Should You Buy the Dow — Verizon

by Lawrence Meyers | October 28, 2011 9:00 am

Today, we’re looking at Dow Jones Industrial Average component Verizon (NYSE:VZ[1]). I’ve not been bullish on domestic telecom[2] lately. We all know what telecom companies do, and the fact is they don’t do anything all that different from each other. Telecom has become a commodity, and people have shown no loyalty whatsoever to any given carrier. It’s all about pricing at this point, which means price wars, which means low margins, which means you better have a great marketing program.

The key driving factor regarding Verizon is, therefore, competition. So aside from marketing, customer service makes a difference. And you’d better not drop a lot of calls.

Stock analysts looking out five years on Verizon are a lot more optimistic about the company than they are about competitors Sprint (NYSE:S[3]) and AT&T (NYSE:T[4]). Verizon can look forward to 10% annualized earnings growth, compared to 4.5% at Sprint and 3.8% at AT&T. Yuck! As for Verizon, at a stock price of $36 on FY 2011 earnings of $2.21, the stock presently trades at a P/E of 16.5. AT&T trades at 12 and Sprint doesn’t even have a P/E because it will have a net loss this year.

Telecom tends to be loaded with debt, and Verizon is no exception. The company is saddled with $48 billion of it, against only $6.8 billion in cash. At an interest rate of about 5.5%, the debt isn’t outrageously expensive. But the story with telecom is also free cash flow. Like AT&T, which has it in spades, Verizon’s trailing 12-month cash flow was $11.6 billion. The company also had 2.2 times the amount of free cash flow necessary to pay its 5.3% dividend.

After what I just wrote, would you buy the stock if you were an insider? Probably not. And no insider has for a very long time.

Conclusion

If we put a generous 12 P/E on Verizon, due solely to its consistent history of free cash flow and on projected 2015 earnings of $4.16 per share, factoring in the compounded dividend yield reinvested, we get a price target of right about $50 for VZ. That is indeed a 40% return from here, but I just find telecom to be a terrible place for your money unless you’re only interested in collecting the dividend.

As of this writing, Lawrence Meyers did not own a position in any of the aforementioned stocks. Check out Meyers’ take on other Dow Jones stocks here.

Endnotes:
  1. VZ: http://studio-5.financialcontent.com/investplace/quote?Symbol=VZ
  2. domestic telecom: http://investorplace.com/2011/10/sprint-s-stock-stinks-t-vz/
  3. S: http://studio-5.financialcontent.com/investplace/quote?Symbol=S
  4. T: http://studio-5.financialcontent.com/investplace/quote?Symbol=T

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