InvestorPlace feature writer James Brumley covered T-Mobile US Inc (NASDAQ:TMUS) stock back in October. While he was very impressed by T-Mobile’s turnaround, he ultimately concluded that TMUS stock was priced for perfection.
Fast forward to today, and not much has changed. In fact, it has gotten worse. TMUS now has a trailing price-to-earnings ratio of 39.2 and a forward P/E of 33. Granted, these numbers are lower than its five-year average, but still “frothy” indeed.
Investing is all about making choices.
If you want to buy TMUS stock, but can’t get yourself to pull the trigger (given its rich valuation), there is an alternative. It’s not nearly as sexy, mind you, but investing is all about making choices.
So, before I reveal what I have in mind, let’s look at what’s happened since Brumley gave us his two cents on the company.
Recapping T-Mobile’s Last Quarterly Report
First, TMUS reported Q3 2016 earnings (they were excellent, by the way) shortly after Brumley’s article appeared on InvestorPlace. Here’s a quick recap:
- Revenue increased 17.8% year over year to $9.2 billion.
- Net income increased 165% YOY to $366 million.
- Excluding spectrum gains, adjusted EBITDA increased 26.3% YOY to $2.4 billion.
- It added 2 million total net customers in the quarter, its 14th consecutive quarter taking customers from competitors.
- Branded postpaid phone Average Revenue Per User (ARPU) increased 2.2% YOY to $48.15
Since announcing earnings on Oct. 24, TMUS stock is up 32.4% through Feb. 8 — a sure sign investors liked the news. T-Mobile is scheduled to announce Q4 2016 earnings on Feb. 14 before the markets open.
Analysts estimate earnings per share of 29 cents for the fourth quarter; the whisper number is 32 cents. If it hits the whisper number, T-Mobile EPS for fiscal 2016 will be $1.56, or 39.7 times earnings.
Some of the stock’s increase stems from good earnings, but TMUS is also being driven higher by ongoing speculation that T-Mobile will merge with Sprint Corp (NYSE:S). In January, JPMorgan analysts talked up the idea of a tie-up between the two companies suggesting there’s a 35% chance it will happen and if it does take place, regulators are likely to give their blessings to the union.
“We believe that parents Softbank and Deutsche Telekom have increased their preference for a tie-up in the last six months and that the value of about $5 billion of annual synergies is enough to smooth over most disagreements on relative value,” JPMorgan analyst Philip Cusick told Reuters.
While the $5 billion number might seem like a lot of savings, the two companies have $33.0 billion in annual operating expenses, so even it were successful at generating those savings — most combinations rarely come close to meeting their synergy goals — that would cut just 15% of overhead.
Clearly, there has to be more to the deal than cost savings if the combination is going to work — and there is.
InvestorPlace contributor Vince Martin discussed the idea in January.
While he liked the idea of the third- and fourth-largest U.S. wireless carriers joining forces to battle Verizon Communications Inc. (NYSE:VZ) and AT&T Inc. (NYSE:T), he wondered how realistic it was, given other companies in need of a wireless platform would jump into the fray should T-Mobile and Sprint begin their M&A dance.
Here’s the Problem
If TMUS announces less-than-flattering Q4 earnings (which is highly unlikely, actually) or the Sprint/T-Mobile doesn’t happen, TMUS stock is bound to enter a correction phase as investors evaluate what lies ahead. Further, while T-Mobile appears to be a more interesting acquisition candidate than Sprint, there’s no guarantee that T-Mobile will ever be acquired.
Paying 39 times earnings for a sure bet is one thing, but paying that kind of multiple for an iffy proposition is another.
A safer alternative, especially for income investors, is to buy Deutsche Telekom AG (ADR) (OTCMKTS:DTEGY), T-Mobile’s majority owner with 65.1% of TMUS stock.
Deutsche Telekom provides a current dividend yield of 3.7% and will undoubtedly benefit should it ultimately sell TMUS in the future.
Barron’s picked DTEGY as one of its top 10 stock picks for 2017 suggesting that its T-Mobile stake alone is worth $6 per share meaning the rest of its business is currently valued at $11 per share. Barclays and Deutsche Bank analysts have a 12-month price target of $20, 17.7% higher than its current share price.
Get paid almost 4% to wait for something to happen and should you find yourself waiting in 12 months time, you can always sell and move on.
As of this writing, Will Ashworth did not hold a position in any of the aforementioned securities.