Your wireless phone or tablet is only as good as the network you have - or at least that seems to be the tagline as wireless carriers compete against each other in terms of who can offer the best coverage and the right amount of data at the right price. AT&T (T), the country's second largest wireless provider, is a great example of a company in this situation. Just look at its Fourth Generation Long Term Evolution (4G LTE) service.
The company has 74 million subscribers while its rival Verizon Wireless, the joint-venture formed by Verizon (VZ) and Vodafone (VOD), has more than 108 million subscribers. To make matters worse (for AT&T anyway), Verizon Wireless is planning massive network development over the next year. The company plans to expand into enough new markets and further develop existing markets to such a degree that it is estimating it will be able to service 260 million by the end of 2012.
AT&T will undoubtedly have a hard time getting subscribers when Verizon Wireless has a network that is three times its size.
Now, consider the way cellular phones and tablets work. They have to be manufactured to a specific frequency band that is different for each wireless carrier. This means that if you want an Apple (AAPL) iPhone or iPad, you will have to specify which wireless carrier you want at the time of purchase. Given the high price tag of many of these devices (a 64GB iPad with 4G will set you back $829), consumers are highly unlikely to switch networks until they are ready to upgrade their devices. So, an environment is created in which consumers are subjected to a sort of monetary commitment that goes deeper than the two-year service contract that has become standard in the mobile phone and tablet industry. Consumers laying down a large investment like that are likely to choose the company that offers the largest service area.
Next, think about the way consumers use data. Our modern devices are complete data hogs. It shouldn't come as any surprise given all the things that today's smartphones and tablets can do but it also means that enabling any sort of mobile connectivity will require a fair amount of bandwidth. With this in mind, wireless carriers limit how much bandwidth a user can access. AT&T is also behind the mark in this arena. Verizon Wireless allows its customers 20MHz whereas most of AT&T's network areas cap users at 10 MHz - making Verizon Wireless literally twice as fast.
How in the world can AT&T compete? At this point, the company is finding some competitive advantage in pricing. It offers a 3GB data plan for $30 while Verizon charges the same price for 2GB - but how long will that last? As it stands, Verizon already offers more value. In addition to having a larger 4G network, it also offers its customers special features that AT&T does not. For instance, Verizon users are able to use their iPads as mobile hotspots. AT&T chose not to enable this feature on the iPad.
Add to this shoddy performance and some serious doubts start to creep in about AT&T - or at least they do for me.
AT&T is currently trading at roughly $32 a share. At this level, the company is priced at less than 13 times its forward earnings, compared with its peers' average of 15. In addition to the upside, AT&T pays a $1.76 dividend (5.60% yield). The company also has a low debt-to-equity ratio at 0.61, but I am not convinced.
The company's revenue growth rose by just 3.6% compared with the same quarter last year, while its industry enjoyed an average growth of 4.0%. Also, AT&T has a quick ratio of just 0.55, which suggests that it could have some difficulties covering short-term cash obligations. Further, the company's earnings per share have been shrinking for the last two years and its return on equity plummeted from 17.09% at the end of forth-quarter 2010 to less than 4% at the end of 2011. There are those that say that AT&T will turn this trend around and actually recommend the stock as a buy. I am not so encouraged. AT&T would really have to step up its game.
Now, consider Verizon. It has really strong revenue growth of almost 8% compared with the same quarter last year. In comparison, its peers averaged revenue growth of 4.0%. I think this figure will increase dramatically thanks to iPad sales and the upcoming iPhone, which is rumored to have 4G capabilities.
Verizon has also managed to boost its net income considerably, growing it by over 51% quarter over quarter. While the company's earnings per share actually fell slightly in spite of the increase, Verizon was able to improve its net cash flow. The rate of growth was modest at 1.44% but, considering that its peers' net cash flows fell 6% on average, it is a pretty good number. It is a similar story with its quick ratio. Verizon has a ratio of just 0.84, which is pretty low but it is considerably higher than AT&T's quick ratio of 0.55.
The company is currently trading at roughly $40 a share and pays a $2 dividend (5.10% yield). At its recent trade rate, Verizon is priced at 14.23 times its forward earnings and still less than many of its peers, albeit only marginally. AT&T does outperform Verizon on this metric but I think that fact is less owing to a market inefficiency (read:opportunity) and more likely a result of low expectations for AT&T going forward.
All in all, I think Verizon is a great buy. I would not be surprised at all if the company pops thanks to its new ability to sell iPhones and iPads combined with its massive 4G LTE network. AT&T may improve but I am not seeing any indications that it will move to offer the range that Verizon does, both in terms of service area and features. Right now, AT&T is competing more on the basis of pricing and less on offering value, which is always a losing strategy in the long run.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.