There’s a belief among retail investors that, when chasing yield, bigger is bigger. However, this is not always true, as higher yields can be misleading, and often indicate that a company has nowhere else to invest money. Perhaps the best example of bigger not always being better comes in the telecom industry, with Verizon (VZ), AT&T (T), and CenturyLink (CTL).
CenturyLink Stock Proves My Point
There’s no question that CenturyLink stock has the highest dividend yield of any big telecom company in the industry. Its 8.3% yield is unmatched.
CTL’s dividend payout of $1.2 billion over the last four quarters is far less than its $2.2 billion in free cash flow. In other words, there is actually room for CTL to up its dividend long term. Collectively, CTL stock looks perfect for dividend investors, perhaps the best.
However, in the last month alone, CTL stock has fallen 8%, essentially giving back the gains from its 8% dividend yield. CTL stock has lost more than 30% of its value so far in 2015, and well over 40% during the last five years. The problem is that its core landline phone, broadband internet, and PRISM TV business have experienced five years of pro forma declines, and 2015 did not produce the return to growth that many CTL stock owners expected.
Meanwhile, AT&T and Verizon stock pay lower dividends of 5.5% and nearly 5%, respectively. Further, T stock jumped 4.1% over the last month, whereas VZ stock traded higher by 3.2% in the same period. Over a longer period of time, T stock is up 3% this year, while VZ stock is flat. Therefore, it is no debate that both VZ and T have been far better dividend investments than CTL, despite paying lower dividends.
What does this all mean
The bottom line is that investors can’t simply look at yields and determine which stock is best to own. There must be other factors that go into the decision, such as business prospects, valuation, and the most likely trend for the stock.
With CTL stock, the fact is that nearly 40% of its business remains legacy products, and even after five consecutive years of declines this segment continues to post year-over-year losses in the mid-single digits. CenturyLink’s largest segment, Strategic, which accounts for half of its revenue, is barely in positive growth territory.
Therefore, how great are CTL stock prospects moving forward? Perhaps all of these concerns are priced into the stock, but with no growth it is hard to imagine gains that exceed the long-term value of its dividend. As a result, the best dividend investment comes down to VZ or T stock, a battle that’s not even close.
VZ Stock Upside Is Very Speculative
VZ stock is quickly becoming a pure play on the U.S. wireless market. Earlier this year, VZ sold $10 billion worth of wireline assets to Frontier (FTR) and the company is poised to lose FiOS internet and TV customers as it refuses to upgrade speeds or reduce prices to better compete with services such as GigaPower, Fiber, or Gigabit Pro.
The problem is that the wireless industry is changing quickly, and Verizon has to roll with these changes after spending a whopping $130 billion to take full control of its wireless business a couple years back. T-Mobile (TMUS) and Sprint (S) have created an environment where pricing is competitive, margins are getting thin, and finding postpaid wireless subscribers is a challenge.
That’s why Verizon is taking a big bet on advertising, launching services such as Go90 and acquiring advertising technology giants such as AOL. Essentially, Verizon’s goal is to reinvent the advertising market, and with over 100 million wireless customers, it has great potential to do so through its network. However, whether or not it does is yet to be determined. Until then, the future trend of VZ stock is just as much in the air.
Our Winner Is T Stock
Acquisitions of wireless companies in Mexico and its purchase of DirecTV are paying great dividends for AT&T. Not only does AT&T have the same growth opportunities in wireless as Verizon, but its rapid rollout of GigaPower and its move into Mexico and Latin America provide diversity and new growth opportunities beyond the U.S. In essence, AT&T is a completely different company versus Verizon, whereas in the past one could not tell the difference.
The end result of all these changes is expected growth of 12% this year and 14.3% in 2016. However, the effects to AT&T’s bottom line is even more significant. AT&T’s free cash flow soared to $5.5 billion during its last quarter, up from $3.5 billion in the year prior.
For the full-year, AT&T expects free cash flow of $15 billion. That’s good for growth of 50% over 2014. Meanwhile, AT&T’s dividend payments cost just $11.5 billion over a year’s time, leaving significant cash to hike future dividends, buy back stock, or pay off debt.
What’s really encouraging is that AT&T’s FCF should only rise moving forward, creating even more flexibility. This fact, coupled with AT&T’s new business opportunities and its double-digit growth, give it the highest likelihood for actual stock gains in the years to come, whereas Verizon is struggling to find any growth whatsoever.
The bottom line is that it is a great time to be a T stock owner, and a very uncertain time to own either CTL or VZ stock.
Brian Nichols owns AT&T stock
More From InvestorPlace
- The 6 Best Dividend Stocks to Buy in 2016
- 4 Dividend Stocks to Combat the Fed Rate Hike
- 5 Must-Have Tech Gifts for Christmas