November 29, 1999 4:00 AM PST

Tracking stocks take on the telecom world

Sometimes the sum of a large company's parts is not greater than the whole.

Large communications companies have learned this lesson the hard way as investors shun their stocks while snatching up shares in Internet, e-commerce and broadband companies.

Eager to catch the attention of tech-hungry investors, communications companies are increasingly offering stock in their various operating divisions.

AT&T is the latest company to consider offering what is called a "tracking stock" for one of its business units. Last week, Excite@Home announced it would divide its stock to gauge the performance of its content and media division. Other telecommunications firms such as Sprint and US West have already offered tracking stocks.

Companies offer tracking shares to give investors a chance to "track" the performance of a specific piece of their business, such as a wireless or Internet division, separately from a firm's core business.

The tracking stock trend is largely driven by the wave of consolidation in the telecommunications industry in recent years. Through acquisitions, many large firms have brought many different businesses, like phone, cable, Internet, media and wireless, together under one corporate roof.

As a result, the stock prices of many large companies fail to reflect the high valuations that individual pieces could fetch on Wall Street. Some analysts say the situation has held back otherwise strong stocks, such as AT&T.

The numbers tell the tale. AT&T, one of the worst performing stocks among the Dow Jones industrials, is up just 5 percent since the beginning of 1999. By contrast, shares in Sprint's wireless division have gained close to 300 percent, while Nextel--the only other nationwide wireless phone company--has risen nearly 400 percent.

Analysts and stock watchers in general support firms that plan to offer tracking stocks, as long as the strategy is followed through correctly.

"It's a win-win situation if you can successfully track what you're looking to track," said Ananth Madhaven, a professor at the University of Southern California's Marshall School of Business. "It forces more rational, market-based decision-making."

When a firm constructs a tracking stock, it essentially creates a new set of shares focusing on a specific piece of that company's business. The business is still part of the larger firm, however. This is different from when companies sell or "spin off" a division or unit.

This tracking stock strategy is particularly useful for large conglomerates or for companies like AT&T that have sizable divisions that focus on markets very different than their core business, analysts say.

For example, should AT&T be valued as a cable company, Internet access provider or long distance telephone company? It is a major player in all three markets.

"Wall Street likes simple, uncomplicated investment stories, preferably one-line stories," said Jeffrey Hooke, managing director of investment bank Hook Associates. "There has always been a discount for conglomerates."

Owners of tracking shares still are essentially investing in the parent company, unless the firm later decides to sell a division outright. For example, US West originally offered tracking stock for its MediaOne cable arm, but then decided to sell the unit in 1998.

Media companies such as Disney also are increasingly latching on to the strategy to separate their Internet operations from their traditional business.

Analysts say that investors should be aware that holders of tracking shares are not privy to many of the voting rights and protections given to shareholders that hold stock in a parent company.

Despite the potential downside, tracking stocks are increasingly seen as a valuable way to untangle the web of acquisitions made by companies such as AT&T.

The telecommunications giant is the most extreme case, with its string of cable and wireless acquisitions that has made it the largest wireless phone operator, as well as one of the largest cable firms, in the United States.

In recent months, investors have adopted a wait-and-see attitude toward AT&T stock as the firm fleshes out its plans for its cable TV and high-speed Internet businesses. Meanwhile, pure wireless stocks have made strong gains, prompting its executives to consider their own wireless tracking stock, analysts said.

"This would shift the discussion from execution risk in cable to AT&T Wireless, a business in which the company is knocking the cover off the ball," wrote PaineWebber research analyst Eric Strumingher in a report on a possible AT&T tracking stock last week.

Excite@Home executives plan to offer a tracking stock for the Excite media business, which was folded into the @Home Network just six months ago. Questions about the combined firm's overall strategy have kept Excite@Home stock from climbing lately.

Making a tracking stock work is a tricky endeavor, and the strategy is most effective if the different divisions of the company are genuinely separate, analysts say. If the divisions share infrastructure or investment benefits, then accounting for shared resources becomes difficult.

This problem spurred US West to sell its MediaOne cable division after offering a tracking stock for the unit. In contrast, stock in Sprint's PCS division has climbed over the last year, giving that company substantial new capital with which to fund the deployment of its network.

"The two kinds of investments have to be very different," said Rex Mitchell, a financial analyst with Banc of America Securities. "Then it can work very well."

 

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