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APRIL 24, 2002 STREET WISE By Olga Kharif AT&T Wireless: Worth Holding the Line? Despite a positive earnings report and Street speculation about a merger with Cingular, the prospect of profits is anything but clear
The Redmond (Wash.) company managed to increase revenues even though its net loss, which included the impact of a required accounting change for the industry, widened to $176 million, or 7 cents a share, from $42 million (2 cents) in the year-ago quarter. Sales were $3.4 billion, a 14.6% increase on the same period in 2001. The largest publicly held wireless services provider also added more customers than expected: 650,000. The forecast was for 425,000 to 600,000. "AT&T Wireless is more competitive and is offering our customers more valuable services than we did a year ago," said Chairman and CEO John Zeglis during the earnings conference call. UPHILL BATTLE. Wall Street took the news well. AT&T Wireless' stock rose more than 8%, to $8.78. But is it a good bet? Of 31 analysts, 21 rate it a buy or strong buy, believing that the shares are undervalued compared to AT&T Wireless' industry peers. The analyts feel the shares could reach $11 to $17 within 12 months. Down 62% from a year ago, the stock is near an all-time low. However, AT&T Wireless faces an uphill battle in its bid to become profitable, which could keep any rally in check. Perhaps more important, even if persistent rumors turn out to be true that a company -- Cingular would be the most likely candidate -- will bid for or merge with AT&T Wireless this year, it's far from certain the stock would spike in anticipation of such a deal. Barring a competing bid, the shares could be stuck in neutral. Also, analysts say AT&T Wireless wouldn't necessarily remain a public company if it was acquired by privately held Cingular. A more likely scenario would be for AT&T Wireless to merge with Cingular in what's called a reverse initial public offering. Under this scenario, Cingular would get the majority of seats on the board of the new, publicly traded company. Financing such a deal could force the issuing of more stock, however, further diluting the value of the new entity's shares. The companies declined to comment on the merger speculation. HIGHER COSTS. Investors should also keep in mind that federal regulators could oppose a Cingular-AT&T Wireless deal, which would create a wireless provider with more than 40 million customers and eclipse what's now the nation's largest provider, Verizon, with upwards of 30 million customers. Speculation aside, AT&T Wireless' biggest near-term problem is the high cost of operating its networks, says Alex Trofimoff, an analyst with Sanford Bernstein. Its costs are 10% to 15% higher than those of rivals because it has to run networks based on several different technologies. (Competitor Sprint PCS's network is based on one, Trofimoff says.) That adds up to $2 per month per customer in extra costs -- and, consequently, lower margins. AT&T Wireless' margins hover around 24.7%, estimates Rick Black, an analyst with Blaylock & Partners, vs. Cingular's 31.6%. Furthermore, AT&T Wireless' revenue per user -- a key barometer in the industry -- continues to fall, mostly because of price-cutting to lure new customers. The ratio has been declining steadily for two years -- from $68 in 2000 to $63 in 2001 to $58.60 in the past quarter, says Peter Friedland, an analyst with W.R. Hambrecht. STRONGER FINANCIALS. And there's no end in sight to the competitive price-cutting. AT&T Wireless this month unveiled several national pricing plans allowing users to roam within its network for free, responding to a similar move from Cingular, the sector's second-largest player. AT&T Wireless is doing a lot of things right. Blaylock's Black says despite $17 billion in debt on its balance sheet, AT&T Wireless is considered to have the strongest financials of any publicly held wireless player. In fact, AT&T Wireless says its debt, excluding short-term liabilities and a recent $3 billion bond offering, is $8.2 billion. And its customer turnover rate fell to 2.6% in the first quarter, from 2.7% the previous quarter. Plus, it expects to acquire 550,000 new customers in the current period. While that's 15% less than it added in the first quarter, that's still better than what's expected for most of its rivals, says Patrick Comack, an analyst with Guzman & Co. Still, it's becoming clear that the slowing pace of subscriber growth will make it harder for AT&T Wireless to become cash-flow positive in the next couple of years. Analysts calculate it should get there by mid-2004 -- but that remains a distant horizon in an increasingly cutthroat industry. LITTLE OVERLAP. A union with Cingular "would be a marriage made in heaven," says Todd Bernier, an analyst with investment service Morningstar. The companies already share network build-out costs in nine states. They also bet on the same advanced wireless technology to allow for fast delivery of data to mobile devices. So far, their networks based on the common technology barely overlap: Only 2 of the 64 markets in which they both operate have more than one network, estimates Adam Guy, an analyst with Strategis Group." Of course, talks with Cingular, which was formed as a joint venture between SBC Communications (SBC ) and Bell South (BLS ), could be just that -- talks. "I wouldn't be surprised if everybody is talking with everybody," says Guy. Meanwhile, as revenue growth continues to slide and positive cash flow eludes the industry's players, "there's nothing AT&T Wireless could point to and say, 'This is why we deserve a premium,'" says Trofimoff. Under some scenarios, its stock might get back up above $15 a share, but the odds don't seem to favor such a move. And that makes AT&T Wireless anything but a sure bet for investors.  Kharif covers technology from Portland, Ore. Edited by Beth Belton Get BusinessWeek directly on your desktop with our RSS feeds.  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