AT&T'S $12 BILLION CELLULAR DREAM Until it bought McCaw, AT&T was naked in its industry's fastest-growing business. Now it must embrace its cellular baby without smothering it.
By Andrew Kupfer REPORTER ASSOCIATE Kathleen C. Smyth

(FORTUNE Magazine) – A FEW DAYS after McCaw Cellular Communications of Kirkland, Washington, breathed its last as an independent company and became instead a Managed Entity of AT&T, each McCaw employee received a welcome pack from the head entity in New Jersey. Among the contents: a coupon book with discounts for AT&T products and services, including phone calls and computers; a pamphlet with replicas of handwritten greetings from AT&T employees; an AT&T mission statement and fact book; a poster and T-shirt with the slogan WHO WILL LEAD THE FUTURE OF COMMUNICATIONS? WE WILL; a notepad, lapel button, and balloon bearing the same inscription; a sheet of WE WILL self-adhesive stickers; and a videocassette of AT&T executives who, to show their casualness, were sitting in open-necked two-toned shirts from which they'd whipped their ties a moment before. AT&T hopes this handshake will help smooth one of the most intriguing combinations in a year of many mergers. Not trusting symbolism alone, it also ratified a $2,400 bonus for every McCaw staffer. AT&T is doing its best to pull off this marriage of opposites, in which the hottest entrepreneur in phonedom has sold his flourishing startup to one of the world's oldest, biggest corporations. You have to wonder whether AT&T is swallowing a hand grenade. And if it does digest its meal without undue biliousness, what will be left of McCaw? The outcome will be no mere footnote to the history of corporate governance. The McCaw acquisition is crucial to AT&T's strategy for the 21st century. It is part of the company's drive to become a power in the fastest-growing arm of telecommunications: wireless communications -- a business that AT&T invented * and, in a colossal blunder a decade ago, abandoned. The acquisition has also caused a massive phone-industry realignment. The Baby Bells are panicked that AT&T will soon build the first true nationwide cellular telephone network, and under the best brand name in the business. So they have begun pairing off with each other to build their own seamless networks. All these players, including AT&T, are girding for a grand auction of radio waves by the federal government in December. The selloff will triple the spectrum available for cellular phone calls and newer wireless services, including two-way messages from pocket pagers and wireless transfers of large computer files from laptops. The new spectrum will also help cellular operators patch holes in their networks. New standards have already begun to make life easier for travelers. Depending on the arrangements among their cellular service providers, users on the road may no longer have to punch in so-called roaming codes and wait for authorization when they are on the road. Software can automatically route incoming calls to them wherever they happen to be too. But the competing carriers don't want to hand off business to anyone else. They want it all to themselves. In AT&T's vision, wireless devices will be so cheap they will become ubiquitous; everybody will have more of them than they need, as they do today with calculators. AT&T also aims to make wireless communication as reliable as its long-distance network. The days will soon be over, says AT&T corporate strategist Richard Bodman, when "customers will be willing to pay a lot of money for calls that cut off when they go around a big tree." AT&T may well find that driving around a big tree is exactly what assimilating McCaw feels like sometimes. Before consummating the deal, AT&T had to sign an antitrust decree with the Justice Department. The decree keeps AT&T from using its name on cellular service for over a year, and bars some units of the company from talking to each other. Then there is the strange case of founder Craig McCaw, who became AT&T's largest known individual shareholder in the deal and was supposed to sit on its board, but who politely declined and has now emerged as a potential competitor (see box). And despite AT&T's sincere efforts to let McCaw Cellular carry on as always, the two companies are so different that McCaw will be forever changed. That will almost certainly evoke emotions in Kirkland that AT&T needs to be ready for.

THE CONTRASTS between the two companies are striking. McCaw is tiny (7,000 employees). AT&T is huge (300,000 employees). McCaw is young (average employee age: 33; average length of service: three years). AT&T is old (average employee age: 43; average length of service: 15 years). McCaw is fun and freewheeling: Employees have always been encouraged to get in touch directly with Craig McCaw or Jim Barksdale, who has succeeded him as chief. AT&T is hierarchical, staid, and steeped in boss fear: Several times in the reporting of this article senior managers refused to answer questions on topics about which their immediate superiors had been interviewed. The executive offices in Basking Ridge, New Jersey, resemble those of an old-line insurance company. So commodious is CEO Bob Allen's suite that he has to get up and walk 50 yards if he wants to reach out and touch someone. The differences in culture reflect differences in the work the companies do. AT&T's bread and butter is network management. Its network is complete and ubiquitous; the goal is perfect quality. AT&T is about control, and it's like the Army when it works well and the Post Office when it doesn't. Lately it's been working well: AT&T just won both the Baldrige award and the Deming prize. McCaw's service is designed to make possible untethered communication. Poor quality has been taken for granted in its industry because of the unpredictable behavior of radio waves and external factors like interference. Its main goal is to extend its coverage geographically. The differences extend to the personalities of the leaders. Craig McCaw, who stepped down as chief executive when the deal closed in September, is a strategist and dreamer. He's the kind of man who in an interview with FORTUNE once suggested in all apparent seriousness -- as color drained from the face of a PR man in attendance -- that the Federal Communications Commission should reserve spectrum for telepathic communications to be made possible by brain implants he thinks will exist some day. He is an informal and soft-spoken gentleman, and he flies his own seaplane. AT&T Chairman Bob Allen is a career telephone company executive who has remade himself into a forceful and sometimes bold decision-maker. He, too, is soft-spoken and courteous, but he looks as if he might have a hard time fitting a bike rack to a car, and his idea of dressing down is wearing a sports jacket and tie instead of a suit, or perhaps a sweater and fancy golf pants while on the links (where he is quite proficient). Craig McCaw's vision of the seamless nationwide network was what brought the two companies together. McCaw built his company with wild, on-the-edge daring. He borrowed billions to buy franchises and build systems in the unshakable faith that cash flow would grow quickly enough to cover debt payments and future capital improvements. These were bet-the-company gambles, and they put him in thrall to bankers. McCaw Cellular believes its bets were based on experience showing that wireless communication appeals to everyone; the penetration rate in Yakima, Washington, for example, We need to say is" or say when this was, and that this was a time when McCaw was borrowing heavily. As McCaw vice chairman Wayne Perry says: "Were the dogs eating the dog food? Yes.''

YET while revenues were growing at a very healthy 30% a year (1994 estimate: $2.75 billion), restrictions on borrowing kept McCaw from expanding as quickly as it wanted. Cellular phone companies pay dealers commissions for new customers, and McCaw couldn't match those paid by deep-pocketed rivals like Southwestern Bell and BellSouth. And while McCaw has more cellular customers than any other company, it still covers only a third of the nation. Craig McCaw also recognized that his vision of nationwide service could never come to pass without federally approved standards enabling all cellular systems to interact. AT&T had experience with federal and state regulators and a lot of clout. So in 1990 Craig McCaw made his approach to New Jersey. The overture came as AT&T was trying to figure out how to get back into a technology it had invented and then forsaken. With $67 billion in revenues, AT&T has nearly two dozen different businesses, ranging from computer manufacturing to credit cards to telephones and telephone switching systems. Its main line remains long-distance phone service, which contributes about 60% of sales and, by some estimates, 80% of operating profits. What AT&T chiefly lacked was a direct link to customers. It gave that up when it was forced to divest the local phone companies in 1984. At the same time, it threw away the chance to develop a new connection by making one of the worst guesses about future value since the Red Sox traded Babe Ruth. AT&T projected that the number of U.S. cellular users in 1995 would be 900,000, a niche business at best. So the company buried its cellular program. The number % of cellular subscribers in the U.S. today: 20 million. A decade ago AT&T could likely have become America's cellular service provider without paying a dime for franchises. Industry analyst William Deatherage of S.G. Warburg says the FCC probably would have given AT&T cellular licenses free at the time of the breakup: "Wireless was a throwaway at divestiture. But AT&T didn't even care." AT&T was preoccupied with getting into the computer business, in which it lost billions. The cellular licenses instead went to the Baby Bells and independent companies like McCaw. So AT&T faced a gaping strategic hole. With the crumbling of regulatory barriers between different parts of the communications industry, AT&T knows its long-distance business will soon be under attack from the Baby Bells and other new competitors. Some intend to offer consumers one-stop shopping for local and long-distance phone service, cellular service, and video programming. AT&T felt that if it stayed naked in cellular, it would be unable to compete. As strategist Bodman puts it, "Our customers were getting up in droves and driving away, and we had no capability to drive with them." Wireless communications was thus the missing link between AT&T's existing businesses -- especially long distance -- and the consumer of the future. AT&T wanted to be able to offer discounts and package deals to anyone who used its long-distance service, Universal Card, wireless service, telephones, or personal computers. It could scarcely include cellular service among those offerings if it didn't have a wireless network with national reach. AT&T considered its options and decided it had only one. The company was too far behind to build the business from scratch. The Baby Bells were entrenched and controlled 75% of the cellular industry. The customers most likely to be big spenders had already been signed up by established players. So AT&T's best hope was to buy one of them. The only one sharing AT&T's vision of developing a national network -- and that it could legally acquire -- was McCaw. AT&T must now start thinking about the parts of the landscape that McCaw never reached. To get the franchises it needs, AT&T is looking ahead to the wireless auctions that begin in December. It will bid against Baby Bells, cable TV companies, rival long-distance companies, and sundry consortiums in the first large-scale selloff of radio frequencies in the nation's history. AT&T has reserved the right to bid for licenses in every city where McCaw is $ absent. Consultant David Yedwab of Eastern Management Group in Parsippany, New Jersey, says, "An awful lot depends on the outcome of the auctions and how well AT&T can integrate the new properties with McCaw's." AT&T will have to be ready to spend several billion dollars for the licenses and at least twice as much to build new systems where it wins. Construction could take about three years. As in all mergers, even those in which the two companies seem made for each other, the question remains whether AT&T gave up too much to win McCaw. It well may have, since McCaw was the only answer to AT&T's problem and Craig McCaw knew it. Originally AT&T agreed to buy a third of McCaw for $3.73 billion, putting the total value of the company at $11.19 billion. In months of ensuing negotiations to work out the terms of the collaboration, the two sides couldn't figure out how to divvy up, or even measure, the extra money McCaw would get from use of the AT&T brand name. In the end, AT&T decided on a wholesale purchase. But it didn't get a wholesale price. The sum it settled on for the whole shebang was $12.6 billion. (It eventually paid about $1.1 billion less because the value of AT&T shares fell between betrothal and consummation.) Wall Street analysts have been generally but not universally enthusiastic about the deal. A prominent money manager believes that because the wireless industry will be intensely competitive, the acquisition will not turn out well for AT&T. He says, "AT&T is paying a tremendous amount of money not to own the world." He adds that AT&T is motivated both by excitement over a sexy new industry and by fear -- a dismal combination. Perhaps an urge to buy first and ask questions later explains why AT&T doesn't seem completely aware of what it bought. Not everyone at AT&T appears to understand, for example, that McCaw is not a national company. Eager to launch coast-to-coast promotions for cellular service, AT&T proposed a long- distance and cellular phone campaign keyed to the 1996 Olympics in Atlanta. McCaw senior vice president of marketing Dick Bryan says, "We had to say that we can't -- we're not in Atlanta." Both AT&T and McCaw hope mutual understanding will come sooner rather than later. And so it should, if the admiration that appears to exist between the two companies persists. The fit between their businesses is natural, and their common goal -- loosely articulated as "anywhere, anytime communications" -- can help make this a happy affair. AT&T is genuinely eager to bridge the cultural divide. But to bridge a gap you have to know it exists, and Bob Allen may not fully appreciate this one's size in the eyes of the McCaw people. He argues that the culture differences lie mainly in the headquarters. "The McCaw culture is the aggregate of people who've come from a lot of different places," he says. "Many are from telephone companies. Fundamentally most people in McCaw do what most people at AT&T do." McCaw people have a different take. Chief technology officer Nicolas Kauser says, "McCaw has traditional telephone people in 10% of the jobs, and all of those are in technical areas. Besides them, I can't think of any people here from the telecom industry. We have people who used to sell fridges and cars. That's what gave us a new spin." The people in the field at McCaw, moreover, are used to operating independently of the head office. McCaw divides its cellular system into six regions, each with its own president and each responsible for its own profits. Kauser doesn't even have direct control over the technology the regions deploy. "We kind of thrive on chaos," he says. "We really do." AT&T should also be aware that even though people at McCaw are genuinely excited about the possibilities of the combination, they are also mourning their loss of independence. After all, this is a family firm that grew up in a small town and became something big. Keith Grinstein, who manages Claircom, McCaw's air-to-ground phone service, says, "There's a sense of exhilaration, that we're in the middle of a whole new world and now we can't be beaten. But at the same time I feel a sense of grieving and loss. I knew the McCaws very well and I am fond of them. "

PEOPLE at McCaw worry about being engulfed by an entity of such enormous size. The experience could be like getting hugged by Frankenstein's monster -- a thing of many parts that doesn't know its own strength. Just coordinating with all the AT&T people who have an interest in wireless technology is putting a strain on McCaw's relatively tiny work force. Kenneth Arneson, vice president of business development for the messaging division, says, "My concern is the number of people we have who can get out and talk with all the business units. To respond back to ten or 20 people -- well, there have just been a lot of people to talk to." McCaw is already chafing at big-company regimentation. Grinstein is delighted to have three Bell Labs engineers working full-time to help design the next generation of his air-to-ground system. But he adds: "Do I have bureaucracy around me I didn't have before? Damn right I do. I've already had meetings about logos and the position of the logos and the position of the fanciful AT&T globe. Yeah, I'm frustrated. I can't just wake up in the morning and call Wayne and Craig. I have to make sure I'm not stepping on toes." One reason AT&T says it wanted McCaw was to get an infusion of West Coast entrepreneurial spirit. Indeed, if AT&T is smart, it will see that change doesn't flow only one way. It may well have to let some of its middle managers steep in the cellular broth for a while. Though AT&T has succeeded in changing radically at the top level or two, the rest of the company still shows signs of the traditional, leisurely phone company of yore. This bifurcation between the top levels and the rest of the company may explain a curious anomaly: AT&T has become very good at making big decisions quickly but still drags its hindquarters on small ones. For instance, when McCaw wanted to bid for two national licenses in last summer's federal auction of radio frequencies for paging services, Jim Barksdale and Wayne Perry got on a plane and flew to Basking Ridge, where they met with Bob Allen and long- distance chief Alex Mandl. They got the go-ahead on the spot, and won the licenses, paying $160 million of AT&T's money. Yet when McCaw wanted to buy a small cellular franchise for a lot less, it ran into heavy bureaucracy. Perry says, "We do acquisitions here very quickly. We gave AT&T a business plan and projections of revenues and cash flow, but they asked us to take it down to taxable income." Taxable income was not a typical concern for McCaw; the company recorded its first profit only in the second quarter of this year. Nevertheless, McCaw took the plan home, redid the numbers, and told AT&T when the new version would be ready. "They said, 'Can we get back to you in ten days?' And we told them, 'No. How about three?' " Perry says. Part of the problem, it turned out, was that AT&T didn't even have an acquisition policy. "We both have to adjust," says Perry. AT&T is also staring at some wrinkles created by the consent decree it had to sign to win Justice Department approval for the McCaw deal. Most vexingly, it can't yet sell cellular service under the AT&T name. First it must convert / its automated billing systems to let customers choose their carrier for long- distance calls that start on a cellular phone. Before the acquisition, McCaw bought all its long-distance service in bulk from AT&T and resold the service to its customers. Making the change will take around 15 months. Even the parts of McCaw that the consent decree didn't touch will be in limbo for a while. The Claircom airplane phone business and McCaw's paging service can start using the AT&T name right away. But they must avoid the taint of contact with the cellular division until the long-distance changeover is achieved. So for now, the same sales office can no longer market both cellular and paging services. Sometimes, it appears, synergy means having to take a step backward.

McCaw is finding that baptism with the AT&T name is not an unalloyed blessing. Claircom is struggling with new dilemmas as it negotiates to link its network with those of long-distance carriers on the ground. What to do, for instance, when an air traveler swipes his MCI card in an AT&T seatback phone? Grinstein says, "Suddenly, without realizing it, I became the enemy. MCI does not want to print 'Thank you for using AT&T' right in the middle of its bill. But if we just call the item a generic air-to-ground call, who does the customer contact in case of a problem?" A key talking point in any acquisition is the degree of freedom to be given the ingestee. AT&T promised that McCaw can conduct its business independently -- it is allowed, for example, to order network equipment from any company, even a competitor of AT&T. But the assurances seem somewhat less solid than they did a month ago. The basis of McCaw's freedom was a three-legged stool: Craig McCaw, new owner of 14 million AT&T shares, would be sitting on the board, a missionary for wireless technology whispering into Bob Allen's ear; Jim Barksdale, as head of the wireless division, would report not to a group vice president like the chiefs of almost every other AT&T business unit but directly to Allen; and since AT&T had not been in the wireless business, McCaw would be spared turf battles. Now Craig McCaw has decided not to sit on the board and has revealed that he will be bidding for licenses in the FCC auction, as will AT&T. Further, how long Barksdale will want to stay is uncertain. The former chief operating officer of Federal Express, Barksdale, who came to McCaw in 1992, may have left his heart in Memphis. He will sometimes run his finger along the side of a Federal Express delivery truck to make sure it's clean, and urge drivers to go get UPS. Barksdale is by all accounts a highly effective manager. He is also a very frank man, and when asked how he felt when he learned of the acquisition he didn't duck the question. "I was disappointed," he said. "I didn't come out here to sell out to AT&T. It wasn't part of the deal. I don't think I would have come." He says he wants to see the acquisition through, and he has financial incentives to stay at least two years, but clearly he is less than ecstatic with the deal.

STILL, optimism is in the air in Kirkland. McCaw Cellular's youth means that one-third of its employees have joined the company since a deal was first broached two years ago. Even the consent decree might have its bright side. With AT&T people worried about inappropriate contacts, little McCaw might get a bit more breathing room and time to adjust than it otherwise would have had. Wayne Perry says of his new counterparts: "Some of them are afraid to call us because they could go to jail." He is only half-joking, and there is something of a playground putdown to the remark -- the silver lining of dealing with a company where fear of authority rules, not like at McCaw. On a stormy day in late October that ushered in Seattle's eight-month rainy season, the receptionist at McCaw headquarters chatted with a temporary office worker who was waiting for her boss to arrive. The receptionist was waxing about her employer's virtues. "It's a wonderful company," she said. "It's very entrepreneurial. But it's not for everyone." AT&T will soon find how much West Coast spirit it has the stomach for.


CHART: NOT AVAILABLE CREDIT: FORTUNE CHART/SOURCES: COMPANY REPORTS, WORLDSCOPE CAPTION: AT&T New York City Analysts favor the McCaw purchase, but AT&T shares are down $10 from the predeal price as investors wait for BT, which owned 22% of McCaw, to sell its 36 million shares.