Core Concepts: Telecom Bargains

This column was originally published on RealMoney on Feb. 8 at 2 p.m. EST. It's being republished as a bonus for TheStreet.com readers. For more information about subscribing to RealMoney, please click here.

As regular RealMoney readers know, I've been doing a sector-by-sector search for undiscovered value, and today that leads me to the formerly beleaguered telecommunications group.

In yesterday's column, I promised to name the No. 1 bargain among all big-cap stocks. (Plus, check out my two previous columns on chemical stocks and the computer and office-supply sectors.)

The telecommunications industry boasts a number of interesting companies -- and a number of potentially attractive stocks. Leading companies in this sector include AT&T (T), Alltel (AT) and Verizon (VZ). Let's take a closer look at three that are particularly interesting right now.

Qwest Communications: Patience Pays

Qwest Communications (Q) is an object lesson in the value of patience. As you can see in the price chart below, the stock made no progress for three years, then more than doubled in one year, from $4 per share in late 2005 to more than $8 in late 2006.

Qwest illustrates a lesson that committed value investors have to learn: An investment can be working below the surface, so to speak, even if it goes unconfirmed by the stock price. Starting in 2003, there was methodical and consistent improvement in Qwest's operating metrics, from margins to working capital to the nominal levels of debt to free cash flow.

The company's intrinsic business value increased in concert with the operating improvements in 2003, 2004 and 2005, but the market gave the stock no credit. Then, after these three consecutive years of increasing business value, the stock price finally caught up to what was happening beneath the surface. Over about 10 months, the stock jumped 100%.

Embarq: One to Watch

Embarq (EQ), a leading wireline provider with an $8 billion market cap, is a recent spinoff from Sprint Nextel (S). This is a stock that conservative investors might consider keeping an eye on. It's not a growth story; growth in the telecommunication industry is in the wireless category. However, it is an interesting balance-sheet story, as the company is burdened by $6 billion in debt.