For Investors, It's Not Too Late to Dial SBC
Despite its transformation into a global telecom player, its
stock hasn't caught up yet
Should you eat the shark or just munch on the bait?
That's the question Baby Bell investors are asking
themselves as the competitive landscape in
telecommunications continues to change. Where there
were seven regional Bell operating companies
(RBOCs) at the time of the AT&T breakup, there are
now four, and there could be fewer two years from
now. Does it make more sense to buy shares in the
smaller RBOCs, such as BellSouth (BLS) or U S West
(USW), or should you go for the Great White of the
bunch, SBC Communications (SBC)?
Right now, SBC is a tantalizing stock. It closed on
Apr. 1 at $49, which gives it a price-to-earnings ratio
for 1999 of 20.5. That's a bargain for a company that
has averaged annual earnings growth of 20% for the
past five years. "It's our estimation that SBC is
undervalued," says Rex Mitchell, an analyst with
NationsBanc Montgomery Securities in San Francisco.
"They are growing just as fast as anyone in the
telecommunications sector, but their stock is much
cheaper." This is true despite the ability of CEO Ed
Whitacre and his team to squeeze more earnings out of
local calling services than any other Baby Bell. Bell
Atlantic (BEL), SBC's largest competitor, earns about
one-third less from its local business than does SBC.
It might not be fair to compare SBC to the other
RBOCs much longer though. "Soon, a better
comparison might be to MCI WorldCom (WCOM) or
AT&T (T)," says Lehman Brothers analyst Blake Bath,
who raised his rating to a strong buy on SBC on Apr.
1. "This company is getting a larger share of its revenue
from data and consumer high-speed traffic than it ever
did before, and it will soon be in the long-distance
market also."
QUID PRO QUO. The key to SBC's near-term stock
performance, however, is not if it becomes a player in
the long-distance market, but when. While the Justice
Dept. has approved SBC's merger with sibling
Ameritech, the Federal Communications Commission
will have the final say. For SBC to get FCC approval,
it has to make significant progress in opening its local
markets to competition. If it does, the FCC will allow
SBC to enter the long-distance market sooner rather
than later.
The Ameritech merger has some investors salivating
because of the presumed efficiencies the merged
company will gain. When SBC bought Pacific Telesis
two years ago, it was able to raise that company's
earnings by 39%, via superior marketing techniques --
and wholesale layoffs. By aggressively marketing such
high-margin services as call waiting and conference
calling to existing customers, SBC improved overall
margins. Most analysts think it can do the same with
Ameritech. That company already squeezes plenty of
productivity out of its workers (it has the lowest
number of employees per 10,000 lines of any Baby
Bell), but its marketing machine has been far less
effective than SBC's.
SBC has other things going its way, too. Right now, the
high-profit data-traffic business accounts for only 10%
of SBC's revenue. But 30% of the company's revenue
growth comes from data traffic. And Lehman's Bath
estimates that it could account for one-third of all
revenue and nearly all revenue growth within three
years. Wireless traffic is also a major growth area for
SBC, which should be much more competitive in that
market after the Ameritech merger. At that point, SBC
will have a national network with which to compete
against AT&T.
Another significant source of growth could be the
high-speed DSL Internet access service that SBC is
rolling out aggressively. "They are getting 1,000 new
customers a week on the consumer side alone, and that
number should grow to 5,000 a week at the end of the
year," predicts Bath.
THE FINAL WORD. DSL service is also a winner because
of its relatively low infrastructure costs. "All they have
to do is give the customer a modem and put in a new
device at the central station," says Merrill Lynch analyst
Dan Reingold. "It is not capital-intensive, and it is
already enjoying a high success rate, which makes me
think that it should start showing up on the bottom line
pretty soon."
The next 12 months should be exciting for SBC
shareholders. Regulatory reviews in Ohio (due in two
weeks) and Illinois (due by June), will hint at SBC's
long-distance strategy. The FCC ruling, expected by
July, should be the final word on whether the
Ameritech merger will fly. In addition, analysts expect
that at least one RBOC, possibly SBC, will get
approval to enter the long-distance market before
2000.
"All SBC has to do is deliver consistent earnings
growth over the next four quarters, and this stock
should do well," says Merrill's Reingold. "That
shouldn't be a problem because they haven't had
trouble doing it in the past."
CNA May Command Quite a Premium
Property and casualty insurer CNA Financial (CNA)
and its parent, Loews (LTR), which owns 85% of
CNA, have been sorry losers in this long bull market.
CNA (CNA) hit a low of 33 in February, before
edging up to 38 13/16 on Mar 31. It's down from its
52-week high of 53. And Loews (LTR), at 74, is way
off its high of 107. But hold on: It's not the time to give
up on either--if whispers about a Loews restructuring
are on the money.
Loews is pre-paring to sell off its controlling interest in
CNA, say some investment-banking sources, and may
use the proceeds to repurchase 20% to 25% of its own
shares, for more than Loews's current stock price.
Rumors say that one buyer being courted by Loews
Chairman Laurence Tisch is Berkshire Hathaway,
Warren Buffett's holding company. Berkshire is already
in the business through its car insurer GEICO and
reinsurer General Re.
In a buyout, CNA is estimated to be worth 60, which
would value the company at $11 billion, according to a
strategist at one investment bank, who argues that it
would make sense for Berkshire to acquire CNA, the
nation's No. 3 property and casualty insurer.
CNA's 1998 revenues totaled $17.1 billion, and assets
were $62.3 billion. CNA posted a fourth-quarter loss
of $1.34 a share, or $246 million, excluding charges
and gains on security sales, compared with a profit of
55 cents, or $105 million, in 1997's fourth quarter. ''A
deteriorating market, losses from catastrophes, and
sizable additions to reserves have led to a
near-evaporation of operating earnings,'' notes Jay
Cohen of Merrill Lynch. But he figures CNA could still
earn $1.50 a share for all of 1999 and $2 in 2000.
There is also conjecture that Loews may sell other
assets, including its Lorillard unit, the No. 4 U.S.
tobacco producer, and its 53% stake in Diamond
Drilling, which owns offshore rigs. Loews, which owns
14 hotels in the U.S., Canada, and Monaco, also
controls watchmaker Bulova. Loews's co-President
Jim Tisch says he doesn't comment on ''blind rumors.''
BY GENE G. MARCIAL
Jaffe writes about the markets for Business Week
Online
Investors, Don't Sow Your Seeds Too
Soon
To hear DuPont (DD) and Monsanto (MTC) tell it, the
life-sciences business has limitless potential. But for
those looking for an opportunity to invest, the key
word is ''potential''--the big payoff from biotech
agriculture will likely be years in coming. Investors
need to pick players that not only have an edge in
developing genetically engineered products but also
have solid growth in other, less glitzy businesses.
The life-sciences company best able to fill both halves
of that equation is Monsanto. It is the clear leader in
biotech crops, but more important, Monsanto's
traditional drug business is getting a big boost from its
hot new arthritis treatment, Celebrex. Merrill Lynch &
Co. analyst John E. Roberts figures Celebrex will hit
$2 billion in sales by 2002. Combine that with the
strong ag business, and Roberts expects Monsanto's
earnings per share will soar 88% this year and 33% in
2000, to 75 cents and $1, respectively. The stock now
trades around $46 per share, but Jeffrey Cianci,
portfolio manager at Jesup Capital, says a fairer price
for Monsanto would be $70.
HEADWIND. The outlook is not so rosy for
life-sciences companies that still have a big stake in
cyclical businesses. DuPont Co. generates just under
14% of its $25 billion in annual revenues from life
sciences. To give Wall Street a better handle on the
returns of its new ventures, DuPont announced plans in
March to create a tracking stock for its life-sciences
business. But Merrill's Roberts says that DuPont's
current share price of about $57 already places a fair
valuation on both life sciences and other operations.
Dow Chemical Co. (DOW) is also facing heavy
pressure in commodity chemical businesses--with no
upturn in sight. While Dow management is doing a
good job, HSBC Securities analyst Paul T. Leming
notes: ''The question is how long it takes--one, two, or
three years--before the wind is at their back instead of
in their face.''
Pharmaceutical companies trying to break into life
sciences at least have the advantage of a robust
underlying industry. But they still need enough new
drugs in the pipeline to support growth until agro-tech
investments kick in. Sanford C. Bernstein analyst Dr.
Terrence W. Norchi has a hold rating on Novartis
(NVTSY), even though the stock is trading at more
than a 20% discount to its rivals. Norchi worries that
because Novartis doesn't have a stellar pipeline of new
drug and ag products, annual sales and earnings could
grow only 5% and 8% respectively over the next five
years.
The merger of Zeneca Group (ZEN) with Swedish
competitor Astra (A) to form AstraZeneca PLC may
offer investors a better option. Analyst Viren Mehta of
Mehta Partners LLC expects the combined company
to generate significant cost savings. Zeneca's stock,
currently at $48 a share, is under pressure on Wall
Street assumptions that Astra's $5 billion ulcer drug
Prilosec will face swift competition from generic
knockoffs when its U.S. patent expires in 2001. But
Mehta expects a string of secondary patents to keep
rivals at bay for a while.
There is less enthusiasm for the other pending
life-sciences merger--Hoechst (HOE) and
Rhone-Poulenc (RP). The new company, Aventis,
plans to dispose of its chemical businesses, but that
could take some time. Aside from Hoechst's $470
million allergy drug Allegra, Mehta doesn't see any
stars in the two companies' drug lineups in the near
term.
And that could well outweigh any jazzy new engineered
crops in the labs.
By Amy Barrett in Philadelphia |
