Verizon Will Outperform AT&T This Year

Christopher is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Although there is a pretty good-sized bunch of smaller players, the U.S. telecom business – especially for wireless services – is mainly an battle between two $100 billion plus companies, Verizon Communications (NYSE: VZ) and AT&T (NYSE: T). Verizon trails AT&T in market cap and revenues. The two companies posted very similar adjusted EPS for 2011 and both have dividend yields well over 5%. The Verizon share price outperformed AT&T by more than 5% in 2011 and is poised to repeat the effort in 2012.

Verizon recently posted 2011 fourth quarter results and the company reported year-over-year revenue growth for the quarter of 7.7% and revenue for the full year increased by 4.0%. Non-GAAP, adjusted net income for the full year was $2.20 per share, up from $2.08 in 2010. For the year, Wireless service sales account for about 65 percent of revenue and was up 13 percent in the fourth quarter compared to a year earlier. Wireless data service revenue was up 19 percent and accounted for 41 percent of total wireless service revenues. Wireline services such as telephone, cable TV and broadband Internet services bring in the other 35% of revenue. Sales for wireline were basically flat year-over-year.

An interesting way to compare results for Verizon and AT&T is to compare the amount of free cash flow each company generates. In 2011, AT&T produced net cash from operations of $34.6 billion. Of that money $20.3 billion was spent on capital expenditures leaving $14.1 billion of free cash flow. Verizon reported net cash from operations of $29.8 billion and spent $16.2 billion on capital expenditures leaving a similar free cash flow of $13.5 billion. However, out of these billions of free cash flow, AT&T paid $10.1 billion in dividends and Verizon paid out $5.6 billion in dividends. As a result, Verizon was left with $7.9 billion in free cash flow after dividends compared to $4.2 billion remaining on the balance sheet for AT&T. Also, Verizon saw its free cash flow increase by 29% in the 2011 fourth quarter compared to the same period of 2010.

This higher amount of free cash flow gives Verizon an advantage over its main rival. The free cash flow could be used to increase the dividend at a faster rate than for AT&T, buyback shares or invest in other ways to grow the company's business. Also, looking at the fourth quarter results, revenue growth for Verizon seems to be accelerating, while AT&T was shaking off the effects of the failed T-Mobile purchase.

Verizon can definitely be classified as a high yield stock, currently paying investors dividends at a 5.3% yield. The quarterly payout was increased by 2.5 percent in October 2011 to 50 cents per share, up from 48.75 cents. Over the last six years, the Verizon dividend has increased by about 25 percent, from 40.5 cents quarterly in 2006 to the current rate. For comparison, shares of AT&T currently yield 5.9 percent and the dividend was increased by 2.3% in January.

Comparing the stock charts of AT&T and Verizon over a long time frame, say 10 years, show the share values of the two companies moving together. Over 10 years, the total share value change is less than one-quarter of one percent different between the two stocks. However, over the last four years, Verizon has started to pull away from AT&T. From the recent bear market lows in the Fall of 2008 through mid February 2012, shares of Verizon gained 21 percent while the AT&T share price was up just 6 percent. Gaining 5% per year in share value plus a 5% dividend provides Verizon shareholders a 10% annual return. Conservative, income oriented investors should be pretty happy with returns like these.

Verizon and AT&T are locked in a battle to get the upper hand for wireless service customers. The bottom line of each company is dependent on obtaining and maintaining a customer base for both wireless and wireline customers. That is the reason why these two companies spend close to $40 billion each year in capital improvements, building better and faster service networks. At this point it appears Verizon has the advantage in revenue growth and brings more of the revenue to the bottom line as free cash flow. Investors who want to own both of these large cap wireless companies to hedge their bets may want to make the bigger bet on Verizon.


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