Keeping an Eye on CBS; Takeover Potential at EarthLink

Stock Exchange gives readers a chance to listen in as staff writers James Peltz and Michael Hiltzik debate the merits of individual stocks.

CBS Corp. (CBS)

Jim: Well, Mike, we start with the famed broadcasting company that was once called the Tiffany network for its class and stature, and is now home to “The Howard Stern Radio Show” on Saturday nights. Which I suppose says a lot about the changing world of TV and CBS.

Mike: That “Tiffany” label was always suspect anyway. Don’t forget, these are the people who once brought us “The Beverly Hillbillies.” The “cubic zirconium” network, maybe.

Jim: Point is, this is not your father’s CBS.

Mike: No, and it’s still suffering from the legacy of Larry Tisch.

Jim: Go on.

Mike: Tisch bought control of the company in ‘85, and he proceeded to strip CBS of some of its most productive assets as he obsessed about slashing costs. He also had a counterproductive vision of how to build this network and keep it profitable.

For instance, CBS went after the largest audience it could find, without regard to demographics, and ended up with TV’s oldest audience by a huge margin.

Jim: Which is bad, because younger audiences--those between, say, 18 and 35--appeal the most to advertisers. So CBS can’t command the highest prices for advertising air time.

Then in the mid-’90s, CBS was bought by the industrial conglomerate Westinghouse, which took the CBS name and turned itself into a pure broadcasting company. It also bought Infinity Broadcasting, a leading radio station operator whose leader, Mel Karmazin, just took over the reins at CBS.

Mike: He’s got his work cut out. Besides the demographics problem, networks in general don’t make money and are steadily losing viewers to cable, the Internet and other markets. The profit centers are the local affiliates--the so-called O&Os; or “owned and operated” TV stations--but CBS’ are well behind those of the other major broadcasters in their profitability.

Jim: CBS hasn’t done much better in cable.

Mike: It’s lagging badly. ABC, which is owned by Walt Disney Co., owns the sports outlet ESPN, which is the most profitable cable channel in the world. NBC, owned by General Electric Co., has the hot CNBC channel.

Jim: Along with MSNBC, which is not so hot.

Mike: But what does CBS have? The Nashville Network and, until it sold it to the Discovery Channel, a misbegotten creature called Eye on People.

Jim: CBS did take one risky bet that seems to be paying off: its $500-million tab to get back National Football League games.

Mike: But overall, CBS’ problems mean that it has no leverage to get the best prices for its programs. When CBS goes to peddle its wares to TV stations, the stations know CBS has nowhere else to go. It’s not like CBS can pull programs and put them on cable.

Jim: A pretty dreary picture. So you’d avoid the stock?

Mike: Where does it say that? What I’m offering is a dreary snapshot of the company. I also see things changing, and I would buy the stock.

Jim: Me too, because there are some bright spots at CBS.

Mike: I have a feeling they all coalesce into one bright spot named Mel Karmazin.

Jim: Right you are. Karmazin is a brash, take-no-prisoners boss who is also known for being obsessive about lifting his company’s stock price, which he did with great success at Infinity.

Mike: Mel once was renowned for being the only individual alive who contractually could not be insulted on the air by Howard Stern--or even mentioned, I believe, because he was Stern’s employer at Infinity. And Stern works for him at CBS.

Jim: CBS’ stock has jumped 47% since it bottomed out last October--it trades around $35--in good part because CBS spun off a chunk of Infinity Broadcasting back to the public and because CBS has stakes in two Internet sites that have gone public and gotten lots of ink: SportsLine USA and MarketWatch.com.

Mike: And because Karmazin took the helm.

Jim: He’s the main attraction for me. Look, he could care less about CBS’ sacred cows if they aren’t turning a buck, which means this company stands a good chance of changing dramatically. That no doubt horrifies broadcasting and journalism purists, but if an investor ever had a friend in management, it would be Karmazin.

Mike: I absolutely agree. Karmazin is a master at sales, and he puts his sales executives almost entirely on commission, which means they have to go out and sell if they want to eat. In fact, CBS-owned O&Os; have started to outperform their competitors.

And I see him making some good deals in terms of associating CBS with new Internet adventures.

Jim: A lot of people make the case that Karmazin was a whiz in radio, but TV is another matter.

Mike: They’re confusing programming with sales. When it comes to sales revenue, Karmazin will excel. He’s the best thing that’s happened to CBS since Larry Tisch took his money and walked.

Jim: Here’s one more reason to buy the stock: Based on current prices, CBS’ holdings of the new Infinity stock are worth nearly $25 per CBS share. That means Wall Street is valuing the rest of CBS--the network, its stations, the whole package--at 10 bucks! That won’t last long, and this stock is going up.

EarthLink Network (ELNK)

Mike: As you know, there are Internet stocks, and there are Internet stocks. This one happens to really be an Internet stock.

Jim: In fact, it’s often billed as one of the few pure-play Internet stocks, in that what EarthLink does is provide Internet connections to its customers. It doesn’t put proprietary programming on its Web site, at least not much of it, like, say, America Online.

Mike: It just plugs you in. And it’s had terrific growth over the last couple of years. It was started by a guy named Sky Dayton.

Jim: Who’s still in his 20s, I believe.

Mike: He’s ripened into the late 20s now. Dayton’s background, quite appropriately, was in computer software and coffeehouse management. He started EarthLink in Pasadena, where it is still headquartered, in 1994.

Jim: Let’s give him credit for some visions. In the old days AOL and other computer services were charging by the minute to get online. Along came EarthLink with a flat-rate monthly charge that basically revolutionized the business.

Mike: Of course, this is not to say that EarthLink is making money.

Jim: No. In fact, in the first nine months of 1998 it lost $37 million on revenue of only $118 million--although that revenue had doubled from a year earlier.

Mike: Of course, typical of Internet stocks, this stock has gone up by about 350% in a year and now trades in the high $60s.

Jim: And now has a market capitalization of $2 billion.

Mike: Right. So what are we to make of this?

Jim: Here we are again at the big conundrum with Internet stocks.

We have absolutely no way of valuing this company by any traditional yardstick. Some of our peers on Wall Street and in the media try to make the case to use new yardsticks, like using a price-to-sales multiple instead of price-to-earnings, which I think is baloney. These stocks will largely rise and fall based on greed, momentum and emotion.

All of which makes it hard to recommend a stock that’s quadrupled in the last 12 months.

Mike: Well, let me tell you why I would recommend it.

Jim: You’re being a momentum player again? Oh, brother.

Mike: No, I have something different in mind. EarthLink has a million customers.

Jim: It just went over the 1-million mark.

Mike: And it’s fair to say that, uniquely in the Internet business, its subscription figures may be conservative. EarthLink says it doesn’t count the customer until he or she has been online for 30 days.

Compare that with America Online, which counts customers as soon as they sign up, even if they are in their free introductory period.

EarthLink benefits from some cooperative deals it’s made, for example with Apple Computer. It is the default Internet service provider on the new Apple iMac. Whatever we think about Apple, I think we’ll agree the iMac is a successful product.

Jim: True, one of the keys to EarthLink’s success is its joint marketing with other companies, such as United Airlines and Sony. If they’re trying to interest you in tapping into their operations online, they throw in an EarthLink connection or an EarthLink program to get you connected.

Mike: Beyond that, while EarthLink is said to be the second-largest pure Internet service provider behind AT&T;, its membership is concentrated in Southern California. It’s a regional play. That tell you anything?

Jim: Sure.

Mike: I see EarthLink being taken out.

Jim: I do too. This is a company that’s going to get bought. No question about it.

Mike: It’s hard to see how EarthLink would survive as an independent stand-alone ISP, but it’s got those million subscribers.

Jim: Absolutely. The recent deal in which @Home agreed to buy Excite, the search engine and Internet portal company, tells us there’s going to be lots of consolidation quickly in the Internet business.

Mike: We might mention something that happened to EarthLink that gives us a clue to what this company’s future may be.

Back in November, a business magazine floated a rumor that Sprint was going to buy the 71% of EarthLink that it did not already own. EarthLink’s shares took off, rising by about a third, even though its management told everybody, including the reporters who prepared that story, that Sprint was bound by the terms of a standstill agreement prohibiting it from buying any more than it owned for several years at least.

But the takeover expectation in this stock is considerable. That’s why I think it’s a buy.

Jim: That’s the only reason I would buy it at these levels.

Mike: Fair enough, but it’s a pretty good reason.

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Do you have a stock you would like to see discussed in this column? Michael Hiltzik can be reached at michael.hiltzik@latimes.com; James Peltz can be reached at james.peltz@latimes.com. Or write to either at Business Section, Times Mirror Square, Los Angeles, CA 90053.