Shares of AT&T (NYSE: T) are down 25% since the beginning of 2018, and recently reported full-year 2018 results did little to buoy the stock. Profits were up, but growth looks all but stagnant for a while as the company wades through lots of debt -- some of which is attributable to the company's controversial acquisition of the Time Warner media empire for $85 billion last year. This is just the type of situation value investors dream of.
2018 in review
At first glance, AT&T had a solid year. Revenue was up mid single digits, which, paired with a lower tax rate due to U.S. corporate tax reform passed at the end of 2017, resulted in big double-digit increases for the bottom line.
Data source: AT&T. YOY = year over year.
However, much of those increases were due to the Time Warner purchase that passed over the summer. AT&T's core wireless business grew postpaid retail subscribers by a mere 200,000, compared with 1.1 million over at Verizon (NYSE: VZ). In the meantime, long-term debt ballooned to $166 billion from $126 billion at the end of 2017 -- also due to the Time Warner purchase.
Some investors worry that AT&T's acquisitions will prove ill-advised. For its part, Verizon was much more conservative in its M&A activity, limiting its purchases to smaller transactions involving Yahoo! and AOL. Verizon subsequently wrote down the value of its media acquisitions and is laying off employees there, effectively admitting the spending spree was a mistake.
Nevertheless, AT&T's management expects its bottom line to increase once again in 2019. Free cash flow (money left over after basic operations and capital expenditures are paid for) should be about $26 billion, another 16% increase over last year. That's in spite of higher capital expenses, which are expected to be about $23 billion compared with $21.3 billion in 2018. The increase is no doubt related to the buildout of the new 5G network, which is also in full force at Verizon as well.
That new mobile network will be increasingly important in the years ahead as mobile operators jostle once again for coverage quality prominence. To stay relevant, though, AT&T has some work to do.
Image source: Getty Images.
Bad for growth, great for value
With its cash flow expected to rise this year, AT&T says that paying down its massive debt load is a top priority. CEO Randall Stephenson had this to say:
Servicing over $160 billion in debt will be a tall order, especially while the mobile operator raises its investment in 5G services in the years ahead. Plus, the media industry is in flux, casting a shadow of doubt on the wisdom of acquiring Time Warner. It all adds up to a stock that is pricing in a fair amount of pessimism. Twelve-month forward price to earnings is at 8.2, a cheaper valuation compared with 11.5 for the less-debt-laden Verizon.
That implies investors' anticipation that Verizon will be able to grow faster than AT&T going forward. Nevertheless, growth isn't a reason to own AT&T -- it's all about that 6.9% yielding dividend. Though debt and spending will put some pressure on the dividend, management's higher free cash flow projection means the payout will take a high 50% range of free cash, compared with 60% in 2018. The dividend is thus on solid footing, with some extra room for a 36th consecutive year of pay raise if AT&T chooses to do so.
So is AT&T stock a buy? If you're a growth investor looking for the best way to cash in on the 5G mobile network movement, you'd be better served looking elsewhere. But for those looking for stable income, AT&T stock looks like a good value after 2018's lackluster performance.
Nicholas Rossolillo and his clients own shares of Verizon Communications. The Motley Fool recommends Verizon Communications. The Motley Fool has a disclosure policy.