CenturyLink just confirmed their bid to buy Level 3 Communications for $34 billion in the latest round of what looks like major industry consolidation. After Verizon’s purchase of XO Communications it looks like large nationwide fiber networks are going to be gobbled by larger players.
But we can’t quite put this merger in the books yet. There have been rumors floating for the last year of others interested in the company. Just this summer there were strong rumors that Comcast wanted to buy Level 3. And now there is a lot of speculation that the big wireless companies are also interested in the company. So don’t be surprised by one or more counterbids.
Why is Level 3 wanted by so many large players? The easy answer is that they have a huge fiber network, but it’s more because they have a fiber network that goes to all of the right places. Big companies like Verizon and AT&T are already connected into all of the major fiber hubs around the country. But Level 3 is connected nearly everywhere else. Their network extends out to a huge number of tier two and three cities.
And more than that, Level 3 has a lot connections to the big fiber users in local markets – the ISPs, large businesses, governments, school systems and cellular sites. The company has been busy for many years building fiber to places asking for big broadband.
This makes Level 3 a huge player in the Internet backhaul business. They are the ones that carry a lot of the Internet backbone to the smaller competitors of the giant incumbents. Level 3 also serves the supply side of the Internet and is a prime supplier of bandwidth to companies like Netflix, as well as the many large data centers for the other big web companies. Level 3’s revenues have been booming with the explosion of video traffic on the web.
CenturyLink is already a significant player nationwide for large businesses and governments. Before Qwest bought the old US West company they had built a significant nationwide fiber network and had vigorously pursued nationwide customers. That business has been extended and grown under CenturyLink and this acquisition would push the company to the top of the heap in the fiber business. There are so many benefits of the acquisition that nobody is questioning the sense of the merger (unlike the AT&T and Time Warner merger that has analysts scratching their heads).
I have a lot of clients that are going to be concerned about this acquisition (and others who will be once they understand the implications). Level 3 is one of the primary providers of fiber backhaul to reach the Internet for a huge number of small communities, and in many cases they are the only alternative to buying overinflated backhaul directly from the incumbents.
There are a lot of small ISPs and other users of broadband that are going to be worried about losing affordable backhaul – particularly those that compete with CenturyLink. It’s unlikely that these places will be denied connectivity by the combined company, but rather that over time the fear is that if you compete directly with CenturyLink that prices for backhaul will be increased. It wouldn’t take long for smaller competitors to CenturyLink to be put at a competitive disadvantage.
There is another class of carriers that might not even know that the merger could harm them. It turns out Level 3 is the primary underlying carrier for most wholesale VoIP products sold to carriers. Level 3 has developed a product called local access that gives carriers connections into all of the right places to deliver VoIP traffic to the PSTN. When somebody today pays $6.50 to buy a wholesale VoIP line it’s likely that half of that money goes to Level 3. CenturyLink could gut the VoIP world and a lot of competitors by discontinuing or restricting that product.
So the concern with any merger like this is what it’s going to do to limit competition. Every big merger decreases competition significantly in some markets. This merger holds out the possibility of harming competition over the very large geographic footprint covered by CenturyLink. Big mergers like this almost always come with restrictions against bad behavior from the FCC or the Justice Department. But we’ve seen big telcos often ignore such restrictions within a few years after a big merger.
CenturyLink is not making this purchase to eliminate competition. There are numerous benefits directly to the company that are drivers of the transaction. But we know that over time companies act to limit competition when they have the ability to do so. We’ve seen this happen in huge ways with Comcast, Verizon and AT&T. We’ve not seen nearly as much anti-competitive behavior in the past from CenturyLink (and their predecessor Qwest) – but this merger puts them into the position to act like the other large companies if they so wish. And my cynical side says that the bigger a company gets, the more it benefits them to be anti-competitive.