Tuesday, October 31, 2017

AT&T is Worth a Look at These Levels

            Income streams are an essential component to my investment philosophy.  They help to lower portfolio volatility, provide returns in a stagnant or declining market, and continually provide funds for reinvestment.  I provide more detail in my book, The Lifetime Income Security Solution. 

            I’m also a big fan of companies that have a long history of raising their dividend, which is one of the best ways management can reward shareholders.  I maintain a list of stocks that have a 25-year history of raising their dividends.  When these companies approach lows on a 6 or 12 months basis, it’s time to look at adding them to a portfolio. 

            Recently, AT&T (T) qualified by falling to a 52-week low:

Last week, the stock gapped lower on earnings news (more on that in a minute).  It looks like it’s trying to form a short-term bottom at current levels.

            Let’s take a look at T’s financials (as reported by Morningstar.com).

Balance Sheet: their balance sheet could be a lot cleaner.  Their current ratio has been below 1 for the last 5 years, which offends my inner “Graham and Dodd.”  But, large companies also have the financial capabilities to maintain lower capital ratios and get away with it in the marketplace.  At the same time, total equity has increased from $92.3 billion in 2012 to $123 billion at the end of last year – a nice increase for shareholders.  Long-term debt has also increased substantially, climbing from $66.3 billion in 2012 to $113.6 billion in 2016.  However, according to the company’s revenue statement, income expenses have dropped from 2.7% of income to 2% in 2016 – which is largely due to declining interest rates.

Cash Flow: The company – like other large companies – has the ability to self-fund plant, property and equipment purchases from net income.  This means that the primary “play” on their case flow statement occurs in the financial section.  Here, we see a lot debt refunding over the last 5 years (which is to be expected) along with a share repurchase plan.

Income Statement: this contains very positive information.  First, total revenue increased from $127 billion in 2012 to $167 billion in 2016.  While the cost of goods sold increased over the same period (rising from 43.3% of revenue to 46.94%), operating expenses declined from 46.47% to 38.19% and net income rose from 5.7% to 7.92%.  Best of all, net income from continuing operations was up from 5.92% to 8.14% over the same time period.

So – why is the stock low?  Two reasons.

Cord cutters: from the last earnings release: Importantly, in the domestic market, net additions of its postpaid wireless subscribers declined a massive 44.8% year over year.  AT&T lost 251,000 satellite TV customers and 134,000 U-verse TV customers. However, it gained 296,000 DIRECTV NOW connections.

This is an important development, but not fatal.  Entertainment revenue comprises 32% of all income, according to the latest 10-Q.  In addition, it appears the company is working on new products to mitigate this loss of revenue.

The Time Warner Merger: AT&T and Time Warner are trying to merge.  This looks eerily similar to the AOL/Time Warner deal from years ago – which was a tremendous flop.  But that deal simply came too early.  Time Warner has content that AT&T could bundle with its other services.   While there are calls from some groups to halt the merger, or at least give it very close scrutiny, it’s difficult to see the current administration giving this deal the thumbs down.

Finally, there is the dividend, which is 5.85% -- a more than healthy reward for owning this stock.  The only drawback is the payout ratio is very high – 94%, indicating the company needs to grow revenue to continue raising the dividend.

Overall, a stock with a 5.85% yield trading at a PE of 16 is worth a look when it’s near a 52-week low.

This post is not an offer to buy or sell this security.  It is also not specific investment advice for a recommendation for any specific person. Please see our disclaimer for additional information.