PacTel Goes Fishing for Some Excitement

Give Pacific Telesis credit for admitting what its shareholders have been feeling: This has been a terrible stock to own for the last two years. Something has to be done to fix it.

Wall Street’s initial reaction to the possibility of splitting PacTel in two was mostly favorable on Thursday. PacTel’s stock rose $1.75, or 4.4%, to $41.75 on the New York Stock Exchange.

Some shareholders were effusive. “We think it’s a great idea,” said Larry Sondike, vice president at New Jersey-based Mutual Series Funds, a large PacTel shareholder.

PacTel management has a number of reasons to believe that separating the basic phone company from faster-growing offshoot businesses might make sense. But this proposal would never have surfaced except that PacTel’s stock--like those of most former Baby Bell regional phone companies--has been a dog since 1989.

The stock reached an all-time high of $51.50 early in 1990, but since then has fallen sharply, recently trading at $36.875. In contrast, the Dow Jones industrial average has leaped from 2,800 to 3,366 in the same period.

The pain of that performance (or lack thereof) has been suffered mostly by individual investors, who still own the majority of stock in PacTel and the other Baby Bells.

PacTel believes that it’s misunderstood and thus undervalued by Wall Street, and many analysts agree. What most investors still see is a stable if boring local phone company hurt by the recession. What the company wants to play up is its heavy investment in new growth areas--for example, cellular phone systems in the United States, Germany and Portugal, and cable TV in Britain.

The answer, management suggests, is a page out of the 1980s’ corporate strategy book: Break up the company, and the sum of the parts should be worth more than the current whole.

Almost everyone on Wall Street believes that would indeed be the case. But the stock’s tepid reaction on Thursday hints that the sum of the parts might not be that much more than the whole.

William Deatherage, analyst at S. G. Warburg Securities in New York, figures the basic phone company should be worth about $32.50 a share on its own. He calculates that based on the phone company’s expected earnings and dividend payment as an independent unit, and how other pure utility stocks trade relative to current bond yields (because bonds compete with utility stocks in the fight for investors’ dollars).

Meanwhile, the offshoot businesses such as cellular and cable should be worth about $16.50 a share, Deatherage figures. That number takes into account the stock prices accorded to other pure cellular phone firms, based on the estimated future value of their young and growing franchises.

So if Deatherage is right--and he believes that he’s conservative--a split would give PacTel shareholders $49 in two stocks, versus the current price of $41.75 for the whole package.

That means shareholders could potentially see a 17% rise in the value of their investment from Thursday’s price. That’s nice, but it’s hardly a windfall.

What’s more, splitting the company wouldn’t necessarily solve PacTel’s larger problems in the basic phone company.

PacTel’s local phone operations are increasingly under siege by California’s weak economy and by cutthroat competition from small telecommunications firms eager to sell services to PacTel’s business customers. These competitors don’t have to deal with the regulatory system that keeps PacTel’s business rates high, effectively subsidizing consumer rates.

Joel Gross, analyst at DLJ Securities in New York, says PacTel must cope with “the secular issue that competition is becoming much more prevalent.” What long-distance upstart MCI Communications did to AT&T; in the 1980s, Gross says, is what smaller telecommunications companies are doing to the plodding Baby Bells in the 1990s.

PacTel knows what it faces, of course, which is why the company last year slashed 10% of its work force. But many analysts believe that a certain victim of increasing competition will be the healthy dividend growth that PacTel shareholders have come to expect.

In 1990, PacTel raised its dividend 7.4%; in 1991, 5.9%; this year, the dividend increase (announced a few weeks ago) was a mere 1.9%.

With an annual dividend payment of $2.18 a share now, the yield on the stock is 5.2%. That’s better than a money market fund, but it still lags the yields on most other Baby Bells. They yield more because Wall Street thinks less of their stocks’ prospects.

So the question is how much lower PacTel’s image has yet to sink in a still-decelerating California economy. Even if the phone company is split off, it’s not apparent why the stock should do more than languish in the market, assuming PacTel’s competitive battles continue to limit its dividend generosity with shareholders.

“This is not going to be the utility-dividend stock that it used to be,” Gross warns.

Meanwhile, there’s little question that PacTel’s offshoot businesses will someday provide a hefty payoff for shareholders. But the company’s investments in foreign cellular systems, in particular, aren’t expected to provide a meaningful return until after 1995. And there’s a lot of highway between here and there.

The bottom line, say many professional investors, is that whether or not PacTel splits itself, this isn’t likely to be an exciting stock (or stocks) again for many years.

If you’re an investor who relishes dividend growth, you can find it in many other stocks. And if it’s growth you want in telecommunications, long-distance companies and foreign telephone companies probably have much greater potential in the next few years, many analysts say.

It’s never easy to part with a stock you’ve held for a long time. Nonetheless, “I’d move on,” says Phil Dubuque, manager of the Financial Funds Utility portfolio in Denver.

Regional Phone Firms: No Bell Ringers?

Shares of most regional phone companies (the former Baby Bells) are trading near their 52-week lows, a reflection of their slow growth prospects. Meanwhile, stocks of long-distance companies and foreign phone companies have been much stronger.

Regionals

Thurs. close 52-week Div. Company and change high/low yld. NYNEX 74 3/4, + 7/8 82 3/8-68 6.2% US West 34 5/8, + 1/8 39 1/4-32 7/8 6.1% BellSouth 45 5/8, + 1/8 53-43 3/8 6.0% BellAtlantic 42 3/4, + 3/8 51-40 1/4 6.0% Ameritech 60 3/4, +1 1/8 66-55 3/4 5.8% Pacific Telesis 41 3/4, +1 3/4 45-36 7/8 5.2% S’Western Bell 61 1/2, + 1/8 66-49 4.7%

Long-Distance/Foreign Firms

Thurs. close 52-week Div. Company and change high/low yld. Sprint 24 1/4, + 1/2 31 3/8-20 3/4 4.1% Hong Kong Tel. 33 1/8, - 3/8 34-23 3/4 4.1% AT&T; 42 7/8, -- 43 1/8-35 1/8 3.1% ChileTel 55 7/8, -1 5/8 58 1/8-24 3.1% MCI 33 1/8, - 1/4 36 1/8-25 1/4 0.3% TelMex 56 7/8, -1 7/8 60 1/8-24 1/4 0.3%

All stocks trade on NYSE except MCI (NASDAQ).