Verizon (NYSE:VZ) appears well positioned to provide dividend investors with an opportunity for both capital appreciation and income production. Firstly, the internet content streaming boom should augur organic growth, spur capital gains and buttress the dividend. Furthermore, Verizon is making all the right moves with regard to leveraging the company's position as an internet service provider which may increase profitability exponentially. Finally, the company appears to be a great high yield buying opportunity for dividend investors. In the following sections I will lay out my bull case for dividend investors.
Verizon is well positioned to benefit from the internet streaming boom
It appears Verizon may well be winning the net neutrality war for now. The company is well positioned to profit from extremely high data streaming demands from a multitude of content providers as well as from other intermediaries such as Cogent (NASDAQ:CCOI) and Level 3 (NYSE:LVLT). These companies supply websites with connectivity. Nevertheless, Verizon does the heavy lifting of delivering the data from the internet backbone to the door step, as it were. This is an extremely advantageous potion to be, in I surmise. The demand for the interconnection required to deliver high quality service continues to grow exponentially as more and more content and data is delivered over the internet. Further, the company holds a fairly secure market position as it is extremely unlikely for a new ISP player to run fiber to households for the last leg of the journey. I posit the recent deal with Netflix (NASDAQ:NFLX) is the first sign the balance of power is shifting in Verizon's favor.
The company is making all the right moves to create value.
Netflix and Verizon recently signed a deal for Verizon to provide a direct connection from the Netflix video streaming service to Verizon's broadband customers. Netflix said in a statement:
"We have reached an interconnect arrangement with Verizon that we hope will improve performance for our joint customers over the coming months."
Rumor has it the agreement will be a "paid peering" arrangement similar to the deal struck with Comcast (NASDAQ:CMCSA) in February. Verizon will provide a direct connection from the Netflix content delivery network. This will vastly improve the quality of the streaming experience for Netflix subscribers by lowering buffering delays.
I posit this is just the tip of the iceberg with regard to this opportunity. I don't see anyone with the wherewithal to side step Verizon based on the large moat the company has created by having the infrastructure in place to properly deliver the content to each household. I posit we will hear about more of these types of deals in the future.
The company is focused on return of capital to shareholders with a robust dividend
The current yield is 4.54%. The dividend looks safe based on the consistent earnings growth performance by the company. Double-digit increases were reported in eight out of the last nine quarters. Further, cash flow generation in the quarter was remarkable at $3.93 billion. Verizon's EBITDA margin was up 90 basis points to 22.3%.
Verizon has a solid long-term growth story and pays a hefty dividend. These facts, coupled with the Fed's announcement that rates will remain at ultra-low levels for at least the foreseeable future, leads me to believe the company is a better hedge against inflation than fixed income instruments such as bonds and CDs.
Verizon appearing fundamentally undervalued on a relative basis
Verizon expects revenue and EBITDA growth of 4% 2014. The company currently has a net profit margin of 20.24% and is inline with the company's peers and outpaces the industry average by a wide margin. Furthermore, the company is trading for nearly for a significant discount to peers on the price to free cash flow basis.
(Table provided by Scottrade.com)
Verizon's weak point is the heavy debt load. The company sports a total debt to equity ratio of 8.5, vastly higher than the company's peers and the industry average.
(Table provided by Scottrade.com)
Nevertheless, the company is well aware of the debt burden and appears well positioned to tackle it over the next few years as more new projects hit the breakeven point. Technically, the stock looks in good shape.
(Chart provided by Finviz.com)
There are multiple downside risks for Verizon going forward. Not all the news was good. Verizon will have to double down on the company's efforts to ensure it continues to improve margins and pay down debt. Furthermore, geopolitical uncertainty is on the rise as the Russia/Ukraine conflict appears to be escalating. This may hamper a global recovery in its infancy just as the market hits all time highs. This is an extremely precarious position to be in.
The recent deal with Netflix brings attention to the mounting burden streaming content places on internet service providers. Fortunately it seems Verizon has leverage over content providers and intermediaries currently. Verizon seems to have the wind at its back, so to speak. On top of that, I surmise we are in the early innings of Verizon's growth story.
A model dividend investing approach is to construct a diverse portfolio of stocks with significant capital gain potential and exceptional dividend yields. Verizon fits the bill in my book.
Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in VZ over 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.