Traditional telecom services providers are extremely attractive for investors due to high dividend yields. Most of the operators in the industry pay out large sums in cash dividends, and some of the highest dividend yields can be found in the sector. However, the landline telecom industry is in the decline and all the operators are facing declining revenues. As a result, slashing dividends is becoming a trend in the sector. Recently, CenturyLink (NYSE:CTL) cut its dividends, which caused the stock to lose substantial value. Windstream (NASDAQ:WIN) management reaffirmed the commitment to maintain a $1 annual dividend in the most recent earnings announcement. However, declining revenues and earnings may make it difficult for the company to honor its commitment.
Declining Revenues Are a Cause of Concern
Windstream revenues for the full year 2012 were $6.16 billion, showing a decline of 1%. About $1.446 billion was added to the revenues by acquisitions. Total changes in the business revenue were about $1.5 billion over the past twelve months. Data and integrated services is the highest growth segment, and the company is trying to exploit the segment. However, high growth also makes this a vastly competed segment. As a result, Windstream will have to spend substantially to gain revenues from this segment. In 2012, there was a $49.6 million increase in revenues from the segment, compared to an increase of $54.9 million during 2011. So, the growth in revenues from the segment has actually declined over the past twelve months.
Furthermore, carrier revenue has also increased by a much lower amount compared to the last year. Carrier revenues increased by $17.9 million, compared to $46 million in the previous year. On the other hand, data center and managed services revenues and high-speed internet revenues recorded impressive growth. Data centers revenue increased by $13.1 million, compared to $2.2 million in 2011, and high-speed internet revenue went from a decrease of $0.2 million in 2011 to an increase of $3 million during 2012. In addition, long distance revenues also declined at a lower rate than the prior year. Windstream can certainly increase revenues from high growth segments, but the company will have to face intense competition and spend a considerable amount in capital expenditures.
AT&T (NYSE:T) and Verizon Communications (NYSE:VZ) are the two largest providers of data services. These behemoths enjoy a huge advantage on other operators due to vast network coverage. Windstream is making efforts to get enterprise customers, but the company will have to compete with these two giants as well as CenturyLink.
High Dividend Yield And Low Free Cash Flow Coverage is a Risky Combination
Windstream has a blockbuster dividend yield. At current price levels ($8.68), the stock is yielding 11.52%. It is a mouth watering yield; however, free cash flows of the company provide a slim coverage to the current dividends. During the last year, Windstream paid $588 million in cash dividends, and reported $676 million in free cash flows. Payout ratio for the company based on free cash flows is about 87%. Windstream payout ratio is a little too high for a company which needs substantial capital expenditures to expand.
Over the last three years, capital expenditures have almost tripled for the company. At the end of 2010, Windstream reported capital expenditures of $415 million, which had gone up to $1.10 billion by the end of 2012. Furthermore, interest expense is also too high for the company. Windstream pays more to debt holders than its shareholders. Interest expense for 2012 was $625 million, $37 million more than the cash dividends.
Taking into account the current financial condition and future growth, I believe there are better dividend investments in the market. Frontier Communications (NYSE:FTR) offers an attractive yield, and after the recent dividend cut, future dividends of the company look safe. Verizon and AT&T are the best of the bunch. Both of these companies have massive free cash flows and attractive dividend yields. Adding AT&T and Verizon to an income portfolio will bring stability to the income stream.
Windstream is one of the best among the traditional phone services providers. The company has big exposure to this declining segment, which has exposed its revenues. The company has laid out a nice plan for 2013. There will be substantial capital expenditures to increase the coverage. Furthermore, Windstream might pay some of the debt using excess free cash flows. If these plans are implemented properly, the company can maintain current dividend levels. However, if the competition further intensifies and revenues keep on declining, then dividends may come under threat. Personally, I believe AT&T and Verizon are far more secure dividend investments.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.