Citing a favorable valuation, break-up plans, and a strong wireless business, Morgan Stanley upgraded AT&T (NYSE:T) from "neutral" to "strong buy" and set a price target of $35.
The brokerage, which has kept AT&T at a "neutral" rating for several years, acknowledged that risks still exist with the stock - particularly regarding the long distance business and debt issues - but now sees a significant upside to the company's position. Shares of Ma Bell rose 8.72 percent, up 1.75 to 21.81.
In a research note, analyst Simon Flannery was bullish. "We now feel that these risks are very well understood by the marketplace, that the valuation is compelling, and that there are significant catalysts to drive stock price performance in the next 6 to 9 months," he wrote.
For Flannery, the upgrade was due to events on a number of fronts.
First, the current valuation is seen as attractive. According to Flannery, after dropping 66 percent in 2000, AT&T's current stock price now adequately reflects the fundamental challenges facing the company. For the analyst, the "overly negative" view of the company warrants his $35 valuation, a 75 percent upside from current levels.
Second, the note highlights the company's previously announced four-way split as another element raising shareholder value. Shortly, the company plans an exchange offer where investors in AT&T may exchange their shares for stock of AT&T Wireless (NYSE: AWE). Later next year, the company has said it will spin off its broadband unit, distribute the rest of AT&T Wireless and create a tracking stock.
"We believe that the break up plans announced by the company will act as a catalyst for outperformance over the next several months," Flannery said.
Third, the analyst said that the strength of AT&T's wireless business, which is rated "outperform" at Morgan Stanley, along with a strengthening cable business also bode well for the company.
"We believe that AT&T Broadband may reach an inflection point this quarter, setting the stage for solid margin improvement and strong revenue growth starting in the fourth quarter 2000," Flannery wrote.
However, the research note did highlight some of the risks involved with Ma Bell's stock. Flannery said that the outlook for the long distance business remains difficult, with 2001 earnings before taxes, interest, depreciation and amortization forecast to drop 17 percent year-over-year.
The analyst also described the company's credit position as "challenging", with AT&T reporting debt of some $62 billion.
Flannery pointed to positive developments on this front, including the recent cash infusion from NTT DoCoMo, a $25 billion bank debt facility, and the 83 percent dividend cut.
"AT&T today is far removed from the Ma Bell of previous years. Investors should buy the stock with the understanding that the risk reward is favorable, but the risks remain substantial particularly in long distance and credit quality," Flannery summed up.