It's been months in the making, but telecom company AT&T (T 1.23%) has finally closed the book on its entertainment business. The company has completed its spinoff to combine its streaming and entertainment assets with Discovery to form Warner Bros. Discovery.
AT&T has been a controversial stock over the past decade, underperforming after massive mergers put the company in debt. Now that AT&T has formally moved on, should investors return to the stock? Here is what you need to know.
What does AT&T look like now?
The "new" AT&T looks a lot like the "old" AT&T. The company is going back to its roots as a telecommunications company and focusing on what it knows best moving forward. Now that the spinoff is complete, AT&T is a stand-alone communications company that will focus on its wireless business and opportunities in fiber optic and fixed wireless data networks.
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The company's balance sheet is also going through significant changes. AT&T's balance sheet was arguably the biggest loser in its decade of pursuing the entertainment business. Before buying DirecTV in 2015, the company had just about $80 billion in long-term debt. But the failure to generate enough profits to pay down debt, plus the addition of Time Warner a few years later, leaves AT&T with $178 billion in debt today.
The spinoff sent $40 billion in cash to AT&T, which management will undoubtedly use to address its enormous debts. Investors will get a fresh update on AT&T's financials with first-quarter 2022 earnings, but shareholders can expect to see the company's debt start shrinking.
AT&T's dividend has been the lone bright spot for investors in recent years. Investors might not be thrilled to see that management effectively cut the dividend from an annual sum of $2.08 to $1.11 per share. However, this lowers the company's dividend payout ratio to free up more cash to pay down debt potentially, and investors still get a dividend yield of 5.6% -- not bad!
The path to growth moving forward
Of course, AT&T needs growth to become more than a high-yield, low-upside stock for your portfolio. AT&T failed at entertainment, but it could be onto something with its new focus.
Management plans on investing heavily to grow its fiber optics and fixed wireless segments over the coming years. AT&T recently held an investor event in March. It highlighted numerous emerging industries that will need data connectivity, including work-from-home employment, connected manufacturing, gaming, autonomous vehicles, and edge computing.
These industries could dramatically increase the demand for network capacity, so AT&T wants to be able to handle that as these segments grow. The company's wireline segment should gradually shift from dying landlines to fiber optics and fixed wireless over several years. By 2025, management's goal is for these new services to contribute 44% of the wireline segment's earnings before interest, taxes, depreciation, and amortization (EBITDA) from just 16% today.
Is AT&T a buy now?
AT&T is trading at new lows following the completion of the spinoff, but remember that assets left the company. It will earn lower profits in 2022, so the market is repricing the stock accordingly.
However, we can sift through the noise to see what the stock looks like from a valuation perspective. Management is guiding for 2022 earnings per share of $2.42 to $2.46, down from the 2021 EPS of $3.40, which explains the stock's decline.
If you look at the stock's price-to-earnings (P/E) ratio using updated guidance, it trades at a P/E ratio of 8. The stock has traded at a median P/E ratio of 17 over the past decade, even with the headaches of DirecTV and Time Warner. The broader market has yet to reward AT&T with a better valuation, despite the potential for an improved balance sheet.
Investors shouldn't lose hope, though. I think AT&T is poised to be a healthier business over the long term, which could eventually mean a higher valuation for the stock. It may take some time for the dust to settle and for management to put up a quarter or two worth of performance to give the market a sense of how things are going following the spinoff. If you believe in AT&T's turnaround, shares are still cheap and will pay you a great dividend to wait it out.
