The opening sentence of the Wall Street Journal’s Oct. 24, 2016, article about the AT&T Inc. (NYSE:T) deal to acquire Time Warner Inc (NYSE:TWX) for $108.7 billion says it all.

“Buying Time Warner Inc. will make AT&T among the most heavily indebted companies on earth.”

Hyperbole, perhaps. But owners of T stock must take into consideration that statement before gleefully banking AT&T’s $1.96 annual dividend payment.

Why? Because some things aren’t worth the risk.

The AT&T Retirement Fund

Let’s assume that you require $100,000 annually to live comfortably and AT&T stock is your only source of income and wealth. Not being a tax advisor, I’m going to assume your dividend income and capital gains are both taxed at 15%.

Therefore, you’ll need approximately $117,650 in AT&T dividends to meet your needs for the next year. Again, I’m not a tax specialist. This is simply meant to help investors understand the ramifications of their decision to own T stock because of its 5.1% dividend yield.

To generate the $117,650 you’ll need approximately 60,025 shares. At AT&T’s May 25 closing price of $38.23 that comes to an investment of $2.3 million. That’s not chump change.

According to GuruFocus.com, AT&T has a five-year dividend growth rate of 2.2%. Based on this track record, it’s projected to pay out $2, $2.05, $2.09, $2.14 and $2.19 in annual dividends over the next five years. The Federal Reserve Bank of Cleveland expects inflation to be less than 2% over the next decade.

Not Much Dividend Growth for T Stock

So, at a 2.2% dividend growth rate and expected inflation of, say, 1.5%, that doesn’t leave much for real, inflation-protected dividend growth. In my opinion, you’re taking a significant chance that AT&T continues to pay a dividend with not much upside to make the extra risk worthwhile.

Remember the opening. One of the most heavily indebted companies on earth!

If you agree with me, you now have to consider the capital gains potential of T stock because if the dividend growth isn’t going to cut it, the capital appreciation better, or you’re exposing yourself to unnecessary risk.

Over the past five years, AT&T stock has achieved an annualized total return of 7.2% for shareholders. With its dividend yield holding in the 5% range, capital appreciation accounted for an additional 2%. Over the longer haul (10-15 years) it’s negative.

Investing, like life, is all about probabilities.

How likely is it that AT&T is going to deliver more than 2% capital appreciation over the next five or ten years? If you listen to the executives at AT&T and Time Warner talk about the transformational nature of the deal, it’s a slam dunk.

Transformational Merger?

“If I’m an advertiser, I love this. If I’m a content creator, I love this,” said AT&T CEO Randall Stephenson last October explaining the benefits of its merger. “The nature of this deal is unique from anything we’ve done before in that it’s a vertical integration. … There are no competitors being taken out of the marketplace.”

Time Warner CEO Jeff Bewkes covered all the benefits in one big statement.

“With AT&T, we’re bringing together all our great television, film, games and digital content and we’re aligning it with their direct-to-consumer distribution across TV — including DirecTV — mobile and broadband in the United States and across Latin America. All told, AT&T has more than 100 million subscribers,” said Bewkes last October. “This combination is going to put us in an even stronger position to go where our audiences are going: to a world with ubiquitous video-on-demand across all platforms and devices, giving people great experiences along with the brands and the content they love.”

Time Warner brings the content; AT&T gets it out there. End of story. A good one — at least on paper.

Okay, so let’s assume this is going to be the most successful big merger in the last 100 years. What’s that do for T stock beyond 2% a year? 4%? 6%? 8%? The sky’s the limit? Where do we draw the line?

I don’t have the answers.

Failure’s an Option

What I do know is that big mergers fail more often than they succeed. A KPMG study suggests as many as 83% of mergers don’t deliver increased shareholder returns. Others put it at a 50/50 proposition. Whatever the number, it’s going to be at least 24 months before investors have an inkling about this deal’s chances of success.

Is the wait worth it?

I read on an investment message board recently a thread discussing AT&T’s dividend. Someone suggested that the issuance of debt keeps the 5.1% dividend yield from crashing to zero.

That got me looking at AT&T’s free cash flow and how much it spent over the past five years on dividends, share repurchases and debt repayment. Here’s what I found.

AT&T Capital Allocation 2012-2016

Year	Free Cash Flow	Net Share Repurchases	Net Debt Issued/Repaid	Dividends	Surplus/Deficit
2016	$16.9B	$366M	-$683M	$11.8B	$5.4B
2015	$15.9B	$126M	$23.9B	$10.2B	-$18.3B
2014	$9.9B	$1.6B	$5.6B	$9.6B	-$6.9B
2013	$13.9B	$12.9B	$9.1B	$9.7B	-$17.8B
2012	$19.7B	$12.3B	$4.8B	$10.2B	-$7.6B
Total	$76.3B	$27.3B	$42.7B	$51.5B	-$45.2B

Source: Morningstar.com 5-Year Financials

Note: Net Share Repurchases defined as stock repurchased less stock issued.

Net Debt Issued/Repaid defined as debt issued less debt repaid.

Two Observations

First, the person who made the suggestion about piling on debt to pay the dividend isn’t wrong. If you back out the net share repurchases ($27.3 billion), the deficit drops from $45.2 billion to $17.9 billion. As far as I’m concerned, AT&T borrowed $18 billion over the past five years to maintain its dividend.

Now, that’s not a bad thing if it can grow free cash flow, but over the previous five years, revenues have increased by $37 billion while free cash flow has remained relatively static. That’s not a winning recipe in my mind.

Secondly, the $45 billion deficit fails to take into account the other two levers of capital allocation: acquisitions and reinvesting in its existing business. Once the dust settles and the Time Warner deal is completed, it will be interesting to see what happens to that deficit.

If you’re long T stock I’m sure you’re hoping the free cash flow engine revs up because if it doesn’t, $170 billion in potential long-term debt upon completion of the deal is going to be incredibly burdensome on the company.

Bottom Line for T Stock

My advice would be to find a stock that has much less debt, pays a decent 3% dividend yield, and is growing that dividend by more than 2% per year.

In my view, the 5.1% yield is hardly worth it.

As of this writing, Will Ashworth did not hold a position in any of the aforementioned securities.