Valuentum Exclusive Analysis for the Discerning Investor

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Image: AT&T’s dividend obligations have been substantially reduced, aiding in its coverage of the payout with free cash flow. Image Source: AT&T.

By Brian Nelson, CFA

AT&T Inc. (T) has taken investors on a wild ride the past couple years, first saying it would support its payout as recently as early 2021, and then cutting it as it pulled a 180 on its strategic vision. However, in the communication giant’s third-quarter report, released October 20, AT&T showed robust free cash flow generation ($3.84 billion) that nearly doubled cash dividends paid in the period ($2.01 billion). We liked this a lot as it reveals marked improvement in coverage on a year-over-year basis.

However, the uncertain economic climate coupled with inflationary pressures on consumers, not to mention an increased competitive environment, leave us decidedly on the sidelines with respect to shares. The company showcased 708,000 postpaid phone net adds and 338,000 Fiber net adds in the period, and while both wireless and broadband revenues advanced during the quarter, the economic environment could be at the precipice of a huge pullback in consumer discretionary expenses – meaning this strength and optimism is likely short-lived.

The huge problem with AT&T, not unlike that of other high dividend yielders out there, is its massive net debt position, which stood at $131.1 billion at the end of the quarter, implying a net-debt-to-adjusted EBITDA ratio of 3.22x. This isn’t extraordinarily high for a company of AT&T’s caliber, but it does signal a company that remains hugely overleveraged due to the capital-intensity of its operations. Thanks to $4-$6 billion in targeted run-rate cost synergies by the end of this year, however, AT&T noted that adjusted EPS from continuing operations for the full year is now targeted at $2.50+, a decent bump from its prior outlook.

Concluding Thoughts

AT&T’s free cash flow generation in the third-quarter 2022 was good enough to significantly cover the cash dividends paid in the period, generating a free cash flow dividend payout ratio of 52.3% versus 98.1% in the same period a year-ago. Though its massive net debt position will continue to weigh on its Dividend Cushion ratio, AT&T’s free cash flow coverage of the dividend is looking much better these days. 

Still, AT&T has a lot to prove, and CEO John Stankey has said as much. The WarnerMedia acquisition and spin-off has left a sour taste in many an AT&T investor’s mouth, and while we liked the improvement shown in AT&T’s third-quarter 2022 results, we’re not looking to add the shares to any of the newsletter portfolios at this time. Our fair value estimate stands at $16 per share, and its Dividend Cushion ratio is decidedly negative. Shares yield ~7.1%.

Telecom Services: CMCSA, LUMN, DISH, T, TMUS, VZ, SBAC, AMT, CCI, PARA

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About Our Name

But how, you will ask, does one decide what [stocks are] "attractive"? Most analysts feel they must choose between two approaches customarily thought to be in opposition: "value" and "growth,"...We view that as fuzzy thinking...Growth is always a component of value [and] the very term "value investing" is redundant.

                         -- Warren Buffett, Berkshire Hathaway annual report, 1992

At Valuentum, we take Buffett's thoughts one step further. We think the best opportunities arise from an understanding of a variety of investing disciplines in order to identify the most attractive stocks at any given time. Valuentum therefore analyzes each stock across a wide spectrum of philosophies, from deep value through momentum investing. And a combination of the two approaches found on each side of the spectrum (value/momentum) in a name couldn't be more representative of what our analysts do here; hence, we're called Valuentum.