The notion of a "tracking stock" is simple enough.
An older company tries something new but grows frustrated when investors don't reward it--or, worse, when they punish the company for its adventurousness.
Meanwhile, the company's executives see other firms, younger perhaps, engaged in similar innovation but flying high on Wall Street as they report losses and hurl cash at The Next Big Thing.
Jealous, the older company execs want to shout to the markets: "Hey. Look at us. We're cool, too."
They can't really do that, but the older company can do The Next Best Thing: Create a new stock, representing only the cool part of its operations. It hopes to "unlock" obscured value and make growth-oriented investors suddenly sit up and take notice.
It's supposed to work like Viagra.
Or maybe it's the market equivalent of Marian the Librarian, the uptight spinster in Meredith Wilson's "The Music Man" who transforms herself into a ravishing bride simply by unlocking her true beauty.
Tracking stocks have actually been around since the mid-1980s here and there. But now they seem to be everywhere. The most celebrated at the moment is Sprint Corp.'s Sprint PCS, which the company hived off 1 1/2 years ago from its long-distance operation (FON) as a tracking stock of its glitzier wireless business. PCS is up 400 percent since Jan. 1; FON, a mere 95 percent.
Ziff-Davis Inc. has done it with its Internet arm; Donaldson, Lufkin & Jenrette Securities Corp., with its online trading operation. Snyder Communications Inc. issued Circle.com as a tracking stock for its Internet professional services arm. Walt Disney Co. is working on a tracker for its Go.com concern. Last month, rumors that AT&T Corp. would soon pull a Sprint with its wireless division--perhaps with an announcement tomorrow--sent its stock up nearly 9 percent, just in anticipation. SBC Communications Inc. announced last week that it's thinking about it.
The rush is on. But with only about 30 different tracking stocks out there now, their long-term merits as moneymakers for investors are untested.
Their pedigree as stock is suspect: A tracking-stock owner, unlike the conventional stockholder, has no claim on the assets of the company. Indeed, tracking stocks are the very essence of a "gimmick," defined by Webster's as "an ingenious or novel device or stratagem, [especially] one used to draw attention or increase appeal; stunt; ploy."
Whatever they are, however, I suspect that when market histories of America are written 50 years from now, this bit of financial engineering will occupy a special place, for they say much about the crazes of companies and investors alike in this strange and wonderful era of hype, of which they are emblematic.
Hype or buzz is part of the tracking stock's mission. Some companies believe they've simply not attracted sufficient attention to their hottest activities. The creation of a tracking stock by a major corporation is a big event.
They are, as well, a testament to the lure of the "pure play," a term used to differentiate between companies that truly capture the hottest, latest trend and those that muddy the waters with "boring" businesses growing at a non-Internet rate.
In structure, one tracking stock may be quite different from another. Some offer voting rights; some don't. Some entail initial public offerings and some don't. None are "spinoffs," with which they are sometimes confused.
Spinoffs are new companies carved out of old. Tracking stocks aren't new companies at all. They're the same. Only the bookkeeping has been changed to protect one part from another.
Tracking stocks rest on assumptions about today's investors, specifically that they will jump to pay big money for what they perceive as unencumbered pure plays. Their excitement thereby gives the company either actual cash or a new, valuable currency to help develop new initiatives, pay employees with options, and maybe acquire other companies.
At the same time, the parent stock will be freed of the drag on its stock price that sometimes comes when investors don't appreciate the emptying of the corporate wallet on novel ideas. Some company execs now assume investors simply won't tolerate big commitments to the future, except when dressed in special clothes.
The problem with these pure plays is that they're impure. As I noted, the companies are the same and so are the directors.
Indeed, the Securities and Exchange Commission filings for tracking-stock IPOs bluntly and properly inform potential investors of the enormous potential for corporate conflicts of interest between the original stock and the tracking stock. Specifically, they warn that the company may wind up making decisions that favor the old stock at the expense of the tracking stock, as it sees fit.
What's the potential of this? The company can do whatever it wants with the take from the sale of the tracker. It can use the proceeds to pay the parent's debts, or support the parent's acquisitions or support it in old age. The parent, said Eric Efron, co-manager of the USAA Aggressive Growth Fund, can even sell the subsidiary and direct the benefits of the sale to the stockholders of the parent rather than the child.
Since tracking-stock owners may have no vote, or a lesser vote, they have little or no say.
Why do these companies believe investors will pay more for the perceived pure play? Because they are convinced, with plenty of reason, that investors bring an entirely different standard to companies perceived as new and innovative than to those considered established. Earnings are less important. Losses are taken in stride.
"Tracking stock," DuPont Co. said in March in a news release announcing one for its life sciences activity, "is a useful financial tool to companies with distinct businesses that are valued differently by investors" (my emphasis).
Essentially, in creating a tracking stock, a company is lowering investor expectations for near-term profits.
So, should you avoid tracking stocks? "I have mixed feelings," said Efron, who has bought some but holds none now. "They give a stock more visibility to the market," he said, and can make money for investors.
On the other hand, when you own a tracking stock, sometimes "you don't really know what you own." It makes him "queasy," he said.
Personally, I've got nothing against gimmicks if they make money for me. I suspect some tracking stocks, reflecting high-growth businesses, may take off and look great for a while, useful for speculation.
While I wouldn't necessarily avoid a promising tracking stock, I see no reason to go out searching for one, not in a market where many other companies offer great potential for growth without the baggage. In the long term, queasiness could limit their growth.\
Fred Barbash (email@example.com) is business editor of The Washington Post.