AT&T Inc. (NYSE:T) is the largest telecommunications company in North America based on its $281 billion market cap.
The company’s high dividend yield and long history of dividend increases make the company a favorite holding for many dividend investors:
– AT&T has a dividend yield of 5.4%.
– AT&T has increased its dividend payments for 32 consecutive years
A&T’s stock price is more stable than average. The company’s 10 year stock price standard deviation and beta are below:
– Stock price standard deviation of 22.3%
– Beta of 0.78
The company offers investors high yields along with lower-than-average stock price risk.
AT&T has outperformed the market over the last decade. $1 invested in AT&T 10 years ago would be worth $2.31 today versus $1.80 for the same investment in the S&P 500 (SPY).
For a company to have paid increasing dividends for 32 consecutive years, outperform the market over the last 10 years, and be the largest player in its industry, AT&T must have a strong competitive advantage.
Among the investors tracked by Insider Monkey, AT&T is fairly popular, with 60 funds reporting long positions as of the end of September 2015, amassing 1.90% of the company’s stock. However, during the third quarter of the last year, the number of funds with long positions jumped by 11. Warren Buffett’s Berkshire Hathaway initiated a stake in AT&T and disclosed 59.32 million shares in its last 13F filing.
AT&T’s Competitive Advantage
The United States wireless telecommunications market is dominated by 4 companies:
– AT&T Inc. (NYSE:T)
– Sprint Corp (NYSE:S)
– Verizon Communications Inc. (NYSE:VZ)
– T-Mobile US Inc (NASDAQ:TMUS)
Together, these 4 companies have greater than 90% market share. AT&T and Verizon each have over 30% market share.
Competition is reduced when an industry is dominated by only a few large businesses. Lower competition is not good for consumers, but great for the few dominant businesses.
AT&T and Verizon in particular are large enough to reap outsized profits in the wireless industry.
There’s several reasons why the wireless industry is subject to domination by a few large corporations.
1. Up-front costs of building infrastructure
2. Obscene wireless spectrum usage costs
3. Brand recognition and scale advantages
Wireless spectrum usage is controlled and auctioned by the United States government. AT&T spent $18.2 billion in the last spectrum auction. In total, the auction raised $44.9 billion for the FCC. The next auction will begin in March of 2016.
Spectrum auctions prevent smaller players from gaining access to the wireless industry.
Follow At&T Inc. (NYSE:T)
Follow At&T Inc. (NYSE:T)
It should not surprise anyone that AT&T is one of the biggest spenders on lobbying. The company’s lobbying spend per year is shown in the image below:
Source: Open Secrets
The unique economics of the wireless industry reduce competition and allow AT&T to charge a premium price for its services.
The company’s competitive advantage rests on its multi-billion dollar network it has built over the years combined with government restrictions.
The company will likely maintain its strong competitive advantage and compete with Verizon for the top spot in wireless data for the foreseeable future.
AT&T’s Expected Total Returns
AT&T Inc. (NYSE:T) has a dividend payout ratio of approximately 70% of fiscal 2015 earnings. The company pays the bulk of its income out as dividends.
With a 5.4% dividend yield, AT&T does not need to deliver rapid earnings-per-share growth to give shareholders double digit returns.
AT&T’s management is expecting long-term earnings-per-share growth of around 4% to 6% a year.
The company’s compound earnings-per-share growth rate over the last decade is just 2.0%. From 2001 through 2012, AT&T’s earnings-per-share were virtually flat.
AT&T’s growth plans revolve around recent acquisitions of DirecTV (NASDAQ:DTV), Lusacell (a Mexican wireless provider), and Nextel Mexico.
Source: AT&T 2015 Analyst Presentation, slides 39 and 42
The DirecTV acquisition is beneficial to AT&T in 3 ways:
1. Gives the company access to the South American market
2. Gives AT&T better cross-selling opportunities
3. Expands digital content distribution
AT&T is focusing heavily on the Mexican market. AT&T announced it would invest $3 billion to extend its high-speed mobile internet to 100 million Mexican consumers by 2018. Customers on AT&T Mexico plans will be able to make calls on their Mexican plan while in the United States to others on AT&T plans.
This ‘2 countries, 1 plan’ approach should have wide appeal in Mexico and help AT&T gain market share in the country.
AT&T’s recent large acquisitions also create significant synergy/cost-reduction opportunities.
With enhanced growth prospects from recent acquisitions combined with cost-cutting measures over the next several years, I believe AT&T’s management’s earnings-per-share growth target of 4% to 6% a year is reasonable.
This growth combined with the company’s current 5.4% dividend yield gives investors expected total returns of 9.4% to 11.4% a year from AT&T.
Safety & Recession Performance
AT&T’s telecommunications business generates stable cash flows.
The company locks its customers into multi-year contracts that can have steep cancellation fees.
AT&T has customer churn of around just 1% a month. This means customers do not often switch from AT&T to rival competitors. Both cancellation fees and the similarity of competitor offers to AT&T help to discourage cancellations.
AT&T’s stable cash flows and long history of consecutive dividend increases make it very likely the company will continue to pay increasing dividends.
The company performs well during recessions. AT&T saw earnings-per-share dip slightly during the Great Recession of 2007 to 2009, but the effects were not too severe; the company remained profitable.
AT&T’s earnings-per-share through each year of the Great Recession are shown below:
– 2007 earnings-per-share of $2.76 (all time high)
– 2008 earnings-per-share of $2.16
– 2009 earnings-per-share of $2.12
AT&T has a large debt burden. The company has around $127 billion in debt on its books versus ~$5 billion in cash.
The company only increased its debt load with its string of recent acquisitions. Even with its higher debt burden, AT&T paid around $4 billion in interest in fiscal 2015 versus around $24 billion in operating income.
Investors should not be concerned about a liquidity crunch or insolvency with AT&T – despite its large debt load.
Valuation & Final Thoughts
AT&T Inc. (NYSE:T) currently trades for a price-to-earnings ratio of just 13.1 times 2015 adjusted earnings. The S&P 500 currently trades for a price-to-earnings ratio of 20.9.
Historically, AT&T has traded at a discount of about 0.8x to the S&P 500’s price-to-earnings ratio. This implies a fair price-to-earnings ratio of 16.7 for AT&T.
AT&T appears to be somewhat undervalued at current prices – especially considering how difficult it is to find safety AND high yields in today’s market environment.
AT&T is a compelling investment for investors seeking current income.
The company is ranked in the top 25% of stocks using The 8 Rules of Dividend Investing due to the stock’s high dividend yield and fairly low stock price standard deviation.
Disclosure: None
