Like getting paid money to do nothing? Well, then you must love Frontier Communications (NYSE: FTR ) ! Last year the company paid out $1 in dividends per share, enough cash to represent a massive 13.7% yield at current prices. Does that sound too good to be true? Well, it was. The company had to cut its dividend to $0.75 per share, which is "only" a 10.3% yield going forward. The horror!
Should dividend-focused investors be looking to Frontier as an all-star candidate for their portfolio? Is a dividend of this size sustainable? To discern this, here's a list of reasons to buy, sell, or hold Frontier Communications.
- Unparalleled efficiency: Frontier's business isn't glitzy; it provides phone, data, and video service to a largely rural customer base. Revenue has been largely flat since 2004 because of steadily declining phone service sales and competition from larger cable companies like Time Warner Cable (NYSE: TWC ) and Comcast (Nasdaq: CMCSA ) . However, through a relentless focus on efficiency, the firm continues to produce industry-leading operating cash flow margins. Frontier also recently closed on a major deal to acquire a host of assets from Verizon (NYSE: VZ ) . The transaction actually improves the firm's balance sheet and triples Frontier's size. Verizon wanted to shed rural assets to focus on urban areas where it can sell its FiOS services, and rural-centric Frontier was a happy buyer. If Frontier can effectively operate Verizon's assets at the same level as its own, the company will be a huge winner across the coming years.
- Is the dividend safe? As mentioned earlier, one of the most popular reasons to own Frontier is its attractive dividend yield. Among traditional phone companies, Frontier's dividend isn't entirely unique. Qwest (NYSE: Q ) sports a 5.8% trailing dividend yield, and in the international space Telecom Corp. of New Zealand (NYSE: NZT ) sports a trailing 12.6% yield. These operators all face pressure trying to keep phone subscribers as consumers increasingly cut landlines in favor of cell phones and have few growth opportunities. If you can't put the money to use, ship it back to shareholders.
Is Frontier's amazing dividend safe, though? In the past 12 months, the company generated $448 million in free cash flow and paid $313 million in dividends. Its balance sheet (as of March 31) had only $331 million in cash equivalents versus over $4.8 billion in debt; the future looks very cloudy. However, since the Verizon deal will triple Frontier's size, previous measures of cash flow to dividends will soon prove outdated; even the balance sheet will get a shake-up. Moving forward, any unexpected costs integrating Verizon's services could be enough to cause either a temporary reduction or suspension of the dividend. In the wake of the Verizon deal, Frontier already cut the dividend from $1 to $0.75 per share.
- A Verizon disaster? The areas that Verizon sold to Frontier are in deep need of additional investment. While the lack of modern features, such as broadband Internet, in many of these markets presents opportunities for Frontier, it may also stretch Frontier's ability to pay its current dividend if that added investment balloons in cost or new subscribers are below expectations. It's never easy swallowing assets that triple a company's size. However, it's even harder when those assets have been neglected and a new company inherits disenfranchised customers.
The history of smaller telecom players acquiring assets from Verizon isn't exactly pretty. Given the complexity and risk of acquiring assets of this size, Frontier's dividend shouldn't be considered "stable" in the coming years. If you're an investor looking for more stability, Verizon or AT&T (NYSE: T ) have a better shot of continuing their high yields. At this point, I have to advise investors to take a "hold" stance on Frontier.
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