4 Reasons This Boring Company Could Be An Exciting Investment

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

To be fair, AT&T (NYSE: T) has seemed like the redheaded stepchild to Verizon (NYSE: VZ) for a while now. In fact, on a consistent basis, Verizon has outperformed AT&T in the area of wireless growth. However, AT&T is being aggressive improving its network and spending to improve its growth capabilities as well. Though the company's recent earnings report doesn't show huge growth, it does show there are several reasons this stock could be a relatively exciting investment in the future.

Bigger Is Better:

Whether some people would like to believe it or not, in the telecommunications field there are the haves and the have-nots. AT&T and Verizon have clearly taken the lead in the wireless industry. The positive network effect of having more subscribers than their competition puts any other company at a huge disadvantage. In fact, I've argued in the past that this positive network effect might not be something their competitors will ever overcome. With Verizon reporting over 90 million subscribers, and AT&T reporting almost 106 million wireless subscribers, these two companies dominate the industry. When you realize that competitors like Sprint (NYSE: S) and MetroPCS (NYSE: TMUS) have to compete with 50 million and around 9 million subscribers respectively, you can see that this is going to be an uphill battle for anyone besides the top two players.

Wireline Isn't Dead It's Just Changing:

On the other hand, AT&T and Verizon have wireline divisions that they must maintain. The good news is while landlines are being cancelled; increasingly customers are looking to cut the cord of their cable company. Generally the first place they turn is to their telecommunications provider. On a consistent basis, I've noticed a trend of cable companies losing video subscribers, and telecommunication companies picking them up. In addition, both cable companies and telecommunication companies are gaining high speed Internet subscribers. Looking at AT&T, there are at least four different reasons that investors should consider the stock at the current time.

Reason #1 - Wireless Growth:

As most people know, the primary reason to consider either AT&T or Verizon is their wireless divisions. While Verizon is growing its wireless subscribers at a faster rate, AT&T is still seeing good growth, and has the most total subscribers of the domestic telecoms. The company added 678,000 subscribers in the current quarter, to end with just short of 106 million. AT&T also reported average revenue per postpaid subscriber increased 2.4% on a year-over-year basis. The company also improved its postpaid churn to just 1.08%. While this doesn't compare as favorably with Verizon's 1.8 million net additions, or the company's lower churn of 0.91%, it is nevertheless impressive with so many customers already established. What AT&T gains from this huge subscriber base is cash flow that can do a lot for shareholders.

Reason #2 – Operating Cash Flow Growth:

One piece of information that is seemingly underreported when it comes to telecommunications companies is, there is a difference between net income and operating cash flow. In fact, for many companies in this industry their operating cash flow is a multiple of their net income. This is important to understand, because looking at the stock's P/E ratio might look expensive, but looking at cash flow there is actually value that novice investors may not be aware of. In AT&T's recent quarter, though EPS increased just 3.5%, operating cash flow in the last nine months was up 6.61%. Though this might not sound like a lot, AT&T operates in an industry where each additional subscriber adds incremental profit to the bottom line. The company's wireless and wireline units must be up and running all the time regardless of the number of users. To get an idea of the difference between being the number one or two company in the industry, versus third or fourth, consider the difference in AT&T's free cash flow versus their competition. In the last nine months, AT&T generated over $15 billion in free cash flow. Verizon generated equally impressive results with over $13 billion in free cash flow. Sprint on the other hand, shows just $624 million in free cash flow, and reported negative cash flow in the current quarter. MetroPCS is in a just slightly better position with less than $300 million in free cash flow during the same timeframe. When the top two companies generate billions more free cash flow than their competition, this yet again proves the point that bigger is better.

Reason #3 - Share Repurchases:

AT&T has consistently returned value to its shareholders through share repurchases. The company repurchased over 100 million shares in the current quarter at an average price of $37.62. With the stock selling below this price, investors have a chance to buy below what management just paid. In addition, the company's diluted share count is down 2.7% on a year-over-year basis.

Reason #4 - Dividend Growth and FCF Coverage:

While in the past, I've worried that AT&T's free cash flow coverage of its dividend wasn't as good as Verizon's, AT&T showed impressive results over the last nine months. In fact, the company's free cash flow payout ratio was 50.49% during this timeframe. Though this number is still higher than Verizon's payout ratio of about 29%, AT&T's yield is also higher.

Conclusion:

Now I know there are fans of smaller telecom companies, but it's hard to make an argument that AT&T or Verizon could be challenged for their current lead. Each company has significantly more subscribers than their competition, and this advantage leads to huge cash flow generation that benefits shareholders. While some might worry that AT&T is a slow growing company, these investors might be missing the big picture. AT&T offers a yield of more than 5.3%, and analysts expect earnings growth of over 6.6%. The combined total return of roughly 12% would be more than enough to satisfy most investors. The fact that the stock has a low beta and should give investors a quieter ride than other companies, is yet another reason to give AT&T a second look. If you want to keep up with what's going on at the old Ma Bell, I suggest adding the stock to your Watchlist today.


MHenage owns shares of Verizon Communications. The Motley Fool has no positions in the stocks mentioned above. Motley Fool newsletter services recommend AT&T.; Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.

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