Just days after he took office, French President Jacques Chirac got a sharp reminder of how tough it will be to privatize France Telecom, the $29.4 billion national phone monopoly. On May 30, 100,000 striking phone workers poured into the streets to demonstrate against any initiative to free up state control of France Telecom and cut back the company's payroll.

Chirac, who campaigned on a promise to boost employment, is treading cautiously. Yet the pressure will just keep building. The European Union deadline to open phone markets to competition is Jan. 1, 1998. Every day the government delays privatizing France Telecom--the world's fourth-largest operator and a major prop to French industrial policy--the competition widens the gap. "They risk seeing AT&T and British Telecommunications run away with the global telecom market," says Helen Pickance, a senior analyst at researcher Dataquest Europe Ltd. Washington and Brussels also want evidence of a real opening in the French phone market before approving France Telecom's purchase, together with Deutsche Telekom, of 20% of long-distance provider Sprint Corp.

Faced with the need to act, Chirac's government will present a proposal in mid-July to prepare France Telecom for competition. There's little chance it will include radical change, such as the quick sale of a majority stake to private investors. Obstinate union leaders may sign off on slight changes in the company's status--for instance, letting strategic ally Deutsche Telekom take a minority stake. Yet the government may be forced to leave intact a lifetime-employment guarantee for its 151,000 civil servants--90% of total employment. "That's almost like maintaining the status quo," says Pickance.

The irony is that a properly privatized and toughened-up France Telecom could well become a serious global competitor in fairly short order. Yes, employment needs to be trimmed--but not nearly so much as at Deutsche Telekom, where as much as 40% of the workforce must go. Productivity lags behind the Baby Bells but is better than at most European phone companies. France's digital phone network is one of Europe's best, and its data-transmission business is world-class. And to capitalize on the success of its Minitel online service, France Telecom is planning an ambitious new generation of multimedia services on personal computers and televisions.

DECENTRALIZE. But to hold its own in a fast-changing market, France Telecom needs a shakeup (table). President Marcel Roulet vows the company will get just that. He insists it will be ready for 1998--whether France Telecom is a private company by then or is still state-owned. Although large-scale layoffs are not an option, by yearend, Roulet aims to tailor divisions to the markets they serve and push responsibility down the hierarchy, closer to the customer. "We face the most difficult challenge in our history," he admits. "The problem is, when you introduce such drastic change, you need some time."

It's the plea for time that critics find so disconcerting about Roulet. A 62-year-old graduate of both the elite Ecole Polytechnique and the Ecole Nationale Superieure des Telecommunications, he has worked for telecommunications authorities for his entire career, first in Africa and then in France. He "can accept the idea of competition in theory, as long as there is no reality to deal with," says one senior government official.

But reality is coming. Even in France's protected market, EU policymakers mandate competition in certain sectors. In one--corporate networks--British Telecommunications PLC and Unisource, a consortium of smaller European operators, are siphoning off lucrative business. A British Telecom subsidiary already has won 200 French companies as customers, including insurance giant AXA, Societe Generale, and Credit Lyonnais. Auto maker Renault recently chose Unisource to link its Spanish and French offices.

As key customers have started to complain about France Telecom's high rates, the giant utility has cut deals to ensure their loyalty. When the chief executive of chemical giant Rhone-Poulenc recently called Roulet to complain that his company's phone bill totaled one-fourth of profits, Roulet immediately offered to lop off 20%--the same discount British Telecom was offering. But such bargaining won't stem the overall flow of customer defections. As more French companies privatize and find major cost-cutting imperative, the discounts and improved service offered by foreign operators are just too attractive to pass up.

French regulators are also signaling that they may encourage more competition before 1998. In May, French authorities gave the national railway, SNCF, a green light to carry voice traffic for mobile-phone companies on the telecommunications network laid out along its track. Thus, France is the first country in continental Europe where private mobile operators don't have to lease lines from the state phone company. In a separate development, a U.S. company, MFS Communications Co., has received permission to lay a fiber-optic network around Paris for common corporate services such as videoconferencing.

France Telecom just isn't moving fast enough to counter these threats. Consultants who work closely with the company say its inward-looking engineering focus could become a severe handicap. Most of its top 200 managers come from the same telecom school as Roulet. "It's a disadvantage to have 200 people thinking alike when you have to formulate a strategy for a rapidly changing market," says one consultant. "France Telecom needs shock therapy," agrees another, who has worked closely with the company. "On customer service, they are terrible."

RATE SHOCK. Until now, fat margins have encouraged management's complacency. France Telecom generated net earnings of $969 million last year by charging rates that are among the highest in Europe for international calls and leased lines. When total deregulation hits, the company will lose market share unless it lowers rates dramatically. Already, the government has decreed that leased-line rates should decline 10% a year for the next four years.

As profits decline along with rates, France Telecom will have trouble subsidizing other activities of France Inc. Monopoly profits have traditionally underwritten cutting-edge research in telecommunications. The government has also used France Telecom's cash flow to prop up such ailing state companies as computer maker Groupe Bull and electronics giant Thomson, which have needed repeated capital infusions.

With 1998 drawing near, France Telecom can no longer afford the politics of helping out in unprofitable, unrelated state companies. The phone giant could even face a profit squeeze of its own--or worse. "The government's greatest nightmare is that France Telecom will turn into another Air France, with losses in the billions," says a French consultant close to the phone monopoly. That would be a sad fate indeed for a company that could still be a serious contender in the race for a wired world.


-- A state-of-the-art, 100% digital phone network

-- Expertise in multimedia and online services

-- A powerful, lavishly funded research and development program

-- Manageable debt, no pressing capital requirements, and

relatively strong profitability

-- More efficient than other European phone monopolies in terms

of lines per employee


-- Privatization stalled by four strong unions

-- 90% of its 167,000 employees hold civil servant status,

including lifetime job guarantees

-- Global alliance with Sprint and Deutsche Telekom held up by U.S.

and European regulators over market opening

-- Management slow to prepare for the end of monopoly market on Jan. 1, 1998


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