ragingbull.com on WMB. More Than Just Energy [Nice ASND reference]
ragingbull.com
June 25, 1998
Note: The Bullish Portfolio purchased 450 shares of WMB at $31 1/8 on June 25,
1998. Read the latest Bullish Portfolio report for more great investment picks.
*****
Over the weekend we spent a few moments catching up on our reading
and came across a very interesting article in the May issue of Wired Magazine.
For those of you unfamiliar with the magazine, it is the one with the absolutely
crazy graphics and color schemes. While the magazine tailors to the cutting
edge graphics crowd, it usually has an interesting article or two on a neat
technology concept or company. The magazine is published by the same people
who run HotBot, Suck.com, and Wired on the 'Net.
The 'Qwest' For a Better Network
The latest issue includes an article about Qwest Communications
(QWST) that is well worth reading. Since The Raging BullTM has written
extensively on the subjects of IP telephony and Qwest in the past, we were very
interested in what Wired had to say about QWST. A Wall Street 'darling' as of
late, Qwest is one of the new wave of telecommunication companies building a
nationwide fiber-optic network. Previously owned by the Southern Pacific
Railroad, Qwest has the right to run its lines along the tracks of the Southern
Pacific and Union Pacific railroads. By mid-1999, the company will have a 16,000
mile fiber optic network capable of handling both data and voice traffic. According
to the CEO, Joseph Nacchio, by early next spring the company will have a
network that can handle more bandwidth than the networks of AT&T, Sprint, MCI,
and WorldCom combined. Even more amazing, the network could carry all of
today's telecommunications traffic on four of its 48 fibers.
The company is banking on the continued rapid expansion in the demand
for bandwidth. With Internet traffic doubling every 100 days and the multimedia
possibilities of the Internet barely exploited, this is a reasonable expectation. The
huge demand will further outstrip the out-dated capabilities of the legacy players
(i.e. AT&T (T), MCI (MCIC), Sprint (FON)) and will put QWST and other fiber
networks in an optimum position to prosper. You see, QWST has an advantage
because it is investing its billions in the latest technology. The legacy companies
have invested their billions in networks that are five, ten, or even twenty years old.
It will require enormous amounts of money for those companies to level the
playing field. They may even have to scrap large parts of their networks that were
optimized for voice traffic. Some speculate that it would be easier for them to just
buy a fiber company like Qwest to save the time and effort. Even if they succeed
in leveling the playing field, it is reasonable to expect that new bandwidth
demands will quickly utilize any new capacity.
If You Missed Qwest Then.
Unfortunately, Wall Street has already recognized much of the promise
and potential of Qwest. The company now sports a market cap of over seven
billion dollars. Its brash CEO, Joseph Nacchio, has a cult like following at
industry conferences and Wall Street analyst events. So how do you play this
emerging field?
There is an assortment of companies that offer intriguing investment potential in
this emerging telecommunications arena. Two of the larger players are IXC
Communications (IIXC), who is developing a large fiber optic network, and Level
3 Communications (LVLT), who is developing a network based solely on IP
technology. Another company that we have followed for several months is The
Williams Companies (WMB). We first noticed this company early this year
when they awarded Ascend Communications (ASND) a large contract to supply
networking equipment for their new fiber optic network. We remember this
because we promptly realized that with this award, Ascend, was no longer a dead
company. We picked up shares of Ascend the next day at $26.00.
Williams, Not Just an Energy Company
Unfortunately, we did not buy any shares of Williams that day. They have
had a nice run since. But they still haven't garnered a significant amount of
attention on Wall Street because the company is primarily an interstate natural
gas pipeline company. That means that energy and gas analysts cover the
company on Wall Street. Analyst coverage is beginning to change, but WMB is
still primarily in the domain of people who don't understand telecommunications.
Needless to say, energy stocks do not trade at multiples comparable to cutting
edge bandwidth providers.
A 'Hidden' Qwest
The ineptitude of the people covering Williams is only one reason why this
company is very attractive. The fact is that Williams is in an extremely
opportunistic position. While Qwest's flamboyant CEO gets all the press,
Williams has completed an 11,000 mile network. By year-end 1998 the company
will have another 8,000 miles, and, by 2001, the company will have a 32,000 mile
network. Williams will spend $2.7 billion laying this fiber optic network next to its
interstate gas system. Since WMB is the last player to make a major
commitment to the field, its capital investment is in the latest technology. This
means it has a lower cost basis than fiber rivals; compared to legacy rivals, its
advantage is huge. This results in Williams already having an edge up on its
competitors.
Veterans in 'Selling the Network'
But the real reason that Williams is so attractive is not because of the size
or technology of its network, but how management will "sell the network." In time,
no one company will have a significant technological edge. The winners will be
the companies that can sell space on their network and forge telecom alliances.
You ask, how does a gas company have any expertise in running a fiber optics
company? Interestingly, Williams previously owned WilTel, a communications
business it sold to WorldCom for $2.5 billion three years ago. Management has
been hired back from WorldCom (WCOM) to operate the new network, and old
customer relationships are being revived. This is an advantage most start-up
entrants do not have.
Another example of management capability is the company's network
construction plans. Their network will not be fully completed until 2001. Not
unsurprisingly, that is exactly the time when bandwidth demand will exceed
network capacity. As an analyst at CS First Boston recently said, "Williams
Telecommunications has both the fiber capacity and the people to drive
substantial growth rapidly. Simply put, it has been in the business before and
management knows how the game is played." The importance of "selling the
network" is something that few telecom analysts understand; how many energy
or gas analysts do you think understand that?
Williams' current market capitalization is ten billion dollars. Analysts
estimate that the telecommunications business accounts for 15-20% of the
company's entire market cap. Management's goal is to have telecom add $250
million to the bottom line (profit) by 2001, and create $3 billion in value by 2000. If
you consider WMB's superior management, advanced network, and the exploding
demand for bandwidth, it may be reasonable to assume that Williams could far
outstrip those possibilities. After all, much smaller WilTel was bought out for $2.5
billion three years ago. Modern telecom networks will be worth much more.
The Perfect Mix
While the media will crow about fiber construction, network capabilities,
and equipment efficiency over the next twelve months, Williams will stealthily be
building its advanced network and, more importantly, striking up important
customer relationships. Add all of this to a natural gas business that earns
superior returns on equity, double-digit earnings growth, and large amounts of
cash flow, and you have a unique way to reap the benefits of a rapidly growing
telecommunications company with the stability of the company's natural gas
business.
The Williams Companies - $31 1/8 on the close of June 24, 1998
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