I’ve historically been very bearish about AT&T (NYSE:T) stock. You can read about my pessimism here, here, and here. When it comes to wireless carriers, T-Mobile U.S. (NASDAQ:TMUS) is the one that has the best growth potential. It’s been on a heater the past five years, up 136% compared to a loss of 27% for AT&T stock and 33% for Verizon Communications (NYSE:VZ). I expect this to continue.
AT&T’s share price is up 26% in the past five months, suggesting the worst may be over. While generally bearish about the company, there are some compelling reasons for aggressive dividend investors to take a sniff. I wouldn’t buy it, but that doesn’t mean you shouldn’t. Here’s why.
Free Cash Flow Rising in 2024
What do you need to grow your dividend payments every year consistently? Free cash flow growth. The more, the merrier. At the company’s Dec. 11, 2023, appearance at the Oppenheimer 5G Summit, the words “free cash flow” were mentioned 11 times.
“Importantly, one of the things that we’ve done this year that I’m incredibly proud of, we have really upped our organic cash conversion. It’s allowed us to grow free cash flows very nicely plus also allowed us to pay down some of our short-term financing obligations,” said CFO Pascal Desroches. I would expect us to continue to run that play as we move forward because we are building a durable franchise that drives free cash flow with very good margin profiles overall.”
As Oppenheimer & Co. senior analyst Timothy Kelly Horan said in his role as moderator for the event, AT&T is trading at a 14% free cash flow yield. Anything above 8% is considered value territory.
In 2023, the company should generate $16.5 billion in free cash flow. It remains on track to get to a net debt to adjusted EBITDA (earnings before interest, taxes, depreciation and amortization) ratio of 2.5x by the middle of 2025.
As of Sept. 30, 2023, it had a net debt of $128.71 billion. That was 2.99x its trailing 12-month adjusted EBITDA, down from 3.22x a year earlier. At 15-25 basis points a quarter, it could hit the target by Q2 2024, a full year earlier.
Of course, a lot has to go its way, but it’s encouraging, nonetheless.
What are the Capital Allocation Levers to Pull in 2024?
There’s no question that debt repayment is a big part of the plan. Assuming free cash flow grows by 17% in 2024, just as expected in 2023, that’s $19.3 billion to go toward debt repayment, dividends, and other capital allocation levers such as share repurchases, investments in the business, and acquisitions.
Through the first nine months of 2023, it paid out $6.12 billion for dividends, down 22% from the same period in 2022. This is due to 325 million fewer shares outstanding year-over-year. With 7.28 billion shares outstanding as of Sept. 30, the $1.11 annual payout works out to $8.08 billion in dividends paid in 2023, down 18% from $9.86 billion in 2022.
Based on a 15% reduction in dividend payments in 2024, we’re looking at $6.89 billion. That leaves $12.41 billion for debt repayment, share repurchases, etc.
At the end of 2022, its net debt was $132.19 billion, down from $156.41 billion in 2021. In the first nine months of 2023, it was $128.71 billion, or 2.6% lower. It could be down to $125 billion by the end of 2023. That’s about a 5-6% reduction in the past year.
If it repeats, in 2024, we’re looking at debt repayment of $6.9 billion this year, bringing net debt down to $118.1 billion. If you subtract $6.9 billion from the $12.41 billion in free cash unused, it’s left with $5.51 billion for other capital allocation levers.
Because of significant debt repayments over the past two years, the company only repurchased $1.07 billion. There’s plenty of free cash available for accelerated share repurchases in 2024.
It still has 144 million shares left on its share repurchase program; at current share prices, that would be a nearly $2.5 billion investment.
As the CFO said at the Oppenheimer conference in December, it may raise the annual dividend from $1.11, where it’s been since February 2022, when it halved it to preserve cash.
Currently yielding an already high 6.5%, an increase could take it into double-digit territory. That would be irresistible to dividend lovers, especially given its free cash flow generation appears manageable.
The Bottom Line on AT&T Stock
Should AT&T reduce its net debt to $118 billion in 2024, that would be less than its market cap for the first time in a long while. That’s an excellent thing. That said, it’s still very high relative to T-Mobile’s at 58%, with much more growth ahead.
As I said in the intro, I won’t buy AT&T stock. However, the risk/reward proposition finally tilts toward investors brave enough to jump in. If you’re aggressive, now might be the time.
On the date of publication, Will Ashworth did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
