Instead of seeing AT&T (NYSE:T) as a dream stock, many might understandably view it as a nightmare. A costly stake in DIRECTV is now on track to produce a massive loss. Also, the wisdom of its WarnerMedia investment appears uncertain as it navigates the highly competitive streaming market.

Activist investor Elliott Management recently sold its AT&T stake. Also, in an admission that appears to contradict my own point that this stock is a great one for retirees, I will let you know that I recently sold my own shares.

Why would I recommend a stock I recently sold? Well, barring a lottery win or a surprise stock windfall, I am years from retirement. For this reason, income generation is not yet a stock priority of mine.

If I needed to generate cash, I would have stuck with AT&T. Thanks to its annual dividend of $2.08 per share, the stock yields approximately 7.3% at the recent stock price. This amounts to a cash return more than four times the 1.6% dividend yield of the S&P 500.


Moreover, this cash stream will come cheap for investors -- the stock currently sells for a forward P/E ratio of around 9 -- and looks sustainable.

Older couple looking at a laptop screen with a middle-aged man in a tie

Image source: Getty Images.

Why dividend hikes will probably continue

AT&T is a cash cow that can afford its payout. In the first nine months of 2020, the company paid just over $11.2 billion in dividends. This is well under the $19.8 billion in free cash flow generated by AT&T over the same period.

Also, the dividend has increased for 36 straight years. Management has traditionally announced payout hikes in December, and this year, the company has not made such an announcement. Instead, it announced on Dec. 11 that the first quarterly dividend payout in 2021 would be the same as the quarterly payout in 2020 and that it "expects to have the financial flexibility in 2021 to continue to invest in growth areas, sustain the dividend at current levels and focus on debt reduction."

This break from the previous pattern has concerned some investors. However, stockholders should not worry yet because if the company raises the payout sometime in 2021 and ends up with a higher dividend for the year than it had in 2020, it will stay on the Dividend Aristocrat list.

I think the payout raise will come, as the cost of a dividend hike would pale in comparison to the stock value lost by losing Dividend Aristocrat status. If the stock is removed from the list because it doesn't raise its dividend, that would compel Dividend Aristocrat funds to sell the stock and could lessen investor confidence in the stock. Given the potential for long-term pain, such a move would make little sense when the company can still afford its payout.

How AT&T stock could eventually pay off beyond its dividend

AT&T, Verizon, and T-Mobile are the only three companies to operate a nationwide 5G network in the U.S. Most customers will probably upgrade to 5G as analysts expect internet speeds to rise exponentially with the technology. Such speeds mean that a movie that used to take several minutes to download will now download in a matter of seconds.

Analysts also expect 5G to support numerous additional applications in fields such as artificial intelligence, virtual reality, and the Internet of Things. Gaming, video calling, smart appliances, and autonomous vehicles are also examples of applications that could benefit from 5G connectivity.

Since these applications will involve devices that need a 5G connection of their own, this amounts to a lucrative new revenue stream for AT&T.

Such a pending increase in demand is likely why Grand View Research forecasts a compound annual growth rate (CAGR) for 5G services of 44% between 2021 and 2027. At that level, AT&T likely will experience improved revenue growth. 

Consider AT&T for retirement income

Although the stock is not ideal for all investors, the company's challenges play into the hands of those looking for retirement income as the slumping stock price has driven the dividend yield up while AT&T still manages to generate more than enough free cash flow to maintain its dividend and 5G looks like a strong tailwind.

Moreover, the potential issues caused by losing Dividend Aristocrat status dramatically reduce the chances of a cut in the payout.

As retirees look for sources of cash flow, AT&T's 7.3% dividend yield and low valuation are too compelling to overlook.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.