A few telecom companies are worthy of investment

Dollars & Sense

September 15, 2002|By Michael Hodel | Michael Hodel,MORNINGSTAR.COM

Telecom remains mired in a painful downturn. Recent events, notably the implosion at WorldCom, have proven that our assessment of risk across the industry was flawed. The propensity for deceit and outright fraud were far greater than we imagined.

In this wake, a new fear has surfaced that formerly bankrupt firms will emerge debt-free, giving them the strength to undercut prices and bring down the healthiest of firms. Amid the continuing doom and gloom, though, we still think there are telecom firms that will rise above the current mess and are worthy of investment.

Given the vastly differing characteristics of firms within the industry, we've traditionally segmented our telecom picks according to risk level. We're now reluctant to recommend anything but those stocks with the least amount of relative risk - not only because the bar for survival continues to inch upward, but also because the stocks of the most solid firms have sold off sharply.

The regional Bells are the most notable of the "lower-risk" group. Our favorite here is SBC because it has the best balance sheet of the bunch, and we think it stands to take advantage of the current telecom situation. We also like Verizon because of its dominance of the New York market, rapid progress on long-distance approval and majority stake in industry leader Verizon Wireless. Verizon's debt level, in absolute terms, does scare us a bit, though.

Outside of the Bells, we continue to like Alltel. The company's rural local-phone business, recently expanded thanks to the acquisition of phone lines from Verizon, provides a steady cash flow. Alltel's business is more heavily weighted toward wireless, which we think complements the wireline business nicely. Wireless is very competitive, though, so we've granted Alltel only a "narrow" moat rating.

One stock from previous telecom lists deserves mention here: Qwest. Over the past several months, Qwest has been battered by a steady stream of bad news - much of it self-inflicted. As reports of SEC and Justice Department investigations surfaced, we decided the risk facing the firm had grown too great and we pulled our star rating from the stock.

Still, we believe this company's assets are worth far more than the market is crediting. Recent positive events - including the sale of the directory-publishing business and the eviction of old management - have led to renewed confidence in our ability to pin a value on the business. Look for a new fair value estimate, and possibly a return to our favorites list, in the future.

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