As cable stocks closed out an upbeat year with another
upward move, Wall Street analysts sounded positive notes for 1999, too.
For the second straight year, major MSO stock prices rose
about 80 percent during 1998. The stocks turned in "a massive outperformance two
years in a row," said SG Cowen Securities Corp. analyst Gary Farber.
Measured as a multiple of a company's running-rate cash
flow, the big cable stocks are trading above 15 times cash flow, compared with a multiple
of about 11 at the start of the year. The group's trading multiple has now risen for seven
straight quarters, according to Goldman Sachs & Co. analyst Lou Kerner.
Put another way: The stock prices are three-and-a-half
times above their lows in the spring of 1997.
Only a few hardy analysts dared to declare that cable
stocks had peaked in 1998. The best-known example was Morgan Stanley & Co.'s Richard
Bilotti, who turned bearish in January and then reversed course to turn bullish again in
Looking ahead, most analysts seem to feel cable stocks can
maintain their run.
"We still are very favorable towards the group
overall, current stock prices notwithstanding," Kerner said.
Janco Partners & Co.'s Ted Henderson, though,
recommends holding cable stocks at current prices and buying when prices dip. He thinks
those dips are likely to occur as operators occasionally stumble in their efforts to
deploy digital set-tops, standardized cable modems and telephone services in large
"They're shooting a three- or four-cushion shot
here," he cautioned, using a billiards analogy. Ramping up several new product lines
at once is complicated and unpredictable, he added.
But then again, Henderson said he had figured 1998 would be
a deployment year. Instead, "Ninety-eight turned out to be a validation year,"
he said, as such strategic buyers as AT&T Corp. and Paul Allen paid high prices for
cable's broadband distribution potential.
More "validation" will no doubt come when
AT&T wraps up telephone partnership deals with Time Warner, TCI affiliates and other
MSOs. After the announcement comes the hard work and expense of building the phone
business, though, and the chance for some disappointments along the way.
Investors are paying for cable's potential, and not for
accelerating profits over the next quarter or two, the analysts said.
"There's no clear anchor for valuation today,"
Farber said. "It's not growth and it's not the deal market." Even AT&T's
purchase price for Tele-Communications Inc. worked out to "only" about 14 times
estimated 1999 cash flow, he added.
TCI's current stock price, moving up along with AT&T's,
is north of a 16 cash-flow multiple.
Kerner and Henderson both noted that MSO stocks are priced
to reflect how the companies will be performing a few years out. If the new services
deliver as promised, the companies' cash flow could be growing at 15 percent or so per
year, enough to justify current multiples, Kerner said.
Investors are going to be paying attention to four factors
next year, in Farber's view. They include: new services -- ones already being rolled out
and others still to be introduced; and further investment or outright acquisitions by big
noncable companies, a la AT&T or Microsoft Corp.'s investment in Comcast Corp.
"On the risk side, [one concern] is going to be
regulation," Farber said.
Although most analysts believe AT&T will complete its
TCI acquisition without being forced to open the cable network up to rival service
providers, that possibility remains for later, he said.
Competition, especially from a consolidated
direct-broadcast satellite industry, is the other big risk factor.
Farber said he likes Comcast, the fourth-biggest MSO. It is
in the process of converting noncash-generating assets such as its AT&T stock and
Sprint PCS holdings into cable system acquisitions. It's likely to swing a deal with
AT&T to start offering bundled phone services. And QVC Inc., the lucrative
home-shopping network it controls, is an important hedge against slower cash-flow growth
because of investments in the new services.
Kerner pointed to Cablevision Systems Corp., which, despite
a huge run-up over the past two years, trades at a discount to the group by the
cash-flow-multiple measure. The company's New York cluster has attractive demographics and
there may be ways to unlock value from its Rainbow Media Holdings Inc. programming and
Cablevision Lightpath Inc. phone units.
Henderson said he looks abroad, to international MSOs NTL
Inc., of the United Kingdom, and United International Holdings Inc., which operates in
several European countries.
"My sense is that the international stocks haven't
quite moved in the broadband arena the way the domestics have, and they're definitely
priced that way," he said.