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By: Ahmed Ishtiaq

AT&T (NYSE:T) is the industry-leading provider of wireline voice communications services in the US. Customers in 22 states use AT&T-branded telephone, Internet, and VoIP services; it also sells digital TV under the U-verse brand. Its subsidiary AT&T Mobility is the second-largest US mobile carrier by both sales and subscriptions (after Verizon Wireless). It provides mobile voice and data services to more than 100 million subscribers.

Currently, the company offers a dividend yield of 5.10% and an annual dividend of $1.80 per share. AT&T generates mammoth amounts of revenue and has demonstrated impressive growth over the years. I decided to perform a free cash flow analysis to check the cash flow generating capabilities of the company along with some important metrics.

Free Cash Flows

 

 

  

Free Cash Flows

 
 

TTM

2011

2010

2009

Net Income

$4,690

$4,184

$20,179

$12,843

Depreciation and other noncash charges

$18,144

$18,377

$19,379

$19,714

Funds from Operations (FFO)

$22,834

$22,561

$39,558

$32,557

change in noncash current assets

$7,596

$8,957

$1,895

$1,024

change in noncash current liabilities

$6,012

$3,130

$2,670

$864

Operating Cash flows

$36,442

$34,648

$34,993

$34,445

Capital Expenditures

$19,182

$20,110

$20,302

$17,335

Free Operating Cash Flow

$17,260

$14,538

$14,691

$17,110

Source: SEC Filings

In the previous four years, the company has experienced a decrease in its net income. Especially in 2011 the net income fell massively. The same pattern is evident in funds from operations of the company, and the end of 2011 FFO stood at $22 billion, compared to $39.5 billion a year ago. On the other hand, the cash flows from operations have improved. AT&T invests heavily in the business, and in each of the previous four years, the amount of capital expenditures has remained close to $20 billion. At the end of 2009, the firm spent just over $17 billion in capital expenditures; however, by the end of 2011 the capital expenditures for AT&T had gone up to $19.18 billion.

The company generates healthy free cash flows. Although, the capital expenditures have been increasing the firm has been able to post impressive free cash flows. AT&T's payout ratio based on free cash flows is impressive. Over the past twelve months, the company has paid $10.3 billion in cash dividends and generated $17.2 billion in free cash flows. Payout ratio based on free cash flows is almost 60% for the company.

Important Metrics

 

 

  

Essential Ratios

 
 

2012

2011

2010

2009

Funds from Operations(FFO)/Total Debt

0.37

0.37

0.67

0.50

FFO/Capital spending requirements

1.19

1.12

1.95

1.88

Free Operating Cash Flow + interest expense/ Interest expense

5.83

5.11

5.91

6.06

Debt Service coverage

5.69

5.46

2.66

2.54

For my analysis, I have used four ratios. First ratio indicates that the debt of the company is adequately covered with the FFO. The ratio has shown a declining trend over the past three years. However, I believe the FFO to debt ratio is adequate, and the main reason for a decrease is a fall in the net income. As a result of an increase in cost of sales and operating expense, net income for the company has fallen in the past two years. Nevertheless, the firm is generating enough cash flows to cover the long term debt. The second metric indicates that one of the most important components of the firm is easily covered with the FFO of the company. As I mentioned, capital expenditures are an integral cash outflow for T, and the analysis shows that the firm is able to meet its capital spending requirements through its internally generated funds.

Last two metrics in the table indicate that the firm is able to meet its interest and debt payments sufficiently. AT&T has high levels of debt, and the debt levels have remained fairly stable over the past three years. The company reported long term debt of just over $60 billion at the end of the last year. The company pays about $3.7 billion in interest expenses. Interest coverage ratio shows that the interest obligations are easily covered with cash flows. Lastly, debt service coverage is also very strong for AT&T, and the firm should not have difficulty meeting its debt servicing needs.

Summary

AT&T has one of the best cash flow generation capabilities in the industry. The company is an extremely attractive investment for income investors. My analysis of AT&T free cash flows indicates that the company has room to increase its dividend payments. At the moment, the payout ratio is manageable at 60% of free cash flows. Furthermore, there is an increasing trend in the free cash flows of the company, which indicates that the payout ratio may come down in the future. I would strongly recommend AT&T for income investors.

Source: AT&T Is A Cash Spring