Lights! Camera! Dial Tone!

By John Greenwald

Not since the breakup of AT&T 10 years ago has America's $250 billion telecommunications industry been so discombobulated. First came the news last week that LDDS Communications, a Mississippi-based long-distance company, had agreed to pay $2.5 billion for the WilTel long-distance unit of the Williams Cos. Then came word that a federal judge had cleared the way for AT&T to complete its $12.6 billion acquisition of McCaw Cellular, the nation's largest cellular-phone company.

In its original intent, the AT&T bust-up opened up competition in long- distance service and gave each of the seven new Baby Bells control of the local market in its part of the country. But the ultimate significance of the breakup, as has become clear, is that it made inevitable the war of all- . against-all that today rages among telephone, cable and long-distance companies for the nation's computers, phones and television screens.

Until recently, many thought that cable operators had the advantage, at least in the competition to wire the country for two-way TV. But now, as Congress considers a sweeping deregulation bill that would give cable and phone companies broad latitude to invade each other's territory, it is obvious that the not-so Baby Bells have no intention of letting the cable companies win this war. No longer able to stay at home and reap monopoly revenues that average $12 billion apiece, the once somnolent siblings are turning on one another, bashing other rivals and forming partnerships to provide home screens with everything from movies-on-demand to video shopping malls.

And why not? The Bells have phone lines running to virtually every house and workplace in America, along with the high-speed switches to route complex signals among millions of users and keep track of the billing. Moreover, new technology has created the ability to translate all audio and video information into digital bits that can be sent over phone wires. Of course the Bells, like their cable-TV rivals, must upgrade their lines into combinations of fiber-optic and coaxial cable so they can transport in two directions the volume of films and other fare they hope to offer. And they must also play catch-up with cable when it comes to providing the entertainment.

That's why the Bells have been going Hollywood. Three weeks ago, the Walt Disney Co., whose chairman, Michael Eisner, had until recently seemed to disdain two-way TV, agreed to team up with Ameritech, BellSouth and Southwestern Bell to develop and distribute movies, games and other programs to home viewers. Not to be outdone, Hollywood dealmeister Michael Ovitz, who heads the powerful Creative Artists Agency, has reportedly been meeting with nynex, Bell Atlantic and Pacific Telesis to discuss the creation of a company of their own that would make and distribute films.

This drive for two-way TV also helps explain the Bells' growing appetite for acquiring cable operations. In July, US West agreed to pay $1.2 billion for two Atlanta cable systems over which it plans to provide interactive-TV service. Among other deals, Texas-based Southwestern Bell reached halfway across the country last year to acquire a pair of cable systems outside Washington. Not only is Southwestern Bell gearing up to provide two-way viewing over those systems, but next year it intends to offer telephone service over those same lines and thereby challenge local phone giant Bell Atlantic on its home ground. (Bell Atlantic is hardly snoozing; it is spending $11 billion for fiber-optic cables and other equipment to bring the information highway to 8 million homes by the year 2000.)

For consumers, these developing rivalries could mean lower phone and cable- TV bills. In the Washington area, Southwestern Bell plans to offer discounts of as much as 20% below Bell Atlantic's phone rates. In Britain, where US West and nynex joined with British partners and have provided telephone service over cable-TV wires since 1991, subscribers now save an average of 15% on their monthly phone bills.

Whatever benefits the telecommunications war yields consumers, it is financially no-contest between the telephone and cable combatants. Thanks to their local phone monopolies, each Baby Bell rakes in more revenues in a year than does the entire cable-TV industry. That, plus the phone companies' long experience with two-way communications, has led some experts to predict that cable firms will have to merge or form joint ventures with the Bells, or with a giant like AT&T, to survive in the interactive era. Cable leaders who have tried this include John Malone, chairman of Tele-Communications Inc., the No. 1 U.S. cable company, whose proposed merger with Bell Atlantic fizzled last February.

Malone still sounds like a man looking for a telephone partner. In an interview this summer in Wired magazine, he hinted that he would love to offer cellular or long-distance phone service to his cable-TV customers. "If I can do a deal with an MCI, or AT&T or Sprint," the magazine quoted Malone as saying, "then I have stronger brands to play with than the ((Bells)) do."

Other cable companies are already venturing into the telephone business. Among them: Time Warner, the media giant and No. 2 cable firm, which is building a two-way TV system in Orlando, Florida. The company, which last year sold a 26% stake in its cable and entertainment divisions to US West for $2.5 billion, plans to offer local phone service to Time Warner cable customers in Rochester, New York, in 1995. In preparation for that and future phone moves, Time Warner joined TCI and other major cable firms three weeks ago in unveiling plans to spend what could amount to more than $2 billion for hardware and software that would deliver phone service over cable lines. "They're getting into the telephone business for the same reason Willie Sutton robbed banks," said a cable-network executive. "That's where the money is."

All these companies are warily watching the telecommunications bill now in Congress, which would sweep away 60 years of regulations and create the legal framework for the industry in the 21st century. The measure, which passed the House in June and won Senate Commerce Committee approval three weeks ago, would permit the Bells to offer cable-TV and long-distance services to all their customers. But Bell lobbyists plan to attack any version that delays the Bells' entry into the long-distance market until after cable companies have first invaded the local phone business.

Such disputes could doom the bill and throw the most contentious issues back to regulators and the courts. But any talk of a defeated bill alarms Reed Hundt, the chairman of the Federal Communications Commission, who argues that the creaky regulations now in effect threaten to delay the arrival of two-way TV. Says he: "It would be a huge mistake to underestimate the current barriers to competition."

Regardless of the bill's fate, few experts are ready to bet entirely on the Bells in the struggle to construct a profitable information highway. For one thing, the phone companies have virtually no experience in creating programs for the newly wired homes. One of the Bells' biggest rivals in the information race scoffs at the deal between Disney and three Baby Bells as "showboating" and "premature." Concurs TCI senior vice president Bob Thomson: "There's still a lot of hype going on amongst the Bells. There's quite a bit of smoke flying around."

Even if the phone companies manage to procure enough high-quality programming, other handicaps could stall their drive toward two-way TV. Although they lead in the race to lay fiber-optic cable, much of it was originally installed to carry a high volume of phone traffic into cities and therefore does not connect to individual homes; instead, the fiber-optic trunk lines branch into twisted pairs of copper wires, which carry far less information directly to the customer. That means the companies must either replace this so-called last mile with fiber-optic cable or find a way to compress the data through the thin copper openings.

That is at least in part why phone companies like Pacific Bell, which has already laid 350,000 miles of fiber-optic cable, are eagerly waiting to purchase a new generation of fast video "servers" that squeeze movies and other programming down to the right size and deliver them to customers virtually on demand. Hewlett-Packard and other manufacturers are scrambling to roll out such servers by next year at prices of up to $20 million.

But in the turbulent world of telecommunications, what seems to be opportunities can often turn into pratfalls. In early August the fcc auctioned off licenses to provide two-way TV over cellular systems. A total of 178 companies submitted winning bids totaling $215 million. Yet nearly 30 of the winners soon defaulted, and the government expects to collect only about $130 million of the original amount.

Such problems make executives like Steve Harris, Pacific Bell's vice president for external affairs, sound uncharacteristically diffident in an industry full of grand predictions. His sum-up: "It's too early to call this race."

With reporting by David S. Jackson/San Francisco and Suneel Ratan/Washington