The government sued to block AT&T's $39 billion deal to buy T-Mobile USA because of anti-competition concerns, launching the biggest challenge to a takeover by the Obama administration.
A failed deal would be expensive for AT&T , which plans to fight the government's decision in court. It promised to pay a breakup fee worth an estimated $6 billion, including $3 billion in cash, spectrum and a roaming agreement for T-Mobile USA.
The Justice Department, in a lawsuit filed Wednesday, said eliminating T-Mobile as a competitor would be disastrous for consumers and would raise prices, particularly because the smaller provider offers low prices.
"Unless this merger is blocked, competition and innovation will be reduced, and consumers will suffer," said Sharis Pozen, acting head of the Justice Department's antitrust division.
AT&T will fight the decision in court, said company lawyer Wayne Watts, who added that the Justice Department had given the company no indication that it was contemplating such a move.
The action is a huge blow to AT&T and its CEO Randall Stephenson, who has sounded confident for months that the deal would clear regulatory hurdles. The company has argued the deal would let it add capacity and meet demand for high-speed wireless service.
"Clearly AT&T didn't expect this," said Pacific Crest Securities analyst Steve Clement. "It changes things for them with respect to the spectrum flexibility they'd have. They're going to have to be in the market to buy incremental spectrum."
The deal falling through might prompt Sprint Nextel , the smallest of the top three U.S. carriers, to consider buying Germany's Deutsche Telekom, he added.
AT&T shares fell $1.26, or more than 4 percent, to $28.35. Stock in rival Sprint rose 9 percent to $3.85.
The deal also would need the approval of the Federal Communications Commission, which regulates wireless telecommunications. On Wednesday, FCC Chairman Julius Genachowski said he is concerned about the deal's impact on competition.
The lawsuit is the biggest challenge to a takeover by the Obama administration, which includes former AT&T executive William Daley as Commerce Secretary.
"It's mixed for Sprint. On the one hand, they were potentially going to lose T-Mobile USA as a competitor at the low end of the market," Clement said.
"Now it's going to face a T-Mobile that's in a better position prior to the merger proposal, with extra cash and spectrum and a new roaming agreement with AT&T."
Earlier Wednesday, there were reports that AT&T had pledged to bring 5,000 wireless call center jobs, currently based abroad, back to the US if it is allowed to proceed with the proposed $39 billion acquisition of T-Mobile.
The company also promised that the merger would not result in any job losses for AT&T and T-Mobile USA wireless call center employees who are on the payroll in the U.S. when the deal closes.
But AT&T's commitment to repatriate jobs wasn't enough to smooth over concerns antitrust regulators at the Federal Communications Commission and the Justice Department had about the combination.
Although AT&T said it has not yet determined where the new U.S.-based jobs would be located, it promised they would offer "highly competitive wages and benefits." The company had hoped this message would carry weight in Washington, where job creation is a top priority for the Obama administration as the nation faces the possibility of a recessionheading into the 2012 election.
Mixed News for Sprint
However, beyond the call center operations, AT&T had said it does anticipate some workforce duplication after the deal closes, but it expected to make the reductions largely through natural attrition.
Clement said this development changes things for AT&T with respect to the spectrum flexibility the company will have.
"They're going to have to be in the market to buy incremental spectrum," he said.
As for Sprint, Clement said, the news is "mixed."
"On the one hand, they were potentially going to lose T-Mobile USA as a competitor at the low end of the market," he said. "Now it's going to face a T-Mobile that's in a better position prior to the merger proposal, with extra cash and spectrum and a new roaming agreement with AT&T."
"It also puts T-Mobile USA back in play as a potential merger candidate for Sprint," Clement said.
Opposition Feared Duopoly
The proposed merger had met with significant opposition, including from public interest groups and Sprint, who insisted it will lead to fewer choices and higher prices for consumers by eliminating a carrier that offers lower rates and less expensive plans than competitors. They also fear the deal could jeopardize Sprint's future as an independent company and ultimately lead to a wireless industry duopoly.
AT&T and T-Mobile argue that the acquisition would benefit consumers.
They say it would lead to fewer dropped and blocked calls and faster mobile Internet connections for subscribers by allowing the companies to combine their limited wireless spectrum holdings at a time when both are running out of airwaves to handle mobile apps, online video and other bandwidth-hungry services.
They also say the transaction would position AT&T to cover more than 97 percent of the U.S. population with its new high-speed, fourth-generation wireless service.
Finding more airwaves to keep up with the explosive growth of wireless broadband services and ensuring that all Americans have access to high-speed Internet connections are both top priorities of the FCC and the Obama administration.
-The Associated Press contributed to this report.