New Economy, Watch Out: Here Comes AT&T

The New Economy apocalypse may now be at hand: AT&T (T Quote) is ready to spin off its soul, forsaking a gloriously profitable past for the money-burning, growth-obsessed future.

At least that's one way observers are looking at AT&T's possible decision to dump its longtime core business, consumer long distance. A sale or spinoff would achieve three objectives, observers say: removing that Old Economy albatross, the slow-growth toll-calling business; goosing the remaining company's growth potential; and offloading part of AT&T's $57 billion debt load.

Perhaps most important, a deal could temporarily quiet AT&T shareholders who are up in arms about the deep slide in the stock in recent years. And with tech investors focusing on growth to the exclusion of all else, most people think ditching the profitable yet growth-impaired long-distance business can't hurt an already hurting AT&T. The stock rose 62 cents Wednesday to close at $29.75.

Not Paying

"This is one of the greatest businesses in American history," says Lehman Brothers analyst Blake Bath, who has a strong buy on AT&T. Lehman was an underwriter for the AT&T Wireless (AWE Quote) IPO. "But in financial markets today, it's grow or die. [Long distance] is not a business with great growth characteristics. It's a business with phenomenal cash flow, but the market is not paying for that."

Downer AT&T gives up all its Armstrong-era gains

Source: BigCharts

And as absurd as it may sound to cast off its legendary flagship service -- a business that brings in annual revenue of $20 billion and some $8 billion in cash flow -- observers say it's necessary if AT&T hopes to emerge from its turnaround as the broadband player it has promised investors it would be.

As TheStreet.com first reported in July, AT&T has been mulling ways it could separate its core long-distance business, especially as that business's quickly evaporating revenue growth has helped drag the stock to a three-year low.

In June, AT&T hired Goldman Sachs to shop its long-distance business around, says a banker familiar with the situation. It's not clear if a spinoff or a decision to sell will be announced at earnings time toward the end of this month, but a move could come soon, says the banker, who asked not to be identified.

Turning It All Around

"This is exactly the kind of thing that AT&T's management team believes could change sentiment and possibly reverse the course of their stock," says Thomas Weisel Partners analyst Jim Linnehan, who rates AT&T a buy. "And that's really what this is all about." Thomas Weisel was a co-manager of the AT&T Wireless IPO.

AT&T declined to comment on the speculation about a possible sale or spinoff.

Thanks in large measure to the Internet and advances in fiber-optic communications, the cost of handling a call has dropped to a fraction of a cent. That means the bookwork and billing associated with a call are often more costly than the call itself. This has been a troubling trend, since AT&T's enormous customer base includes numerous people who make too few calls to be profitable for the company.

It had previously been understood that AT&T would be willing to ride down with its long-distance revenue, since the slow-growing unit provided the cash to help build the cable venture. But now, with shares trading at 29, the company has to appease its shareholders even if it means parting with the cash machine.

Off the Books

And as typical for spinoff transactions, the parent company could put a portion of its debt into the new entity. And "if you take debt off the books, that's as good as a payment," says Mark Minichiello, an analyst with Spin-Off Advisors, a Chicago-based research firm.

Finally, without consumer long distance, AT&T would be able to focus on its faster growing businesses. In fact, some predict the ultimate breakup of AT&T into its component parts.

"A year from now, I think AT&T will be three separate companies: wireless, broadband and business services," says Lehman's Bath.

Still, observers say that even though the demise of long distance has been long predicted, its arrival seems swift and bitter nonetheless.

"It's sad that this is happening to such a great brand with such great heritage," said one former Ma Bell employee, who asked not to be identified. "It's a shame they have to give it away."