AT&T (T 1.60%) has long been a preferred stock among income-seeking investors due to the company's dependable cash generation, big yield, and regular payout increases. However, in recent years, shareholders have had to mostly be content with the telecom giant's admittedly strong dividend profile. Shares have traded down roughly 5% over the last five years, and the stock's total return of 26% over the stretch comes in well below the S&P 500 index's 68% gain.

The tough competitive climate in the wireless service space and cord-cutting in TV land have put the business on a low growth trajectory. That's reflected in the AT&T's valuation, with shares trading at roughly 10 times this year's expected earnings and nine times expected free cash flow, but is the stock a value play or a value trap at current prices?

AT&T's logo.

Image source: AT&T. 

A top dividend profile

As mentioned, AT&T's dividend is a big part of the stock's appeal. Shares yield roughly 5.7% at current prices, and the company's history of annual payout increases and strong cash flow give shareholders good reason to bank on regular dividend growth. The company has raised its payout annually for 34 years running, and the cost of distributing its current dividend comes in at a reasonable 70% of trailing free cash flow (FCF). 

If you're looking for a low-risk, income-generating investment, I think AT&T fits that profile well. So, for retirement or income-focused portfolios, the company looks like a buy to me, but I'd also like to look at the business's prospects to explain why the income play is sound and explore whether the stock might also have appeal to less risk-averse investors.

Navigating the state of telecom

AT&T is America's second-largest wireless provider, trailing only Verizon in subscriber count. It's also the nation's largest pay-TV provider through its DirecTV subsidiary. These are the company's core areas of operation -- and ones that are playing host to some disruptive trends at present. In the wireless space, the company has historically differentiated its network as a premium offering, but network improvements from budget-priced competitors like T-Mobile and Sprint and an unlimited-data pricing war that also includes Verizon have eaten at sales and profitability. 

One way AT&T is dealing with these challenges is by bundling mobile coverage, wireline internet, and television packages together. The company has an edge in its ability to do this, and one that gives it a means of navigating the competitive wireless space and buttressing its video business against cord-cutting.

The company added another 170,000 bundle customers in the December-ended quarter -- welcome news on one level, but the bundle-heavy pursuits are also eating away at the company's margins. So, its ability to bundle better than its competitors, some compelling adoption indicators and room for expansion in markets like Latin American suggest that AT&T should be able to maintain a solid baseline business in the telecom space, but it's going to have to look to new technologies, services, and integrations to drive growth.

There are promising developments on those fronts even if the material outcomes are unclear at present. As an example, AT&T is moving aggressively to secure the future of 5G network technology. This next generation of wireless network technology will bring about a dramatic leap in download speeds, but more significantly, it's going to make a lot of other things possible.

The 5G network evolution will bring about the first truly low latency solutions. When data is requested, there's a small window of delay before it's actually sent, but that delay represents a major roadblock for demanding technologies like self-driving cars. The average latency on a 4G network is roughly 50 milliseconds, but 5G networks could reduce this delay to just one millisecond.

This low latency feature could wind up being crucial to the evolution of Internet of Things (IoT) technologies like connected cars, virtual reality, and smart city applications. AT&T is also positioning itself as an IoT platform provider, so it's got opportunities in the space that extend beyond providing network connectivity.

An illustration of a car receiving wireless internet.

Image source: Getty Images.

Bundling has paved the way to sales growth in the short term, but it's also been weighing on margins, so AT&T's investment in 5G could be crucial to buttressing pricing strength. The 5G push will require substantial capital spending, but I think there's a lot of opportunity for the company here and expect it to capture some significant wins.

Tax reform tailwinds

AT&T stock is also looking more attractive following the passage of the recent tax reform bill. In addition to lowering the basic corporate tax rate, the new tax code includes beneficial provisions for companies with high annual capital expenditures. All told, AT&T's effective tax rate looks like it will drop from roughly 33% to roughly 23%.

The change brings substantially beneficial implications for the company's cash flow picture, granting added ability to deliver dividend growth while also investing in the future of the business. AT&T generated $17.6 billion in free cash flow (FCF) across 2017 and is guiding for roughly $21 billion in FCF for the current year. That's on track to happen even as the company is increasing capital spending from $21.6 billion last year to $25 billion in the current period. Management anticipates that the tax bill will result in a positive earnings impact of $0.45 per share, and that's an upward adjustment range that should be sustained going forward. 

Time Warner acquisition could be big

AT&T's $85.4 billion bid to acquire multimedia giant Time Warner (TWX) is a move that stands to bridge the network company into new areas and be a boon to its video and bundling initiatives. It's a massive deal, one of the biggest acquisitions of the last decade. It's also currently facing a legal challenge from the U.S. Department of Justice on the grounds that the merger would be anti-competitive.

The argument from AT&T is that the Time Warner acquisition doesn't violate antitrust regulations because the entertainment content space isn't one it currently operates in and that expanding into these new areas is necessary to compete in an environment where companies like Alphabet, Amazon, and Facebook are building encompassing content-and-service ecosystems. That seems reasonable enough. 

If the merger makes it out of the court process alive, the integration of Time Warner will instantly make AT&T into one of the world's leading content producers. That's a characteristic that would play to the company's advantage as it looks to bundle wireless subscriptions with video content.

The pairing of the businesses would also open avenues to generating greater value from Warner's entertainment assets. By taking advantage of user-targeted advertising distribution through AT&T's mobile network, management estimates that it could get between two and three times the ad value compared to distribution through cable. I expect that the deal will ultimately go through and think that the integration of Time Warner assets would be a significantly positive event over time. 

One Fool's takeaway

AT&T looks to be a reasonably low-risk investment and a good stock to own for income-focused investors. It's probably not the best fit if you're trying to optimize a portfolio for growth, but it has some initiatives in the works that could reenergize the business, and I think their impact is probably being discounted at current prices. So, with limited downside thanks to its non-prohibitive valuation, great dividend profile, and underappreciated upside, AT&T is a buy in my book.