I have blogged about Verizon Communications, Inc. (VZ) (see here), and I remain, despite the sluggish start to 2012, quite happy to have an ownership interest in this business. With the stock down over 1.3% (as of the time of this writing) and after having been sold on heavy volumes since topping for 2012 at $39.78/share on 3/22 (it would appear someone is lightening up heading into the quarter-end), now was as good a time as any to step in. Here are a few thoughts as to why VZ remains a core holding for long-term investors.
- It's about the cash. Looking at the consolidated metrics are a bit misleading, as VZ owns 55% of the Verizon Wireless business. Let's take a simplified look at the parts of VZ, however, to back into the cash. In 2011, Verizon Wireless generated EBITDA of $26.5 billion. Less capital expenditures, VZ had FCF of $17.5 billion. Of that, $9.6 billion of the FCF is attributable to VZ. Combined with the $3.0 billion of FCF generated by the Wireline business, VZ had an attributable $12.6 billion of FCF in 2011 (which is 2x the $5.6 billion in common dividends paid to shareholders). Based upon company guidance, and reading the "tea leaves" around 2012 (the company is poised to build off a somewhat soft 4Q 2011, based upon both company guidance and expectations for normalization to certain items), we see the potential for even more FCF generation this year. And using the 2011 baseline, a FCF yield of 11.45% is very attractive considering the underlying stability of the business.
- VZ hasn't participated in the 2012 equity market rally, and is one of the worst performers in the Dow Jones Industrial Average this year. Similar to Electric Utilities (to which the Philadelphia Stock Exchange Utility Index is down 2.56%) and other stalwarts of the market (like McDonald's Corp., down 2.68%), VZ seems to be suffering from a higher risk tolerance by investors broadly (who can't get enough of housing, finance and other sectors perceived to be on the mend) and the lack of interest in low risk companies and dividend stories that held up well in 2011. As it pertains to VZ, this is an exceptional long-term opportunity, especially relative to Electric Utilities, as no utility can match the FCF yield of the consolidated enterprise and growth potential of the Verizon Wireless business.
- The core growth driver for VZ (at Verizon Wireless) is the pass-through of data consumption on devices like the iPhone, iPad, Android devices and other content enabling mediums. Plans offered for the new iPad are pushing prices higher, and as consumers decide to roll up to 4G LTE, we think it reasonable to conclude that while the consumer remains stretched, the higher cost of data usage will prove yet another necessary cost attributed to "inflation", as the ease and access of being mobile with data is hard to give up once down the adoption path. I love owning a piece of the forward data consumption trend, through VZ, as the direction appears to be nowhere but up as we look out into the future.
- VZ pays a $2.00/share dividend, yielding 5.15% annually to shareholders. Compare that to the dividend yield of the S&P 500 (1.93%), the XLU (3.96%) and even the 30-year UST (3.274%), and VZ is an attractive income-oriented vehicle. I don't care one bit that the S&P 500 is up so far in 2012 and don't really understand the daily focus on the terms like "risk on" and "risk off". As an investor, I love investing in stable businesses that return capital to shareholders in the form of hefty dividends that are supported by the underlying operations. VZ very much fits that bill.
- While handicapping the risk to the purchase of wireless spectrum from the cable companies being blocked in some form by government is a coin flip (no real edge), it would appear, through the lack of performance in VZ stock and the outlined investment community concern, that the approval to the spectrum purchase is a potential positive catalyst, with the downside more priced in that not on a relative basis. Clearly, the spectrum deal would benefit VZ. It is worth noting and following as a positive driver to the back end 2012 story.
- Relative to taking on a story like this one, which feels highly irresponsible and too volatile for a dividend-oriented investor, adding exposure to VZ as an underperformer seems like a good opportunity for a long-term oriented investor.
The bottom-line here is that VZ isn't a trading vehicle or a stock to be discussed on Fast Money. Verizon is a stable, cash generating machine with upside catalysts (earnings normalization, spectrum) for the back end of 2012.