services businesses, on new opportunities resulting from changes in the marketplace and changes in public policy. It also reflects the desire to allow our businesses to compete more effectively by insulating them from the inevitable conflicts that have arisen from the increasingly-blurred lines between customer and competitor in the telecommunications industry. In addition to the domestic issues with the BOCs, similar conflicts are arising with foreign PTTs around the world as they both represent significant opportunities for AT&T to compete on the services side, and opportunities for equipment sales on the other.
The recently announced restructuring, unlike the 1984 divestiture, thus has no necessary significance for antitrust policy. For one thing, the current restructuring -- unlike its 1984 predecessor -- is motivated solely by business and operational considerations, and not by any view of potential legal exposure. Most obviously, the purpose of today’s restructuring is to position each of AT&T’s businesses better to maximize their efficiency and success in markets that already are fully competitive, and as to which AT&T possesses no “essential facility.” Although AT&T anticipates that the separate companies resulting from the restructuring will be better off than if they remained in a single, integrated corporation, there thus would be no antitrust repercussions if there were no restructuring. In contrast, of course, the 1984 divestiture was motivated exclusively by antitrust concerns (indeed, it was the remedy sought in antitrust litigation), and it had the sole purpose of fostering competition in long distance and equipment markets by disintegrating the Bell System into its competitive and bottleneck components.
The restructuring has antitrust implications only to the extent that it results in the complete separation of AT&T’s cellular services business and the telecommunications network equipment business to be conducted by the new Systems and Technology firm. This separation should affect the position previously taken by the Department of Justice in its challenge to AT&T’s 1994 acquisition of McCaw Cellular Communications, Inc.
The Department of Justice Complaint challenging that merger alleged, inter alia, that the merger could permit AT&T to use its position as a telecommunications equipment manufacturer to harm competition in those cellular service markets where McCaw’s cellular competitors use AT&T cellular network equipment. The Justice Department claimed that these competing cellular service providers could be “locked-in” to AT&T for the purchase of certain types of cellular equipment during some period, giving AT&T an incentive to raise the costs, or degrade equipment quality for those competitors during that period. While AT&T believes that the Justice Department’s claim was unfounded both as a matter of fact (there was no possibility of a lock-in given the highly competitive nature of the equipment market and the ability of the alleged locked-in purchasers to retaliate on a broader range of products) and law (courts have rejected indistinguishable “lock-in” claims when they were raised in prior cases),(16) AT&T and the DOJ entered into a Consent Decree that eliminated any possibility of the alleged conduct not only by expressly prohibiting it, but also by imposing artificial structural restraints both between McCaw and the AT&T equipment subsidiary and within the AT&T equipment subsidiary.
The restructuring, with the cellular services business separated from the equipment business and assigned to the new AT&T, moots even the theoretical basis for the Department’s alleged source of anticompetitive market power.
I will be happy to respond to any questions you may have.
ENDNOTES:
(1) See, e.g., Southern Pacific Communication Co. v. AT&T, 556 F. Supp. 825 (D.D.C. 1982), aff'd 740 F.2d 980 (D.C. Cir. 1984), cert. denied, 470 U.S. 1005 (1985); MCI Communications Corp. v. AT&T, 708 F.2d 1081 (7th Cir.), cert. denied, 464 U.S. 891 (1983); Data Transmission Corp. v. AT&T, No. 76-1544 (D.D.C.); MCI Communications Corp. v. AT&T, No. 79-1182 (D.D.C.); Southern Pacific Communications Corp. v. AT&T, No. 83-0094 & MDL 550 (N.D. Cal.); United States Transmission Systems v. AT&T, No. 82 Civ. 1986 (S.D.N.Y.).
(2) See, e.g., International Telephone & Telegraph Corp. v. AT&T, No. 77 Civ. 2854 (S.D.N.Y.); Conrac Corp. v. AT&T, No. 82 Civ. 2330 (S.D.N.Y.); Telesciences v. AT&T, No. 80-2445 (D.D.C.); General Dynamics Corp. v. AT&T, No. 82-C-7941 (N.D. Ill.); Glictronix Corp. v. AT&T, No. 82-4447 (D.N.J.); Gregg Communication Systems v. AT&T, No. 82-C-6291 (N.D. Ill.); Jack Faucett Assoc., Inc. v. AT&T, No. 81-1804 (D.D.C.) (and four consolidated cases); KWF Industries, Inc. v. AT&T, No. 83-0431 (D.D.C.); Phonetele, Inc. v. AT&T, No. 74-3566-FW (C.D. Cal.); Rice International Corp. v. AT&T, No. 82-2573 (S.D. Fla.); Selectron, Inc. v. Pacific Northwest Bell Telephone Co., No. 76-965-BE (D. Ore.); Sound, Inc. v. AT&T, No. 76-182-2 (S.D. Iowa) (and one consolidated case); DASA Corp. v. AT&T, No. 83-2695 (E.D. Pa.); Amtel Communications, Inc. v. AT&T, No. 82-8754 (S.D.N.Y.); Telephonic Equipment Corp. v. AT&T, No. 82-C-8478 (S.D.N.Y.).
(3) The Court held that neither the Communications Act nor the FCC's regulation had impliedly repealed the antitrust laws or otherwise deprived the Court of antitrust jurisdiction over the case. United States v. AT&T, 427 F. Supp. 57, 61 (D.D.C. 1976), cert. denied, No. 77-1009 (D.C. Cir.), cert. denied, 429 U.S. 1071, 434 U.S. 966 (1977). In 1978, after the case was reassigned to Judge Greene, the District Court reconsidered the immunity issue and reaffirmed that "regulation by the Federal Communications Commission and state regulatory bodies does not immunize defendants in this antitrust action." United States v. AT&T, 461 F. Supp. 1314, 1320-30 (D.D.C. 1978). AT&T made identical immunity claims in numerous private antitrust cases brought against the Bell System companies. These claims were rejected by each federal court of appeals that considered them, with the Supreme Court refusing to review these decisions. See, e.g., Southern Pacific Communications Co. v. AT&T, 740 F.2d 980, 999-1000 (D.C. Cir. 1984), cert. denied, 470 U.S. 1005 (1985); MCI Communications Corp. v. AT&T, 708 F.2d 1081, 1101-05 (7th Cir. 1983), cert. denied, 104 S. Ct. 234 (1983); Phonetele, Inc. v. AT&T, 664 F.2d 716, 726-37 (9th Cir. 1981), cert. denied, 459 U.S. 1145 (1983); Northeastern Telephone Co. v. AT&T, 651 F.2d 76, 82-84 (2d Cir. 1981), cert. denied, 455 U.S. 943 (1982); Mid-Texas Communications Systems v. AT&T, 615 F.2d 1372, 1377-82 (5th Cir.), cert. denied, 449 U.S. 912 (1980); Sound, Inc. v. AT&T, 631 F.2d 1324, 1327-31 (8th Cir. 1980); Essential Communications Systems v. AT&T, 610 F.2d 1114, 1116-25 (3d Cir. 1979).
(4) The Consent Decree forbade discrimination with respect to (1) the BOCs procurement of products and services; (2) the establishment and dissemination of technical information and the establishment of standards used in procurement and in interconnection; (3) the interconnection and use of the BOCs telecommunications services and facilities, including the charges therefor; and (4) the provision of new services used to provide exchange access and information access and in efforts to construct or modify facilities used to provide such service. Paragraph II(B).
(5) Competitive Impact Statement at 26.
(6) The four initial line of business restrictions were: (1) interexchange services, (2) equipment manufacturing, (3) information services, and (4) nontelecommunications businesses. In 1987, following the first so called “triennial review” of the Decree’s line of business injunctions, the District Court decided to eliminate the ban on the BOCs provision of nontelecommunications services and modified (and subsequently eliminated) the information services injunction. At the same time, the court refused to modify the core interexchange and manufacturing injunctions.
(7) Hall, Robert E., "Long Distance: Public Benefits from Increased Competition," Applied Economics Partners, October, 1993.
(8) AT&T's largest facilities-based competitors, for example, MCI and Sprint, are two of this nation's most visible enterprises, with billions of dollars in assets and annual revenues. Further, MCI has entered into a "strategic alliance" with British Telecommunications plc ("BT") -- Great Britain's leading long distance and monopoly local carrier with over $20 billion in annual revenue -- that included, among other things, a $4.3 billion infusion of capital to MCI, for which BT received a 20% interest in MCI. Sprint agreed to a similar strategic alliance with the French and German telephone monopolies.
(9) FCC Indus. Analysis Div., Trends in Telephone Service, tbl. 24 (Feb. 1995). Excluding Alaska (for which data were unavailable), in every state a minimum of 6 carriers provide service. On average, 41 carriers serve each state. See id., tbl. 23.
(10) FCC Indus. Analysis Div., Trends in Telephone Service, tbl. 30.
(11) Order, Motion of AT&T Corp. to be Reclassified as a Non-Dominant Carrier, CC Docket No. 95-427, adopted October 12, 1995.
(13) Policy and Rules Concerning Rates for Competitive Common Carrier Services and Facilities Authorizations Therefor, CC Docket No. 79-252, First Report and Order, 85 FCC 2d 1 (1980).
(15) As to supply elasticity the FCC found that “AT&T’s competitors have enough readily available excess capacity to constrain AT&T’s pricing behavior.” Id at 33, ¶58. Using 1993 data the FCC noted that “no one disputes that MCI and Sprint alone can absorb overnight as much as fifteen percent of AT&T’s total 1993 switched demand at no incremental capacity cost; within 90 days MCI, Sprint and LDDS/WilTel, using their existing equipment, could absorb almost one-third of AT&T’s total switched capacity; or that within twelve months, AT&T’s largest competitors could absorb almost two thirds of AT&T’s total switched traffic for a combined investment of $660 million” which the FCC described as a “relatively moderate investment in the short term.” Id at ¶59. As to demand elasticity, the FCC found that residential and business customers were “highly demand elastic.” Id at 35-36, ¶¶63-65, citing, e.g. the “high churn rate among residential customers -- approximately 30 million changes are expected in 1995.”