AT&T Wireless: Ma Bell's Other Gem


By Olga Kharif Comcast's $40 billion offer to buy AT&T Broadband on July 8 has the Street speculating about an impending bidding war for Mike Armstrong's cable television assets and shareholders salivating for a big payout. But another part of AT&T's kingdom could give investors just as much bang for the buck -- if not more.

Many analysts expect AT&T Wireless (AWE) stock to soar in the next 12 months. The shares now trade at $17. But Morgan Stanley Dean Witter has a 52-week target of $26 on the stock. The shares are trading at a 41% discount to their fair value, estimates Morgan Stanley. And Lehman Brothers predicts a climb to $44 per share.

Why the big upside? AT&T Wireless has the healthiest balance sheet of any public wireless company, with $10.6 billion in cash to $8.4 billion in debt. "It's a growth company trading at non-growth company valuation," says Patrick Comack, an analyst with investment bank Guzman & Co. "It's a steal." How much of a steal? The company is trading at the same valuation in terms of revenue growth as the slow-growing, old regional wire-line telecoms, says Comack.

Of the nationwide wireless carriers, only Sprint PCS (PCS) rivals it as a wireless bargain, say analysts. Morgan Stanley believes Sprint PCS will grow from around $20 a share to $36 within 12 months. Sprint's second-quarter revenues, reported July 19, reached $2.26 billion, up 53% from the same period last year.

CAUGHT IN THE STAMPEDE. Sprint, however, is a much smaller company. Of the heavyweights, AT&T Wireless, the nation's third-largest wireless carrier, is the best performer, says William Power, an analyst with Robert W. Baird & Co. The company's subscriber growth is higher than the industry average -- Morgan Stanley expects its user base to reach 23.6 million in 2003, up from 15.7 million today. And AT&T Wireless's customer-acquisition cost of $320 per person is lower than most companies -- including that of Sprint PCS, says Comack.

More importantly, AT&T Wireless' business is expected to grow at a 23% annual rate through 2005, according to Morgan Stanley. That's much higher than the expected 12% to 13% growth for market leader Verizon Wireless. Verizon, which delayed its initial public offering (IPO) in the fall of 2000, is expected to go public before the end of 2001.

Why is AT&T Wireless stock so low? With the telecom industry hit hard by the economic downturn, investors have been avoiding anything phone-related like the plague. Says Comack, wireless companies "are getting crushed in the stampede."

Too bad. Wireless is a high-growth sector, projected to nearly double, from $53 billion this year to $98 billion by 2003, according to Morgan Stanley. The jump in demand for wireless services, such as mobile Internet access, will drive those numbers, as will the growth of voice users. U.S. cell-phone subscribers are projected to increase from 110 million last year to 180 million in 2003.

AOL DEAL. To be sure, the economic slowdown may be putting a temporary crimp in growth. In the long run, however, AT&T Wireless could profit nicely from that wireless-market expansion. The company is expected to post $3.2 billion in revenues when it reports second-quarter earnings on July 24, according to 20 analysts polled by FirstCall. That's up slightly from last quarter, and more than 30% better than second-quarter 2000 results. While it is expected to announce a 1-cent loss per share for the second quarter, AT&T Wireless should attain profitability in 2001 -- and analysts expect the solid growth to continue.

Recent deals have further strengthened AT&T Wireless' hand. On June 27, the company struck a deal with America Online (AOL) to put Instant Messenger and AOL Online services on AT&T cell phones. That could unleash a flood of AOL users. And on July 17, AT&T Wireless launched a new high-speed data service in Seattle, one that provides Internet access to cell-phone users at speeds as much as 10 times faster than other wireless providers. According to Luiz Carvalho, an analyst with Morgan Stanley, those data services are priced right and will generate a lot of demand.

What's more, AT&T Wireless's nascent experiment with pre-paid plans could pay off big time. Today, U.S. cell-phone penetration stands at 35% of the population. But only 30% of young people 15- to 17-years-old own them, according to Jupiter Research. AT&T Wireless is trying to reach out to this underserved segment, as well as elderly consumers. Unlike most other wireless companies, which provide clunky old phones, AT&T Wireless is offering state-of-the-art digital phones to pre-paid customers. The company hopes that customers will later "graduate" to more pricey services, explains Bob Johnson, executive vice-president at AT&T Wireless.

MARGINAL CONCERNS. With its strong balance sheet, AT&T Wireless has the luxury of being able to make strategic acquisitions with the goal of reducing roaming costs and buying better coverage. Analysts speculate future buys could include Bellevue (Wash.)-based Western Wireless Corp. (WWCA) and Triton PCS (TPCS). AT&T Wireless will pay Triton $100 million in roaming fees this year alone, says Baird & Co.'s Power. In fact, the buying process may already be underway. On July 3, the company bought an additional stake in Rogers Wireless Communications (RCN) for $380 million, increasing its ownership in the Canadian carrier from 19% to 34%. AT&T Wireless would not comment on any merger or acquisition plans.

To be sure, not everything is bright and shiny for AT&T Wireless. The company's margins, though twice the industry average, are lower than that of competitors Cingular and Verizon, says Power. But Guzman & Co.'s Comack insists that means AT&T Wireless has a tremendous room for growth.

Another factor: There's some concern that operating multiple networks could burden the company with higher overheads, says Alex Trofimoff of Bernstein Investment Research. AT&T Wireless will need to spend a hefty $5.4 billion this year and $5.6 billion more in 2002 to build out data networks, estimates Morgan Stanley's Carvalho. Its move into prepaid could also increase customer churn, says Simon Reeves, analyst with Pacific Crest Securities.

MERGER BAIT? Despite those worries, the company looks attractive to many investors -- and maybe even some suitors. Andrew Cole of tech consultancy Adventis expects AT&T Wireless to be bought within 18 months. Possible buyers, according to Cole, are France Telecom (FTE) and NTT DoCoMo (NTDMY). Cell-phone savvy NTT already owns a 16% stake in AT&T Wireless, a seat on its board, and a veto vote over any new minority investors into the company. Meanwhile, European heavyweight France Telecom has expressed interest in entering the U.S. market, says Power. Another possibility could be a merger with a U.S. company. VoiceStream Wireless or Cingular Wireless, which have networks based on similar technologies, seem the likely choices.

Analysts warn that the company's near-term stock performance might not prove stellar, due to a dramatic increase in the number of shares traded as AT&T dumps more of its stake in the company. In the long run, though, AT&T Wireless could be a keeper. "If you are willing to sit through some ups and down [near-term], ultimately you are going to do well with the stock," predicts Power. Bottom fishers, take note. Kharif covers the market for BW Online in New York


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