A strong dividend and an upside based on recent acquisitions makes AT&T (T) a stock to buy. AT&T operates in three reportable business segments: wireless, wireline and other. AT&T’s wireless business has been a market leader along with competitor Verizon Communications (VZ) for several years. Currently, both Verizon and AT&T hold about 34% of the U.S. wireless market.
AT&T’s wireless segment produced 54% of revenue and 76% of profits in 2013; wireline produced 46% of revenue and 27% of profits in 2013; and the third segment accounted for less than 1% of revenue and produced negative profits. AT&T’s wireline business has been in cyclical decline for many years as customers switch to wireless or VoIP services, making AT&T’s wireless segment a growth engine supported by the wireline business.
AT&T Grows Through Acquisition
After years of stagnant sales growth, AT&T announced two significant acquisitions so far this year.
In May, AT&T announced the $49 billion acquisition of DirecTV (DTV), which was a big surprise to investors as it was anticipated that the Dish Network (DISH), with its large cache of wireless spectrum, would have been a better fit to expand AT&T’s wireless operations. After being burned by regulators in its failed attempt to buy wireless rival T-Mobile US (TMUS) in 2011, AT&T learned that regulators will not be easy on them when it comes to new acquisitions in the wireless space, making DirecTV a better fit.
The deal is still going through the regulatory ringer but stands a better chance of passing scrutiny than an acquisition of Dish Network would have.
The second big acquisition was announced last week, in which AT&T will acquire Iusacell — Mexico’s third-largest wireless company — for $2.5 billion.
The Iusacell acquisition challenges renowned Mexican businessman Carlos Slim on his home turf, which at first may not seem like a good idea, but recently the Mexican government has been cracking down on America Movil SAB de CV’s (AMX) virtual monopoly on the Mexican wireless market, forcing Slim to divest key assets.
This may be just the opportunity that AT&T needs to get into a growing international market and appeal to Mexican customers who may already be familiar with the AT&T brand.
Stability Makes AT&T a Stock to Buy
AT&T’s consensus stock price target is $35.50, which approximates its current trading range and has 2.74 price to earnings growth ratio, making AT&T stock appear fully valued, but valuation is not the reason I would buy AT&T.
With a market beta of 0.19 and dividend yield of 5.2%, AT&T stock is the poster child of stable stocks. With increased earnings, AT&T has gotten its dividend payout ratio to less than 15% on a trailing-12-month basis, and although AT&T’s stock lags the overall market, its stock price generally does not move more than 10% in a given direction in any given month. I can live with that, and use the dividends to invest in higher potential assets to increase returns.
There are, of course, always risks. AT&T is facing greater competition from Sprint (S) and T-Mobile after merger talks between the two wireless carriers collapsed and market competition increased. There is also the iPhone issue. Depending on the quarter, iPhones can account for more than 80% of AT&T’s total smartphone sales; this compresses margins when new iPhones are released, as AT&T provides large subsidies on these new phones to make them affordable for consumers.
In addition, look for AT&T to continue investing in its network, although I doubt it will have any effect on dividends — continued capital investment is critical for long-term growth.
AT&T is a stock to buy and hold in a well-diversified portfolio to offset the volatility risk of higher-potential but smaller equities.
As of this writing, Kenneth Fick did not hold a position in any of the aforementioned securities. Write him at kfick@piercethefog.com or follow him on his blog at www.piercethefog.com.
