Continued:
Haggar warns that the next quarter or two could prove tricky as AHP finds
its way after the busted merger. But over the long term, she predicts that
AHP will see revenue growth of 10% annually and profit growth of more
than 13%. That's a pretty compelling proposition, given AHP's
below-average valuation. "This is a cheap stock," says Haggar. "Your
downside is limited. I have a target price of $65 to $70, so you're looking at
a potential gain of more than 20%."
PHONE IT IN
If drug companies are the No. 1 safe-harbor stocks, phone companies are a
close second. True, the advent of deregulation made telephone shares a lot
less predictable: Just look at the recent volatility in AT&T. Nonetheless, they
remain a reasonably safe choice--as long as you go with stocks that are
profiting from the new trends in telecom, not fighting them.
No company fits that description better than MCI WorldCom. WorldCom
CEO Bernie Ebbers stunned the telecom establishment when his company bid
for long-distance giant MCI last year. With the completion of the merger this
past September, it seems that the synergies Ebbers has long talked about will
come to fruition. WorldCom now has the world's largest Internet-services
business. It is also the nation's second-largest long-distance company, as well
as a major player in everything from local phone service to high-speed data
communications. The company's scale and potential make Salomon Smith
Barney's top-ranked telecom analyst Jack Grubman almost rapturous. "There
are few, if any, companies anywhere in the S&P 500 that are as large as
WCOM, that have WCOM's growth potential--and more importantly, that
have the visibility that WCOM has for continued top-line growth," he says.
"This company remains the must- own large-cap growth stock for anyone's
portfolio."
It's hard to argue with him. Revenues are expected to hit $41.8 billion in
2000, a 17% increase from the 1999 level. (Microsoft's 2000 revenues, by
contrast, are expected to equal $20.7 billion.) Profits, meanwhile, should
jump 48%, to $5.5 billion. Even better, the company's already capacious
profit margins should widen even more as the famously cheap Ebbers trims
the fat left over from MCI. Analysts are convinced that the company could
see $2.5 billion in cost savings in 1999, and Grubman believes the stock
could be at $80 to $90 by the end of 1999, up from $59 now.
BellSouth, our other telecom pick, has also succeeded by focusing on
high-growth businesses while keeping costs low and margins wide. Not only
does it have the fastest revenue growth of any of the Baby Bells, says BT
Alex. Brown analyst Kevin Moore, but it's also the most efficient. BellSouth
generates revenues of $271,000 per employee, putting it well ahead of
competitors like Bell Atlantic, which generates sales of $226,000 per
employee. Plus, says Moore, BellSouth's high-margin businesses like data
and digital services, along with wireless communications, are growing by
over 30% a year.
It doesn't hurt that BellSouth enjoys a commanding presence in one of the
country's fastest-growing regions. "Economically and demographically, the
South is one of the top places to be for a Baby Bell," says Moore. BellSouth
has also made some shrewd overseas moves, such as building a major cellular
business in Latin America. In the third quarter BellSouth's Latin American
wireless revenues jumped from $206 million to $442 million, a 114% rise.
The efficient, steadily growing domestic business and the new opportunities
abroad should help BellSouth's profits increase by 12% annually over the
next few years, Moore estimates. "We see this stock in the $95 to $100 range
in about 12 months, a 20% gain. That's pretty good upside for a Baby Bell."
Or any other stock, for that matter.
SAFE TECHS
Unlike the drugs or Baby Bells, tech companies aren't often thought of as
safe-harbor stocks. However, it would be a big mistake for risk-averse
investors to avoid this group, especially because of the long-term growth
opportunities that the Internet and other new technologies offer.
The trick is to find tech stocks that combine rapid growth with proven
staying power. That's why we prefer two of the biggest names in this sector:
Microsoft and Lucent. Their size, wide range of products, and record of
consistent growth all make them safer bets than smaller competitors. And
while Lucent and Microsoft may not promise overnight riches like an eBay
or Amazon .com, we're happy to leave those two high-fliers to day traders
and other gamblers.
Our picks do have some well-publicized risks of their own, however,
especially Microsoft. As everyone knows, the colossus of Redmond is
embroiled in the antitrust trial of the decade with the only other entity in its
weight class, the U.S. government. To top it off, the stock has surged 40%
since June.
So is this the right time to be buying Microsoft? Lehman Bros. software
analyst Mike Stanek says he's frequently asked that question. His answer:
"The market is open from 9:30 A.M. to 4 P.M., five days a week," says
Stanek. "Anytime during those hours is a good opportunity to buy
Microsoft."
What makes Stanek so confident? "This company is entering the most
lucrative product cycle in its history," he explains. "Between Windows 98
right now, the Microsoft Office upgrade in 1999, and Windows NT in 2000,
you're looking at annual earnings growth of 25% at a minimum."
It's Windows NT that has analysts like Stanek especially excited. While
Microsoft dominates the market for desktop software, it isn't yet a player in
the $40 billion-to-$50 billion market for enterprise software, the heavy-duty
programs that run on big servers and workstations. Once the new version of
Windows NT comes out in early 2000, Microsoft could siphon market share
from enterprise software sellers like IBM, Sun, and Oracle.
"Over the next five years, Windows NT will help sustain the company's
annual earnings growth at 25%," says Stanek. "And you've still got growth
in the high teens or low 20s from its other products." Moreover, the
licensing fees big corporate customers pay for Windows NT and Microsoft
Office give Microsoft's profits a predictability that few companies--tech or
otherwise--can match.
But isn't the government's antitrust suit a real worry? In the short term, yes.
Over the long term, though, Microsoft's stock price will be determined by
the company's earnings power, and there is no evidence that the current legal
battle poses any real threat to that. Even a worst-case scenario--a government
breakup of Microsoft--would likely prove a boon to investors. Just ask
anyone who held on to the Baby Bells when AT&T split in 1984.
Stanek doesn't see anything so drastic as that. He predicts Microsoft could hit
$140 before the end of 1999, a nice gain from its current level of $120.
Our other pick in this group, Lucent Technologies, is already one of the tech
legends of the 1990s. Since its 1996 spinoff from AT&T, this maker of
communications hardware has risen more than 500%, and there's nothing to
suggest that the glory days are over.
For starters, the $200 billion market for communications gear is growing by
12% to 14% annually, spurred by massive infrastructure investment by
companies like MCI WorldCom and AT&T. The recent wave of telecom
deregulation in Europe has only heightened demand for Lucent's products, as
giants like Deutsche Telekom modernize their aging phone networks.
Finally, the explosion in Internet traffic practically guarantees strong growth
for years to come.
What's more, Lucent is taking market share from rivals like Nortel and
Siemens. "As General Electric is to the industrial economy, Lucent is to the
Information Age," says Jim Parmelee, an analyst with CS First Boston. "It's
already clear that Lucent is one of the long- term winners out there."
Indeed, Lucent scored the Wall Street version of a hat trick when it recently
announced its latest results, beating estimates for earnings, revenues, and
profit margins. Parmelee, who predicts long- term growth of 20% to 25%,
says Lucent could rise from its current $89 to $110 over the next 12 months.
BANK ON EARNINGS GROWTH
Our next two picks, First Union and Bank One, may not seem to have much
in common with tech superstars like Microsoft and Lucent. But what these
two superregional banks lack in sex appeal they more than make up for in
steady earnings growth and very reasonable valuations.
Take First Union. Powered by smart deals like this year's acquisition of
Pennsylvania's CoreStates Financial, this North Carolina-based bank should
see its profits jump by more than 15% in fiscal 1999. Over the next three
years, says Sanford Bernstein analyst Moshe Orenbuch, the company should
easily maintain a growth rate of about 12%. Despite that potential, First
Union is trading at 14 times next year's earnings, a 15% discount to the
banking group and a whopping 40% less than the typical S&P 500 stock.
Plus, First Union is way ahead of its peers in creating the kind of integrated
banking giant that Wall Street has been talking about for years. While John
Reed and Sandy Weill struggle to meld Travelers and Citicorp into the new
Citigroup, First Union CEO Ed Crutchfield has been quietly building a
genuine financial supermarket. "Crutchfield understands Wall Street, and
he's been able to bring together areas like money management and capital
markets with more traditional parts of the bank," says James Schmidt,
manager of the John Hancock Regional Bank fund.
What's more, Crutchfield promised Wall Street last summer that he's no
longer interested in the kind of expensive acquisitions that weighed down
First Union's stock in the past. Assuming Crutchfield keeps his promise and
doesn't break the bank, as it were, with any big purchases, Orenbuch predicts
First Union could hit $80 within 12 months. Throw in a yield of nearly
2.6%, and you're looking at a total return of almost 30%.
Bank One is another superregional with a below-average valuation. Formed
by the merger of Columbus, Ohio-based BancOne with First Chicago NBD
in October, it dominates the Midwest, with retail operations in 14 states.
Strong growth in its core markets and over $400 million in cost cuts related
to the merger should give Bank One's earnings a 19% pop in 1999, says
Orenbuch, and lead to 14% annual growth over the next three to five years.
That puts Bank One among the fastest growers in the industry, despite a low
1999 P/E of 13.
That's among the reasons Bank One offers one of the best risk/reward
profiles of any major bank stock. "Given the relatively low P/E and the signs
that the merger is working," says Orenbuch, "this is a great buying
opportunity." He predicts Bank One could hit $70 within 12 months, a gain
of 30%.
WALL STREET LOVES WAL-MART
A couple of years ago, some investors began to wonder whether Wal- Mart
could continue to churn out the remarkably steady growth it had become
famous for. At one point in early 1996, earnings actually fell.
In the past year, though, Wal-Mart has rebounded. The stock is up 87% in
1998, driven by strong gains from the company's new domestic supercenters
as well as from its overseas stores, where 1998 profits are on track to more
than double last year's results. "There are other companies that are good at
certain segments of retailing," says Don Spindel, an analyst with A.G.
Edwards, "but there's no one that does it as well across the board as
Wal-Mart. They don't have any weak links." For example, Wal-Mart is
quickly becoming a powerhouse in the $400 billion market for groceries.
Spindel believes that Wal- Mart's grocery sales could easily double to $80
billion over the next five years.
He predicts 1999 overall sales will top $150 billion and that earnings will
continue rising 12% to 15% annually for the next three years. By the end of
1999, he figures, the stock could be trading at around $90, up from $75
now. "It's ingrained in Wal-Mart's culture to constantly go after what
customers want," he says. In these uncertain times, that's a good way to
provide what investors want too.
REPORTER ASSOCIATE Len A. Costa
{SIDEBAR}
THE CASE FOR TELECOM The big names like MCI WorldCom and
AT&T are solid bets for individual investors. BellSouth also looks good.
Telecom stocks have long been considered the stuff that widows and orphans
could count on for steady appreciation and safe dividends. But deregulation
has taken this most stable of industries and turned it into a question mark.
We think some winners are already pretty clear--MCI WorldCom and
BellSouth in the main story, for example--but there will be other winners
and losers before all this change is sorted out. To help make sense of it all,
we sat down with BT Alex. Brown's Kevin Moore, one of Wall Street's top
telecom analysts.
First, the big picture. Where do you see the telecom sector heading?
We're really at the dawn of a new era. Communications traffic is exploding,
and services that were once reserved for business, like high-speed data
transmission, are moving into homes. That will allow us to do things we
never could have imagined, like controlling home appliances from work or
monitoring the babysitter when we're out for the evening.
What are some trends that will affect telecom companies' strategy?
We're already seeing a move toward globalization, like AT&T's joint
venture with British Telecom and Sprint's alliance with Deutsche Telekom
and France Telecom. Second, wireless and conventional phone services will
converge, with the two becoming interchangeable. Similarly, each customer
will eventually have one carrier for local and long-distance service, with one
rate for both.
How will these trends affect the Baby Bells?
In the past it didn't really matter which RBOC {regional Bell operating
company} you owned; they mostly moved in tandem. Increasingly, though,
winners and losers will emerge as competitors pounce on the weaker
companies.
Who wins?
We think BellSouth is a clear winner, and we're keeping an eye on US West.
Both are focused on their own region, and US West is a pioneer in new
technology. Bell Atlantic, which is the least efficient RBOC, is clearly among
the weakest.
In this environment what's the best course for individual investors?
You want to be in big names like MCI WorldCom and AT&T. Last year
AT&T was on its back. Now, with cost cuts and a couple of big acquisitions,
it's on the attack.
{SIDEBAR}
THE RIGHT PRESCRIPTION Don't be scared off by the high P/Es of the
big pharmaceuticals firms. What counts is earnings momentum, and theirs is
rock solid.
Few sectors have been hotter in recent years than the pharmaceuticals group.
After being battered in 1992 and 1993 amid fears that health-care reform
would crimp profit growth, drug stocks have rebounded sharply over the
past three years. But stocks in the industry remain susceptible to a host of
shifting influences: Mergers, medical advances, and the evolution of the
health-care system all play a role. So does valuation, particularly now that
shares of Merck and Eli Lilly are at new highs. It takes experience and
expertise to pick out the steadiest performers in the group-- which is why we
checked in with Carl Seiden, one of the savviest pharmaceuticals analysts on
the Street.
Have drug stocks gotten too expensive?
I'm definitely in the bullish camp. In some ways the growth now is even
better than in the late 1980s and early 1990s, the last time drug stocks were
so popular. Sales volumes and product mixes are very strong, which means
that companies don't have to depend on big price increases to make their
numbers.
What about those high P/Es?
Look, the drug group is pricey. But nothing makes pharmaceuticals stocks
tick more than earnings momentum, and right now the group's 15% to 16%
annual growth looks rock solid. And with earnings gains slowing at most
S&P 500 companies, drug stocks are only going to get more appealing by
comparison.
Some experts argue that given the run-up in the big names, smaller biotech
stocks are a better choice for investors. What do you think?
I disagree. For retail investors in particular it's the Pfizers and the
Warner-Lamberts that are the better investment. They are less risky, and
because they have promising drugs in development, it's easier to see where
future earnings will come from.
For people who still want to invest in biotech, what's the best way to play?
Keep in mind that you're betting on science. So the only way to win with the
smaller firms is to spread your bets around and buy shares in a bunch of
companies. You have to understand that you're going to have more failures
than successes. On the other hand, one winner can more than make up for
several losers. Quote: "I don't think there's much doubt that Pfizer is the best
company in the industry," says J.P. Morgan analyst Carl Seiden. "They've
got a series of blockbusters coming out in the next few years." "The Market
is open from 9:30 A.M. to 4 P.M., five days a week," says Lehman analyst
Mike Stanek. "Anytime during those hours is a good opportunity to buy
Microsoft." "As General Electric is to the industrial economy, Lucent is to
the Information Age," says CS First Boston's Jim Parmelee. "It's already
clear that Lucent is one
of the long-term winners out there."
THREE COLOR PHOTOS: PHOTOGRAPHS BY SCOGIN MAYO {Sailboat
under cloudy skies heading towards city; detail of rope tied on boat; crank to
wind rope on deck of boat} THREE COLOR CHARTS {Charts not
available--line graphs from July to November 20, 1998 of weekly stock prices
of Pfizer; Pharmacia & Upjohn; American Home Products} COLOR PHOTO:
MARK MANN BT Alex. Brown's Kevin Moore calls it "the dawn of a new
era." TWO COLOR CHARTS {Charts not available--line graphs from July to
November 20, 1998 of weekly stock prices of MCI WorldCom; BellSouth}
COLOR PHOTO: PHOTOGRAPHS BY SCOGIN MAYO {Compass} COLOR
PHOTO: PHOTOGRAPHS BY SCOGIN MAYO {Satellite dish} FIVE COLOR
CHARTS {Charts not available--line graphs from July to November 20, 1998 of
weekly stock prices of Microsoft; Lucent; First Union; Bank One; Wal-Mart}
COLOR PHOTO: MARK MANN J.P. Morgan's Carl Seiden is bullish on drug
stocks, the bigger the better. |
