AT&T (NYSE:T) has not only been a longstanding member of the S&P 500 Dividend Aristocrats Club – an exclusive group of companies who have increased their dividends for at least 25 consecutive years – but also the highest paying one of all and not just among its telecom peers. Based on AT&T’s last declared quarterly dividend of $0.52 per share, the annualized dividend pay-out would represent yield of more than 8.5% on the last traded share price of $24.12 on January 27th. But in just a few days, AT&T will be stripped of its membership from the highly-exclusive S&P 500 Dividend Aristocrats Club in preparation for the anticipated reduction in dividends following the completion of WarnerMedia-Discovery transaction later this year, though that is not to say it will no longer be a solid dividend stock.
AT&T’s ever-climbing dividend yield is not only a byproduct of annual increases, but also courtesy of its declining share price in recent years. The stock has lost close to 40% of its value since the onset of the pandemic, or close to 20% in the last 12 months. And the underperformance is hardly a surprise. Over the past several years, AT&T has been trying to diversify its operations into digital media and entertainment to capitalize on new growth opportunities arising from the industry’s momentum. This had led to the acquisition of assets like DirecTV and Time Warners around 2015 and 2016, which turned it into the most indebted non-bank company in the world at the time. Yet, the capital-intensive nature of running a content creation business like Time Warners, a shift in consumer preference from traditional TV programming to on-demand streaming, and rising competition meant the strategy had failed to materialize into meaningful results. Put two and two together, and you get AT&T’s declining share price performance in recent years.
But now under CEO John Stankey’s leadership, the company has made a clean-cut decision to rid of its digital media and entertainment strategy, and redirect focus back to its roots in mobility and communications. Following its partial divestment in DirecTV earlier last year, AT&T will also be unloading its stake in digital ad unit Xandr to Microsoft (MSFT), and spinning off its WarnerMedia business into a standalone entity following the merger completion with Discovery (DISCK) later this year. The strategy is expected to restore some strength to AT&T’s balance sheet, while also enabling the company with additional flexibility to further its capacity in 5G and fiber broadband services.
And investors’ confidence in this turnaround strategy is reflected in the stock’s resilience against broader market volatility this year. While the increasingly dire macro backdrop painted by rising inflation risks and tightening monetary policy has battered the equity market throughout the first month of 2022, AT&T has largely outperformed despite declines following its fourth quarter earnings call on Wednesday. And the upcoming analyst event in March is likely to be a key catalyst for jumpstarting the stock towards further upsides leading up to the WarnerMedia-Discovery spin-off/split-off expected in the second quarter. The upcoming presentation is expected to provide further detail on the deal’s pay-out structure, as well as an updated guidance on AT&T’s growth strategy thereafter, which will be reassuring to investors regarding the company’s progress.
Despite the anticipated reduction in AT&T’s dividend payout following the completion of the WarnerMedia-Discovery spin-off/split-off, the company will emerge with a stronger balance sheet. This will accordingly enable better capitalization on opportunities arising from accelerating 5G adoption and increasing fiber broadband demand in coming years. Looking ahead, the strategy is expected to restore growth in AT&T, which will accordingly translate into improving dividends as well as share performance in the longer-term. This makes the AT&T stock’s current price levels an attractive opportunity to lock-in some generous and safe dividend yield.
As mentioned in earlier sections, AT&T currently provides the highest annualized dividend yield across its peer group and is a top contender amongst the broader S&P 500 dividend-paying stocks. Based on the stock’s recent performance, AT&T’s dividend yield currently stands at almost 9%, while close industry rival Verizon’s (NYSE:VZ) dividend yield is only about 5%, and T-Mobile (TMUS) does not pay dividends.
Following the completion of the impending WarnerMedia-Discovery merger, management has guided a dividend pay-out structure of about 40% to 43% on more than $20 billion in free cash flows, or $8 billion to $8.6 billion. This will be slightly lower than the current dividend pay-out ratio of about 55% on about $28 billion in free cash flows.
Based on our back-of-the-napkin calculations, we are expecting the post-transaction close dividend yield to be at approximately 6.3% to 6.7%:
While AT&T’s dividend yield will be reduced following the WarnerMedia-Discovery merger, it is expected to be higher still compared to industry peer Verizon’. At an estimated dividend yield of about 7% post-transaction close, AT&T’S dividend yield will also remain on the higher range compared to dividend-paying stocks on the broader market.
On Wednesday’s fourth quarter and full-year 2021 earnings call, AT&T reported both earnings and sales that topped consensus estimates. The wireless carrier delivered blockbuster performance in its mobility segment with about 3.2 million post-paid phone net adds last year, the fastest growth in 10 years. The subscription base for HBO/HBO Max also reached 73.8 million, which surpassed the 73 million previously guided on the higher range. Mobility’s stellar performance was primarily buoyed by growing 5G momentum, especially with the roll-out of new 5G-enabled devices like the iPhone 12 and 13 accelerating the largest upgrade cycle of the decade. However, the company is expecting current year mobility net adds to “normalize” due to expectations for slower growth industry wide – total U.S. post-paid phone subscriptions are expected to total approximately 7.8 million in the current year, down 17% from 9.4 million in the prior year. This could imply the need for another year of “lavish promotions” to capture market share from rivals Verizon and T-Mobile, which could add additional pressure to its bottom-line amidst mounting costs for 5G and fiber network expansion.
This according led to one of the most pronounced intra-day declines for the AT&T stock, which lost as much as 11% of its value in Wednesday’s trading. The earnings-driven mid-week rout had reversed all of the stock’s year-to-date gains, which exceeded 11% at its peak buoyed by strong 5G momentum and confidence in the upcoming WarnerMedia-Discovery transaction, and now stands at year-to-date losses of close to 2%. However, the stock continues to outperform the broader market, a sign that it still has not budged to rising concerns on mounting macro headwinds related to rising inflation and central bank monetary policy tightening.
As discussed in detail in our previous analyses, growing 5G and fiber momentum paired with the upcoming WarnerMedia-Discovery transaction is expected to pay large dividends in the long-run. The WarnerMedia-Discovery transaction will not only restore strength to AT&T’s balance sheet by contributing to its long-term deleveraging strategy, but also help the company redirect focus on growing opportunities in wireless communication stemming from the advent of 5G and fiber broadband services.
The pandemic has accelerated global digitization trends by at least five years, making said next-generation wireless communication infrastructure more important than ever before. With data consumptions rates expected to surge at a compounded annual growth rate (“CAGR”) of 26.9% over the next five years to support increasing adoption of emerging data-intensive technologies like AI, autonomous vehicles and the metaverse, improved connectivity performance enabled by 5G will be critical. Global demand for 5G-enabled devices is expected to grow accordingly at a CAGR of 38% over the same period as users continue to transition to the newer and faster network. Meanwhile, increased usage of wireless internet connectivity to support large workflows on-the-go or at home to accommodate increasingly hybrid/remote work and learning environments is also expected to accelerate demand for fast and reliable fiber broadband services, which makes favourable tailwinds for AT&T.
The telecom giant has prepared for years to capitalize on growing 5G and fiber connectivity opportunities ahead. The company’s most recently deployed C-Band spectrum, a mid-band 5G network, has enabled faster connectivity speeds to a wider area coverage, extending AT&T’s reach to the U.S. mobility market. The company has also recently emerged as the largest bidder on a new set of 5G airwaves in a government auction, dubbed “Spectrum Auction 110”. AT&T received 40 MHz of mid-band spectrum for $9.1 billion, representing 40% of the capacity auctioned. The addition will be put into service some time in late spring or summer, and add to AT&T’s ongoing roll-out of the C-Band mid-band spectrum. Together, the additions are expected to catapult AT&T’s 5G coverage to a more competitive spot with its peers, and better equip it for further share gains stemming from robust 5G momentum.
On the fiber broadband front, AT&T has recently unveiled the fastest internet service for its customers, making it more competitive than ever compared to other major internet providers in the connectivity-driven era. More than 5 million potential customers across 70 metro areas, including Los Angeles, Atlanta and Dallas now have access to AT&T’s fiber broadband service bundles for internet speeds of up to 5 gigabits per second plus access to HBO Max at $110 to $180 per month. For a company whose previous plan offerings “topped out at 1 gigabit for $80 per month”, AT&T’s newest multi-gig speed fiber internet offering puts it at the forefront of connectivity services across the U.S. With close to 60% of the U.S. population now recognizing internet connectivity as an essential, compared to about 50% during the pre-pandemic era, AT&T’s latest upgrade to its internet offerings is expected to drive meaningful market share gains in the sector and help it progress further towards its goal of expanding fiber coverage nationwide in coming years.
Despite the anticipated slowdown in growth in the current year, AT&T’s extensive, competitively priced, 5G mobility and fiber in-home internet service offerings are expected to bolster its edge against rivals and help it lure additional market share. Paired with the increasingly essential nature of wireless mobility and internet connectivity services in the post-pandemic era, the company’s churn rates are expected to remain low while sales continue to benefit from stable growth. This accordingly makes AT&T a reasonable inflation-resistant investment under today’s economic environment.
Adjusting our most recent financial forecast for AT&T’s actual fourth quarter results, and taking into consideration management’s guidance for the current year as well as recent developments to the wireless carrier’s growth outlook based on market tailwinds discussed above, we are projecting total operating revenues of $157.9 billion for 2022, inclusive of projected WarnerMedia results for valuation purposes. The topline is expected to further advance at a CAGR of 4.7% towards $198.7 billion by 2026. And exclusive of projected WarnerMedia segment sales, AT&T’s total operating revenues is expected to advance at a CAGR of 2.4% over the next five years towards $133.8 billion by 2026. The growth assumptions remain largely consistent with our previous analysis, which takes into consideration of AT&T’s performance in recent quarters, as well as its ongoing growth initiatives and current market trends discussed in earlier sections.
Combined with AT&T’s projected cost structure, which takes into consideration its continued to ability to scale 5G and fiber broadband opportunities through extended coverage, and the impending return of high-margin roaming charges, the company is expected to realize net income of $19.8 billion by the end of 2022, with further growth towards $26.5 billion by 2026 inclusive of WarnerMedia for valuation purposes. And without WarnerMedia, net income is expected to grow from $13.2 billion by the end of 2022 towards $14.9 billion by 2026.
Drawing on the above analysis, our 12-month price target for the AT&T stock, inclusive of WarnerMedia, remains at about $28, which represents upside potential of about 16% based on the last traded share price of $24.12 on January 27th. Following the completion of the WarnerMedia-Discovery transaction, we anticipate AT&T’s share price to stabilize at approximately $22.
The valuation analysis considers AT&T’s recent developments from an operational and financial perspective, as well as its proven ability to narrow the gap from industry rivals in the 5G race. Upcoming catalysts include the analyst event in March, which will likely reassure investors of its growth progression by providing further detail on both the WarnerMedia-Discovery transaction as well as the company’s outlook post-deal-close. The ultimate completion of the WarnerMedia-Discovery transaction expected in Q2 will also be an inflection point for the stock, as the underlying business returns its focus on expanding market share within the increasingly competitive wireless communications sector.
i. Base Case Valuation Analysis:
ii. Valuation Analysis – ex-WarnerMedia:
Based on the foregoing analysis, the AT&T stock itself has promising upside potential despite the dire macro backdrop at the moment, thanks to the inflation-resistant nature of the underlying business, as well as the company’s continued expansion of its market share, which will further strengthen its balance sheet. This means the current 9% dividend yield (or about 8% ex-WarnerMedia) is unlikely to stay for long on the expectation that meaningful upsides are on the horizon for the stock. Although the AT&T stock’s dividend pay-out ratio following the completion of the WarnerMedia-Discovery transaction will be reduced, we are expecting annual increases to resume thereafter to reflect the underlying business’ continued strength in growing its 5G and broadband market share. Considering AT&T’s underlying business outlook, valuation prospects, and outperforming dividend yield are all strong, it checks all the boxes for an attractive, yet safe, dividend stock.
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Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such 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.