Telecom deals likely to hurt small players.

The wave of consolidation sweeping the telecommunications industry is certain to result in new kinds of bundled services that could simplify the bills of business customers in California--maybe even at a discount.

But longer term, the pending merger of SBC Communications Inc. and AT&T Corp., along with the marriage of Verizon Communications and MCI Inc., will likely result in higher prices, analysts say.

The deals should usher in a dramatic shift in pricing power away from the hordes of smaller telecommunications carriers, and toward the major players that sell them the raw network capacity.

These smaller players have had a negotiating advantage in recent years, as an overbuilt telecommunications infrastructure kept wholesale capacity prices lower. But with the mergers of the main providers of this capacity--which also sell services directly to customers--competition will be reduced.

"In about a year, you'll see things really start to change because the business customer is going to have fewer options," said Joseph Noel, an analyst with Pacific Growth Equities in San Francisco.

All four companies have a strong presence in the local market, and Noel said he doesn't think California businesses will see much effect from either merger for the next 12 months or so. After that, development of new technologies will be key to keeping prices competitive--voice-over-Internet-protocol, for example, that allows for phone service over data lines, and the entry of cable companies into the telephone market.

"Technology changes are going to keep all of these companies honest," he said.

Survival game

Smaller players, like Los Angeles-based TelePacific Communications, are already making plans to get bigger before they're swallowed up or put out of business.

TelePacific, formed in 1998, has assembled a 4 percent to 5 percent market share in the California business arena, according to vice president Cardi Prinzi.

The company leases fiber lines from companies such as MCI and buys private lines from other carriers, but owns its own switches. From those switching centers, TelePacific uses local loops from SBC that go into buildings. The resulting service is then sold to tenants, many of them small businesses.

In December, TelePacific agreed to acquire the small-business unit of PacWest Telecomm Inc. for $27 million in cash. The deal, expected to close in March, provides TelePacific with 70,000 customers in California and Nevada. Stockton-based PacWest will use the proceeds to pare down debt and focus on providing wholesale capacity to Internet service providers.

"In order to compete in this market, you need size," said John Sumpter, vice president of regulatory affairs at PacWest.

Similarly, XO Communications, the Virginia-based company that bought California carrier Allegiance, built and owns most of its network, although it does lease larger companies' lines that go into a customer's building, said Chief Executive Carl Grivner.

XO has about 4 percent of the California business market, and Grivner said his company is actively looking for acquisitions.

For business customers, making a choice in telecom service used to be easier. Waves of deregulation and new technologies that sprung up in the 1980s and 1990s splintered the market in Los Angeles and other parts of the country.

When AT&T's nationwide monopoly was broken up in 1984, seven regional Bell companies emerged to cover the local phone markets--Pacific Bell in Southern California. AT&T was allowed to remain a provider of long distance and business services.

There were some independent phone companies providing service in local areas. One of the biggest was GTE Corp., which covered the Westside and the San Gabriel Valley. In the long distance market, AT&T slogged it out with newer competitors such as MCI and Sprint.

The Telecommunications Act of 1996 allowed local telephone companies to compete with each other for customers, whereas before companies had agreed upon geographic boundaries. Hundreds of phone companies sprang up.

"The Telecom Act of 1996 has been a creation of total chaos," said A. Michael Noll, professor of communications and telecom historian at the Annenberg School for Communication at the University of Southern California.

The 1996 act also allowed some of the Baby Bells to reassemble. PacBell was purchased by SBC in 1997, and GTE merged with Bell Atlantic in 2000 to form Verizon.

The market changed again 2002, when the California Public Utilities Commission and the Federal Communications Commissions decided to allow SBC and other major local phone providers into the long distance market.

For smaller businesses, the changes have largely been positive. "Small businesses are getting fantastic deals on telecom," Noel said. SBC has been "very aggressive" in pricing, he added, which has led other companies to follow suit.

Actually the market hasn't changed that much, even with the upstarts. The incumbent carriers, such as SBC and Verizon, continue to dominate the business market in California, retaining 84.7 percent of access fines used by business customers, according to a 2003 study by the California Public Utilities Commission.

Of the remaining 15.3 percent of the local business market, PacWest, Allegiance (now owned by XO) and AT&T had the largest pieces.

In order, AT&T, WorldCom (now MCI) and Sprint dominated the business long distance market in California, while SBC, WorldCom and AT&T had the largest pieces of the local toll market consisting of regional toll calls.

"The increased competition from the telecom act was an unrealized dream," said Bryan Van Dussen, an analyst with the Yankee Group. "So much money climbed into the marketplace, divided into so many different companies, it was hard to differentiate yourself," he said.

Nationwide, AT&T and Verizon each have a 15 percent share of the business market, according to Van Dussen, while SBC has 14 percent and MCI 12 percent. He said the blocks formed by the proposed mergers could blanket half the business market nationwide, resulting in less price competition.

Sorting out bills

All of which left business buyers like Rod Hurt confused.

Hurt, who runs the 178-room Holiday Inn Orange County Airport, intended to carve out time to scrutinize his company's phone bill, but it always got pushed to the back burner. There was a local phone bill from SBC, long distance from MCI and still another bill from his Internet service provider.

In addition to phone lines in every room with local and long distance service, the Holiday Inn requires several business lines to the office and two dozen toll-free numbers for reservations. Plus, there's free high-speed Internet access in every room.

Local phone companies offer better combinations than they used to of local, long distance, Internet, data and video services. But technology innovations such as wireless and voice-over-Internet-protocol have brought new services and new companies into the mix.

"I'd say 70 to 80 percent of small- to medium-size businesses get their phone using an a la carte approach," said Bob Nadal, manager with Schooley Mitchell Telecom Consultants. "There's a lot of confusion about how to really optimize the services that are out there."

Last year, Hurt switched to TelePacific, which provided all the services he needed on one bill. He said telecom costs have been reduced by 50 percent, to about $1,500 per month from $3,000.

Before the latest round of mergers, the problem has been finding the provider to simplify services. Providers like TelePacific may still find room to operate in the market, exploiting customers' dissatisfaction with the larger players. But it won't get any easier.

"There are very few (companies) that actually have their own networks and provide service," said Melanie Posey, telecom research director for research firm Interactive Data Corp. "You can lease copper lines from SBC, you can resell long distance from AT&T or Qwest. The SBC AT&T merger doesn't necessarily put those smaller companies out of business."