The Deal of the Century

by Coll, Steve;

  But after five years of struggle, Bill McGowan was not about to fold up shop and go home. He had one play left, and if it worked, his company might turn the corner, escape bankruptcy, and even position itself for the kind of financial success McGowan had envisioned when he joined MCI in 1968.

  The move depended on the foundation McGowan had laid at the FCC for the second prong of his three-front political attack on AT&T. And it depended, too, on the emotions John deButts had stirred in Bernie Strassburg in Seattle.

  Strassburg was not a personal friend of McGowan’s; in fact, away from the office, Strassburg was much closer to AT&T’s general counsel, Mark Garlinghouse, whom he had come to know during the long Common Carrier Bureau investigations of AT&T during the 1960s. But Strassburg did feel a strong sympathy for MCI. After all, the company was in a way his child, his experiment. In the four years since MCI’s application had been approved by the FCC, Strassburg had tried to nurture the telephone competition he had unleashed. MCI sometimes sent Strassburg blind copies of its contentious correspondence with 195 Broadway, and Ken Cox, the former FCC commissioner who now worked side by side with McGowan, stayed in touch with his former colleague, telling Strassburg in detail about MCI’s difficult interconnection negotiations with AT&T. The intransigence displayed by Bell in those negotiations angered Strassburg, and he feared that MCI might fail, not because the market for a new long-distance company was soft but because AT&T was using its size and power to preempt competition. Until October, until John deButts’ attack on Strassburg’s policies, the Common Carrier chief had never directly intervened in the dispute.

  From MCI’s vantage, if there was ever a time it needed such intervention it was now. The company was bleeding cash, and to reverse the flow it needed to find a new source of revenues, a new market. There was only one realistic possibility: FX lines. An FX line was basically a private line between two cities, with one open end. An airline company, for example, would establish its national reservations center in Chicago. It would then lease a private line connecting the center to another major city, say, New York. A passenger in New York, wishing to make a reservation, would find a local phone number for the airline in his phone book. He would dial the call, without an area code, from his home or office. The call would travel from his telephone, through AT&T’s local New York exchanges. But rather than being answered by an airline reservations clerk in New York, the call would then be switched onto an intercity private line, on which it would travel all the way to Chicago. The passenger would only be charged for a local call, but unbeknown to him, his call would actually be answered in Chicago. The long-distance price for the distance between New York and Chicago would automatically be charged to the airline company on a monthly basis.

  The difference between a private line and an FX line, then, was that rather than connecting two private offices in two cities, an FX line connected one office in one city with all of the phones in a second city. Thus it depended much more on AT&T’s local, switched telephone network. And that was precisely why John deButts had refused to provide MCI with FX lines. DeButts and other AT&T executives believed strongly that Bell’s national switched network could not withstand creamskimming competition in regular, long distance services, what AT&T called MTS (message toll service). Private line competition was one thing, but competition in the switched network, deButts believed, would disrupt the structure of the phone system, leading inevitably to worsening service and higher prices. Moreover, the FCC agreed with deButts: the commission had stated clearly on numerous occasions that it never intended to allow MCI to enter the basic residential and business long-distance market. Even McGowan acknowledged publicly that MCI was not authorized to provide, and did not intend to seek to provide, regular long-distance service. The question, then, was whether FX lines were a kind of private line, which MCI was authorized to sell, or whether they were a form of MTS service, similar to basic long distance, which was outside the boundaries of MCI’s franchise.

  Considering all that was at stake for both MCI and AT&T, it was curious that the question had never been resolved before October 1973. AT&T claimed that MCI was not authorized to sell FX lines; MCI claimed it was. Angry letters had been exchanged between the companies over the matter, and McGowan had discussed the problem with deButts at his March meeting with the AT&T chairman in New York. But neither side had asked the FCC to clear up the question, and it was the commission, after all, that had defined MCI’s franchise in the first place. AT&T may well have feared what Bernie Strassburg, the father of telephone industry competition, would decide if he had the chance. MCI, on the other hand, probably worried that even if Strassburg ruled favorably on its position of FX service, the full FCC, under pressure from AT&T, might reverse its bureau chief and settle the question detrimentally once and for all. Faced with the possibility that MCI might lose, McGowan had good reason not to force the issue; as long as AT&T continued to refuse to provide MCI with FX lines, McGowan had grounds to file an antitrust suit for damages, a strategy that might prove even more profitable than a favorable decision from the FCC.

  MCI’s financial crisis and deButts’ Seattle speech changed the picture, however. The time for swift action had arrived. MCI needed FX lines, and it needed them quickly.

  The eye of the breaking storm was an important—though inscrutable—1971 FCC decision known as Specialized Common Carriers. Written by Bernie Strassburg, the landmark document had attempted to define precisely what services MCI was authorized to sell and what services it could not provide. The decision, which had the force of law, would later be described as a “mess,” and worse, by lawyers and judges involved in the FX controversy. It was more than 100 pages long, and it had been written in the worst style of bureaucratic obfuscation: it was confusing, and in some places contradictory. The decision made no specific mention of FX lines; it referred only to MCI’s “authorized services” and “private lines.” But since it was so muddled and vague, the decision was open to interpretation.

  Between October 1 and October 4, only two weeks after deButts’ provocative Seattle speech, a series of meetings was held in Washington, D.C., between Bernie Strassburg, MCI’s executives, other Common Carrier Bureau staff lawyers, and some executives from a new private line venture owned by the giant Southern Pacific Corporation, which was cautiously following McGowan as he blazed into the private line market. At those meetings, a strategy was developed to authorize MCI to sell FX lines without ever bringing the matter formally before the FCC.

  On October 1, McGowan drafted a letter to Bernie Strassburg that said, in part, “MCI needs the FCC’s clarification and opinion regarding orders we have received from customers for specific types of interstate services. It is our understanding that we are authorized by the commission to offer, [that] we are licensed to provide … FX services. We would appreciate your confirming that we are entitled and obligated to supply these services. We have orders for these types of arrangements and are anxious to provide such services in accordance with our rights and obligations under … the relevant law.”

  Two days later, Ken Cox, the MCI lawyer and former FCC commissioner, met with Strassburg in his FCC office to discuss the letter and what should be done about it. In a meeting later that afternoon at a downtown hotel, McGowan told Cox and some Southern Pacific executives, “We decided not to force the issue in our Chicago-St. Louis line. We told AT&T we would seek redress when we expanded. While they were saying in negotiations we could have equality … it became clear they were preparing for war. We are concerned about the commissioners, but the staff is strong.”

  That same afternoon, October 3, Bernie Strassburg walked unannounced into a full FCC meeting and asked the commissioners to sign the letter of “clarification” McGowan had sent him, thus giving the letter the force of law. The commissioners were busy, and they put off Strassburg’s request until the next day. On October 4, they signed the letter. It was a routine matter, but they had no idea what they had just done.

 
On October 15, McGowan wrote again to Strassburg and said, in effect, “We understand that our letter, signed by the commission on October 4, authorizes us to sell FX lines.” Strassburg wrote back on October 19 and said, yes, that is correct. No copies of any of this correspondence were sent to AT&T, as was customary. John deButts had no inkling of what Bill McGowan had accomplished until MCI, armed with its FCC orders, demanded that AT&T immediately connect MCI’s customers with FX lines.

  On November 1, Bernie Strassburg, after more than four decades of government service, retired from his job as chief of the FCC’s Common Carrier Bureau. He had sent a parting shot at John deButts from which the AT&T chairman would never fully recover.

  AT&T, of course, was furious, and it ended up in court with McGowan. A federal judge in Philadelphia ruled that the FCC orders entitled MCI to sell FX lines. AT&T appealed, but it had no choice but to begin connecting MCI’s corporate customers. The FCC, finally alerted to what had transpired under its nose, launched an investigation into precisely what services MCI was authorized to sell. Meanwhile, an appeals court ruled that the first judge was wrong, that the FX controversy was a “legitimate dispute” and that it was up to the FCC to settle the matter. As soon as that appeals court decision was handed down, it was ordered that all of MCI’s FX lines be disconnected immediately. AT&T engineers worked an entire weekend unplugging the circuits, inconveniencing MCI’s customers and infuriating McGowan. John deButts would later say that the decision to disconnect MCI’s customers was one of the few he ever regretted. The FCC soon ruled that MCI was, in fact, entitled to sell FX lines, and AT&T was forced to reconnect all of MCI’s customers. The damage, however, was already done.

  Despite deButts’ bluster in Seattle, McGowan had skated on the brink of bankruptcy and emerged with exactly what he had gone after. On March 6, 1974, MCI filed a sweeping antitrust suit against AT&T seeking hundreds of millions of dollars in damages. The third and most devastating phase of McGowan’s attack on AT&T was under way.

  Chapter 5

  Legacy of a Scandal

  When Philip Verveer was in college during the 1960s, he traveled to Alabama to participate in the landmark civil rights demonstrations at Selma and Montgomery. It was there, in the heat of a historic struggle, that Verveer first decided he might like to work for the United States Justice department. The department’s Civil Rights division lawyers who worked in the Deep South were romantic heroes in Verveer’s eyes: they were young, very brave, and deeply committed to protecting blacks and enforcing the law against reactionary whites, despite threats and violence. The Justice attorneys were energetic, disciplined, driven by their moral beliefs—lawyers who could make a difference in the world. Verveer, a white, seriously religious Catholic from a comfortable, suburban Chicago family, wanted to be one of them.

  He still felt that way four years later when he graduated from the University of Chicago law school, but by then Verveer was married and had children. When a Justice department recruiter arrived on campus, Verveer told him that he wanted to work for the Civil Rights division. “You don’t want to do that,” the recruiter told him. “It’s too hard with a family. It would be really tough to work for Civil Rights and meet your family obligations.” Verveer accepted the admonition; his family always came first. The recruiter suggested that Verveer consider a job with Justice’s Antitrust division: it was safer, more stable, yet it was still a place where a politically committed young lawyer could accomplish good works in government service. Verveer agreed, and he accepted the offer.

  “Socially Important Work in the Company of Good People” was Verveer’s professional motto, and he even had the phrase inscribed on a plaque behind his desk. But he found that not all the attorneys at the Antitrust division in Washington shared his view of the division’s mission. The lawyers at Antitrust came in all shapes and sizes, but they were roughly divided along generational lines. On one side were the older, “career” lawyers who had worked in the division for decades, rising slowly through its bureaucracy to supervisory positions. Over the years, these attorneys had tried hundreds of government antitrust cases, large and small. They had won many of them, lost a few, and settled the rest. They had seen political administrations and political movements come and go, and they had survived the tenures of politically appointed Antitrust chiefs of every ideological stripe. And through it all, they had acquired that salty, slightly world-weary, eminently pragmatic outlook peculiar to men of integrity who have spent their lives working in a bureaucracy. On the other side were the young, passionate lawyers like Verveer, most of them politically liberal and graduates of the turbulent 1960s campuses, who had come to Antitrust to combine a respectable profession with furtherance of the movement that had swept them up in school. As lawyers, Verveer and his contemporaries had been trained in caution and diligence, but they were also activists, and there was very little that was cynical about their approach to the legal profession.

  Inevitably, these two generations within the Antitrust division met, clashed, compromised, and learned from each other. The younger lawyers acquired skills and patience from their supervisors; the older lawyers were reinvigorated by the energies and passions of the new recruits. And the result, during the early 1970s, was a period of activity and ambitious lawsuits unrivaled in the modern history of the Antitrust division.

  Bill McGowan didn’t know any of this when, in the fall of 1973, with his company in dire financial straits, he, Ken Cox, Larry Harris, and other MCI executives began an intensive lobbying campaign to interest the Antitrust division in AT&T. McGowan hoped to persuade the division to file a sweeping civil antitrust suit against AT&T, which would seek to break the phone company apart. Only the Justice department, the federal government’s law enforcement agency, could seek such “structural” relief in a lawsuit; in its own antitrust suit against Bell, MCI was entitled to pursue only monetary damages to compensate for revenues lost because of AT&T’s behavior. Even the threat of a structural suit by Justice could be useful to McGowan. Like Senator Hart’s antitrust hearings and MCI’s friendly relations with the FCC, a Justice investigation might serve notice to AT&T that MCI was a formidable political opponent.

  As it happened, McGowan’s initial complaints to the Antitrust division landed on the desk of Philip Verveer, who would soon prove that he, too, could be a formidable opponent of the world’s largest corporation.

  With the interconnection negotiations at a standstill because of deButts’ Seattle speech and McGowan’s FX ploy at the FCC, Larry Harris was free, late in 1973, to devote much of his time to educating Phil Verveer about MCI’s plight. Harris had to start at the beginning; he spent hours at Verveer’s office in the old Evening Star building, two blocks from the main Justice building at 10th and Pennsylvania in Washington, telling the young lawyer about how the telephone industry worked, about the history of competition decisions at the FCC, about MCI’s fitful negotiations with AT&T, and about how AT&T had recently decided to call for a moratorium on “economic experiments” like MCI. The lectures roused Verveer’s curiosity and his ire. The situation Harris described sounded like a classic example of a “bottleneck monopoly,” where one company owned essential facilities—in this case, local telephone exchanges—that were required for a competitor’s business. There was a long history of antitrust cases arising from such bottlenecks, particularly involving railroads, whose ownership of interstate tracks and local switching yards was in some ways parallel to AT&T’s ownership of the switched phone network. (Bill McGowan, who had grown up in a railroad family, understood this parallel well.) And moreover, the stories Harris told about his negotiations with AT&T fueled Verveer’s longstanding suspicions about the dubious motives of a huge, monopolistic corporation like AT&T.

  After his conversations with Harris, McGowan, and Cox, Verveer sought and received permission to launch a sweeping investigation of AT&T to see if there might be a basis for a government antitrust suit. Verveer was put in charge of the inquiry. He subpoenaed tens
of thousands of documents from 195 Broadway and the local operating companies, and he spent months sorting through them. Verveer and several division lawyers working for him traveled around the country seeking out and interviewing the executives of other companies, besides MCI, who had troubles with AT&T; Harris and other MCI executives had supplied the division with dozens of names. As early as April 1974, a month after MCI filed its own antitrust suit against AT&T, Verveer had decided that the government had a case, and he drafted the initial complaint for a lawsuit.

  The complaint sought exactly what Bill McGowan wanted: complete separation of AT&T’s local operating companies from 195 Broadway, as well as total divestiture of Western Electric, the phone company’s mammoth manufacturing subsidiary. If successful, the lawsuit would reduce the size of AT&T by more than two-thirds.

  Phil Verveer was not naive. In his three years with the Antitrust division, he had learned quickly that simply because a lawsuit had merit, that didn’t mean it would ever be filed. Especially when a large and influential company such as AT&T was involved, the politics of a lawsuit were at least as important as the antitrust violations that were being alleged. And in April 1974, when Verveer sent his drafted lawsuit upstairs, political considerations were probably more important than merit.

  The Justice department was at that time in a state of leaderless chaos. President Nixon was three months from resigning over Watergate, and attorney generals, assistant attorney generals, and special prosecutors were dropping left and right—some resigning in scandal, some being fired, and some quitting in protest. For months at a time, it wasn’t clear to Verveer who in Justice’s “front office,” as the department’s political leadership was called, had the power, never mind the inclination, to make a decision as controversial as this one. Once he had done his job by drafting the lawsuit against AT&T, Verveer could do nothing but sit and wait.