CenturyLink/Level 3 Likely Would Be OK'd, Analysts Say; 'Close Scrutiny' Expected
A CenturyLink/Level 3 merger should be able to win government approval if a deal is reached, said MoffettNathanson analysts in a research note, as other analysts and industry players weighed in on the possible deal. "From a regulatory perspective our sense is that this transaction would not face undue hurdles," they wrote, reacting to the report by The Wall Street Journal Thursday that the companies were in advanced talks to combine (see 1610270049). A regulatory advocate for business customers of telecom services said the possible merger would "receive close scrutiny." Complicating the picture, Level 3 could be pursued by cable companies and others, various analysts said.
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"Level 3 remains a small-ish player in the enterprise market, and CenturyLink is the smallest of the big three incumbents," said the MoffettNathanson analysts, assessing a potential government review of a merger of the two carriers. "It’s possible that the deal may be viewed unfavorably in certain metro areas where CenturyLink is the incumbent provider and Level 3 is a strong competitor. However, we suspect the companies would argue that they would be a stronger competitor to AT&T and Verizon as one entity, making the deal pro-competitive, and competition from Cable and other players like Zayo is increasing. There are nuances to those arguments that would weaken them, but it’s a story that can be sold. It’s possible the company would have to divest metro fiber assets in certain markets."
A CenturyLink/Level 3 combo would be a "two-edged sword" for enterprise customers, said Levine Blaszak attorney Colleen Boothby, counsel to the Ad Hoc Telecommunications Users Committee of business customers. "On the one hand, Level 3 has been growing into a viable competitive alternative to AT&T, Verizon, and CenturyLink for long-haul network services (or what we used to call long distance). Enterprise customers report a generally good experience with Level 3’s services, in terms of [quality of service], price, contract terms, and negotiating savvy. That competitor will be lost," she emailed. "On the other hand, the scale economies of a CenturyLink/Level 3 combination may result in a stronger competitor to AT&T and Verizon than either company was standing alone. A lot will depend on which corporate culture dominates post-merger -- Level 3 generally scores higher with enterprise customers than CenturyLink right now."
NetCompetition Chairman Scott Cleland said FCC regulation increased incentives for carriers to consolidate. "When regulators unnecessarily regulate competitive companies as if they were monopoly common carriers and burden them with substantially asymmetric regulations relative to their edge competitors, it should be no surprise that companies would seek acquisitions to grow their businesses, because acquisitions are one of the only avenues the FCC has left open to grow their businesses and create shareholder value," emailed Cleland, whose group is backed by broadband ISPs. "As a famous financier once said, 'capital goes where it is wanted,' and the FCC’s Title II regulations send the signal that investment in new infrastructure is Not Wanted.”
The MoffettNathanson analysts said cost issues drove the "industrial logic" of the possible merger. "A combined company should be able to cut corporate overhead, off-net access costs (domestic and overseas), and some sales costs," they wrote. "We don’t think there would be a lot of route optimization on the long-haul side -- Level 3 picked up an IRU [indefeasible right of use] on the Qwest network from Global Crossing and has retained it for diversity purposes and to avoid losing customers that specifically want those routes."
Cable companies are seen as among those that still could pursue Level 3. "Earlier in the year we argued that a take-out of Level 3 seemed unlikely ... [and] didn’t even consider CenturyLink as a viable bidder," wrote the MoffettNathanson analysts. "Our emphasis was on a Comcast deal, which we felt would face significant regulatory hurdles. ... Charter has its hands tied. AT&T and Verizon are non-starters. There have been some out-of-the-blue bids from overseas for domestic telecom assets in recent years -- SoftBank/Sprint, Altice/Cablevision, Illiad/T-Mobile -- but Level 3 would face significant national security scrutiny from any non-U.S. bidder (Singapore owning 18% of Level 3 notwithstanding). It’s possible -- possible -- that Zayo would contemplate launching a bid if Level 3 were in play. In theory we suspect that Zayo’s management team would love to get its hands on these assets and apply the Zayo operating model to them."
New Street Research analysts said Comcast and Charter could pursue Level 3 for its enterprise capabilities. They also said wireless companies will need more fiber assets in a 5G world, so all four major mobile carriers -- AT&T, Verizon, Sprint and T-Mobile -- "should have interest." Some tower companies also could be interested, they wrote in a note.
Raymond James analyst Frank Louthan also touted a possible cable play. "We have long touted the idea that Level 3 is a good strategic fit with the larger cable companies who are developing enterprise business," he said in a note. "Both Comcast and Charter have a lower cost of capital vs. CenturyLink, and even if there are not as many synergies between Level 3 and either of the cable companies, we believe they can afford to pay more than CenturyLink given a better mix of cash vs. stock, lower rates, and a more valuable equity."