AT&T Nearing An Inflection Point: Is It Time To Buy?
Contributor since 2017 / 32481 Followers
Summary:
- AT&T’s Q1 results showed solid progress, with increased free cash flow and debt reduction.
- The company expects to reach its long-term leverage target by H1 2025, with the potential for accelerating dividend growth and/or buybacks.
- We take a fresh look at T stock to see if it is finally time to buy it.
wdstock
AT&T (NYSE:T) recently reported its Q1 results, showing strong progress, particularly in increasing its free cash flow and paying down debt aggressively. Until now, my outlook on AT&T has been neutral to bearish due to the need to pay down its heavy debt burden consuming a lot of its discretionary cash flow and its aggressive investment needs for its 5G rollout and overall business model to maintain competitive positioning and growth. Consequently, I expected the dividend to remain largely stagnant, with only minimal increases each year moving forward. This made the relatively attractive current yield less appealing from a total return standpoint, especially given the company’s unattractive EBITDA multiple compared to its history and the current high interest rates.
However, with the rapidly approaching inflection point of H1 2025, where the company expects to reach its long-term leverage target, and the apparent peaking of CapEx requirements for rolling out its fiber and 5G business, things are starting to look better for AT&T. In this article, I will examine whether it’s finally time to turn bullish on the stock.
T Stock Q1 Results
AT&T’s Q1 results were overall solid, with mobility service revenues up by 3.3%, consumer broadband revenues up by 7.7%, and adjusted EBITDA margin expanding by 170 basis points, leading to 4.3% adjusted EBITDA growth. However, its business wireline segment, a smaller part of the business, shrank sharply with a 7.8% year-over-year decline, leading to an overall revenue decline for AT&T of 0.4% year-over-year. Moreover, adjusted earnings per share for Q1 declined by 8.3% year-over-year.
Despite these challenges, there were some positives in the quarter, such as AT&T adding 349,000 postpaid phone subscribers and 52,000 new subscribers for its fiber service. However, both figures were down meaningfully year-over-year from 424,000 and 272,000, respectively. On the positive side, the company achieved a record-low first-quarter postpaid phone churn and saw a marked improvement in cash from operations, increasing from $6.7 billion to $7.5 billion. Moreover, on a free cash flow basis, it soared from $1 billion last year to $3.1 billion this year in Q1. This extra free cash flow is particularly important as it enables AT&T to pay down its debt more aggressively.
T Stock Outlook
Moving forward, the big question facing AT&T is how quickly it can achieve its 2.5 times leverage ratio target from its current 2.9 times level and what it plans to do with its free cash flow once that target level is reached. For the year, management expects to generate $17-$18 billion in free cash flow, implying a significant amount of free cash flow coming in the upcoming quarters to continue paying down debt. Despite falling revenue and weak earnings numbers, the company is guiding for 3% adjusted EBITDA growth this year and expects wireless service revenues to grow by 3% and broadband revenues to grow by over 7% for the year. They are also guiding for adjusted earnings per share between $2.15 and $2.25 for the year, which represents a year-over-year decline but hopefully serves as a trough before the company resumes growth.
If the company’s narrative is to be believed, over the next three to four quarters, it will use significant free cash flow generation to aggressively pay down debt, further strengthening the balance sheet. The rapidly declining legacy businesses will continue to wind down while their continued aggressive investments in fiber and other businesses will make their legacy business an increasingly small percentage of the business, thereby enhancing overall growth dynamics for the top and bottom lines, making 2024 a trough year with solid growth resuming in 2025. Additionally, the company should reach its leverage target by early next year, hitting an inflection point where it can pivot from using a large amount of discretionary free cash flow for debt reduction to accelerating dividends, stock repurchases, and/or opportunistic growth investments.
T Stock Challenges
While this all sounds promising, a couple of key questions remain. First, there is the matter of execution. AT&T has a poor track record of underperforming its investment targets and failing to deliver. Moreover, while the company’s recent laser-like focus on paying down debt and strong free cash flow generation in Q1 instills some confidence that it can achieve this objective, the rapidly declining legacy business poses a headwind that places a significant burden on the rest of its business to overcome. Additionally, analysts expect revenue growth to peak at 2.2% in 2027, implying the business will shrink on an inflation-adjusted basis for years to come, given how much they are investing in growth, including a whopping $21-$22 billion this year. This constitutes unimpressive returns on investment.
Meanwhile, earnings per share are expected to be down this year, with revenue and earnings per share declining significantly in Q1. There’s always the concern that this could end up being a situation similar to Lumen Technologies (LUMN), where the company continues pointing to future growth and invests aggressively for it, but meaningful growth never materializes. While AT&T has a much lower risk profile than LUMN does, some concerns remain, especially given its track record of delivering weak shareholder returns. Additionally, the outlook for the dividend does not look too rosy, as analysts expect only a 1% dividend CAGR through 2027. Although the dividend appears safe for the foreseeable future and could experience a slight acceleration next year, it is more likely the company will prioritize buybacks or growth investments if the stock price remains somewhat suppressed in order to further strengthen the dividend’s safety.
Investor Takeaway: Is It Time To Buy T Stock?
When it comes to valuation, AT&T still does not look cheap, especially given its recent recovery in stock price. With an EV/EBITDA ratio of 6.4 times compared to its historical average of 6.48, there simply isn’t much of a discount, if any, in the current stock price. The dividend yield of 6.5% is not particularly attractive either, especially given the low dividend growth outlook and elevated current interest rates, as over the last three years it has averaged a 6.93% dividend yield. Additionally, its price-to-earnings ratio of 7.75 times is not that attractive relative to its three-year average of 7.52 times. As a result, AT&T is not a bad option as part of a diversified portfolio for people looking for a stable and attractive dividend, but from a total return standpoint, the valuation does not look particularly compelling.
While risks are declining due to the strengthening balance sheet and somewhat improving growth fundamentals, there is little to get excited about here to make us view it as a buy. Instead, we will wait to see if management can execute on their outlook and observe where interest rates head. Ultimately, we think the stock is worth buying only if there’s a meaningful dip from here. Even if the company executes its plan, much of that seems already priced into the current valuations. As a result, we rate AT&T as a Hold and are focusing on other opportunities elsewhere.
Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Seeking Alpha’s Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.
If you want full access to our Portfolio which has beaten the market since inception and all our current Top Picks, join us for a 2-week free trial at High Yield Investor.
We are the fastest-growing high yield-seeking investment service on Seeking Alpha with ~1,200 members on board and a perfect 5/5 rating from 166 reviews.
Our members are profiting from our high-yielding strategies and you can join them today at a compelling value.
With the 2-week free trial, you have nothing to lose and everything to gain.
Start Your 2-Week Free Trial Today!
