Shares of AT&T (NYSE:T) have had a great year, rising more than 35% year-to-date as investors have celebrated the telecommunication giant’s aggressive push to bring growth back into the business through huge 5G and streaming initiatives. For the record, AT&T stock’s 35% year-to-date gain marks its best annual performance since 2006.
In other words, it’s safe to say that AT&T broke out in a hugely unusual way in 2019 and with good reason. Stocks are a discounting mechanism for future growth prospects. When future growth prospects improve, stock prices move higher. That’s exactly what happened to AT&T in 2019.
For years, this company’s growth prospects have been plagued by intense wireless competition and cord-cutting headwinds. But, in 2020, AT&T is set to reverse those trends, as the mainstream roll-out of 5G will damper wireless competition and a big streaming push with HBO will help offset cord-cutting headwinds.
Thus, throughout 2019, AT&T’s 2020 and beyond growth prospects have materially improved. As they have, AT&T stock has run higher.
The good news is that the company’s growth prospects will continue to improve throughout 2020, and that the valuation underlying AT&T stock remains reasonable. Thus, shares should continue trend higher over the next twelve months.
AT&T’s Fundamentals Are Improving
AT&T’s core fundamentals are improving in a big way and will continue to improve throughout 2020.
The big idea here is that the two major headwinds which have kept AT&T’s profits stuck in neutral for several years. Namely: intense wireless competition creating pricing headwinds and diluting margins, and persistent cord-cutting creating a drag on wire-line revenues and profits — will reverse course starting in 2020.
On the wireless front, AT&T’s big push into 5G will “de-commoditize” the wireless communications market, so that there will be a material difference in coverage quality depending on the provider. This divergence in coverage quality will turn what has become a price war in the wireless coverage world, into a quality war.
AT&T should win that quality war, given its robust 5G infrastructure, and will, therefore, be subject to less price pressure. That will provide an upward lift to the company’s wireless revenues and margins over the next few years.
At the same time, AT&T is making an equally big push into the streaming world with HBO, with plans to launch its own content-packed streaming service in early 2020. That streaming service should see healthy demand. Healthy demand therein will help offset persistent cord-cutting weakness and create stabilization in the company’s entertainment revenue and profit trends.
Big picture? AT&T revenue and profit trends should materially improve over the next few years, and that creates a foundation upon which AT&T stock can keep climbing higher.
AT&T Stock Is Trading as It Should
Given AT&T’s improving fundamentals, the numbers here indicate that AT&T stock is trading exactly where it should be at this point in time, with visible potential to keep moving higher in 2020.
AT&T management recently outlined a three-year plan wherein they expect the company to grow revenues at a 1-2% annualized rate, and for profit margins to expand by roughly 200 basis points. Considering the 5G and streaming catalysts on the horizon, those targets seem entirely doable.
Indeed, considering that both of these catalysts are multi-year in nature, it is quite likely that revenue growth in the 1-2% range persists beyond the next three years, and into 2025. Expense base reduction on top of 1-2% revenue growth should also drive steady and gradual margin expansion during this stretch.
Putting all that together, AT&T should be able to sustain low single-digit revenue growth over the next few years, on top of some margin expansion, which should drive mid single-digit profit growth. Assuming so, my modeling pegs 2025 earnings per share for AT&T at roughly $4.50.
Based on an exit multiple of 12.5-times forward earnings (which is about average for the integrated communications sector) and a 5% annual discount rate (accounting for the 5% yield), that equates to a 2019 price target for AT&T stock of just over $40.
Bottom Line on AT&T Stock
AT&T stock has had a great 2019 with good reason — this company’s headwinds, are turning into tailwinds. This critical transformation will continue to play out in 2020, and as it does, AT&T should keep grinding higher.
As of this writing, Luke Lango was long T.
