Don't Get Suckered By Sprint, Buy AT&T, Verizon Instead
David is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Telecom is one of the trickier industries to get involved in. While they offer high dividend yields, they mainly are shareholder-friendly in the capital allocation policy because of limited growth prospective. While Sprint (NYSE: S) has nearly doubled over the last three months, the fundamentals are still shaky and, unlike peers, there is no dividend yield. AT&T (NYSE: T) and Verizon (NYSE: VZ), on the other hand, have impressive economic moats and can expand through takeover activity. AT&T may have failed to acquire T-Mobile in a game-changing transaction, but it still is well ahead of the curve in 4G. Below, I review the fundamentals of each company.
AT&T and Verizon
AT&T trades at 14.3x forward earnings versus 15.2x for Verizon - fairly high multiples compared to the broader market and historical standards. The 5-year average PE multiple of AT&T is 21.5x. In terms of dividend distributions, both companies offer a yield of around 4.75%. When it comes to risk, both are very safe with around half the volatility of the broader market.
In terms of growth, analysts forecast AT&T and Verizon to gain 9.2% annually to EPS over the next 5 years. Assuming AT&T meets expectations, 2016 EPS will come out to $3.35, which, at a 17x multiple, translates to a future stock value of $56.95. Discounting backwards by 7% yields a present value of $40.60. Thus, AT&T is slightly undervalued but has strong room to appreciate. If Verizon meets expectations, its present value when discounted backwards by 7% at a 17x multiple would be $44.48. Accordingly, AT&T is more undervalued (however slightly), offers a higher dividend yield, and trades at a lower multiple.
When it comes to financial position and returns, it is a mixed bag. The debt-to-equity ratio for Verizon stands at 1.4 versus 0.6 for AT&T. However, Verizon has meaningfully higher ROA, ROE, and ROI, as well as a current ratio above 1 versus 0.6 for AT&T. All in all, I recommend a preferential investment in AT&T and slight holding in Verizon. Since I believe the economy is poised for a full recovery, however, I recommend backing stocks - in general - with stronger growth curves than many mature telecom producers.
Given concerns over a possible bankruptcy, Sprint is in a very speculative position. Sales in iPhone may have jolted back life into the stock, but it has come at the cost of lowering margins. One major opportunity for Sprint is the 4G market - not that it can edge out AT&T or Verizon but rather that the company bests prior expectations that have set the bar quite low.
The firm, after all, has a great cost advantage over its competitors. New advertising has highlighted how expensive data plans are for Sprint and AT&T and should consumers look for cheapness over quality, Sprint may end up becoming one of the greatest comeback stories. However, if there was ever a time for consumers to be price-pressured, it would be now: with the economy uncertain, unemployment high, and major sovereign debt woes abroad, consumers - even the affluent - are feeling pinched. How could Sprint expect to lure back those same consumers who weren't even so convinced during today's macro climate? Much of the recent run up in the stock has been driven by signs of a comeback story. In my view, this local high easily warrants holding off on Sprint.
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