Popular stocks are usually popular for a reason, but sometimes, the very popularity of a stock can lure investors into complacency. Remember, Kodak was once one of the biggest, most popular stocks in the world, yet it still managed to go bankrupt in 2012 after failing to anticipate or adapt to digital photography.
That's not to say these five stocks will go bankrupt (although one may need to raise more money soon). Still, investors in these widely owned stocks should be aware of some difficult competitive and macroeconomic challenges facing each.
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AT&T and Verizon
Both AT&T (T +1.21%) and Verizon (VZ +1.43%) are very popular with dividend investors. In fact, many "conservative" equity portfolios built for retirees contain these two names. But should they?
In the 4G era, AT&T and Verizon enjoyed the two best networks, leading to a duopoly in the wireless industry. That led to high profit margins and dividends. Today, AT&T and Verizon yield 6.2% and 6%, respectively.
But things are much harder now. While wireless services are generally recession proof, that doesn't mean they are competition proof. In the wake of T-Mobile's 2020 acquisition of Sprint, the combined T-Mobile-Sprint has suddenly caught up to and actually surpassed both Verizon and AT&T in 5G coverage and capability, upending the status quo.
T-Mobile had the foresight to go all-in on mid-band spectrum, which offers the best trade-off between speed and coverage for 5G phones. But Verizon and AT&T pursued millimeter wave buildouts at first, which is faster but often inaccessible. To plug their mid-band holes, AT&T and Verizon spent big in 2020's C-band auction, shelling out tens of billions of dollars to acquire mid-band spectrum, but greatly increased their respective debt loads in the process. Moreover, even with the C-band rollout, each are still playing catch-up to T-Mobile.
That has left both Verizon and AT&T in a tough position. They can either raise prices in order to cover the costly 5G buildout, but that would risk losing customers to T-Mobile, which generally offers affordable plans.
In the second quarter, T-Mobile added 1.7 million postpaid customers, with 723,000 postpaid phone net additions. AT&T added 1.05 million postpaid customers. While its postpaid phone net additions exceeded T-Mobile's at 813,000, keep in mind T-Mobile is still losing some churn from its Sprint base as it shuts down Sprint's legacy network. Furthermore, AT&T appeared to lean heavily on phone subsidies, as its free cash flow fell well below expectations.
Verizon only grew postpaid phone net adds by a mere 12,000, with losses at the consumer segment offset by gains in enterprise mobility.
AT&T and Verizon's dividend payments mean money is coming out of their businesses every quarter, further depleting their firepower to catch up to T-Mobile, which claims it has a durable two-year lead in 5G. T-Mobile doesn't pay out dividends but is planning a sizable buyback next year. Still, those shareholder returns are more flexible and can be ramped up and down as needed.
Between their high shareholder payouts, high debt loads, and need to catch up to T-Mobile in 5G, something will have to give for these stocks -- perhaps even a dividend cut at some point.
Intel
Another high-dividend stock popular with investors is Intel (INTC +1.14%). At first glance, Intel looks quite cheap, at just 7 times trailing earnings, with a 4.4% dividend yield.
However, that cheap valuation may be warranted. Ever since former management lost the lead in leading-edge chip manufacturing to Taiwan Semiconductor Manufacturing, Intel has been losing market share to Advanced Micro Devices and other tech giants that are creating their own processors using TSM's foundries.
The struggles have become plainly clear now that the PC industry is experiencing a severe downturn. Last quarter, Intel saw a nasty 25% revenue decline in its PC-related segment. Perhaps more concerning was an additional 16% decline in its data center and AI group. That's because even though consumer-related goods like PCs were known to be weak, the data center market has still been strong, so to see weakness there was particularly concerning.
Declining profits really aren't good for Intel, since it's embarking on a massive, expensive turnaround plan. That plan entails not only getting its technology back on par with the industry leaders but also becoming a foundry to produce chips designed by third parties.
Building out that manufacturing capacity will require a lot of money. Like Verizon and AT&T, Intel also has hefty dividend payments to worry about, which could come into question if Intel's execution doesn't improve in the near term.
Intel did just ink a deal with Brookfield Asset Management to provide up to $30 billion in financing to that end, which will likely enable Intel to keep paying its dividend while completing its foundry build-out. However, Intel will have to give up its share of future profits that come from those new factories, splitting them with Brookfield.
I'm a bit more optimistic on Intel than Verizon and AT&T because if the turnaround works, the upside is there; however, it's an open question as to whether this expensive, multiyear turnaround will bear fruit, and we won't know the answer for years.
Snowflake
Snowflake (SNOW +0.73%) is one of the more exciting stocks out there, and it's hard to caution against a stock owned by Warren Buffett's Berkshire Hathaway.
Unlike the other four stocks on this list, Snowflake is performing well on the business level. Snowflake surprised to the upside last quarter, growing revenue 83% year over year while expanding its gross margins. That's in contrast with several other enterprise software companies, which have expressed slowing deals amid customer caution. Snowflake's competitive advantages seem strong, and the growth of data-based artificial intelligence applications within enterprises is still in their relatively early stages.
The problem comes down to valuation and interest rates. While we have enjoyed a low interest rate environment since the Great Recession of 2008, the current inflation scare is raising questions about the interest rate environment going forward after the pandemic. It's possible we could be in an environment of higher inflation and interest rates for some time.
Meanwhile, Snowflake trades at 37 times sales and is still losing money on a GAAP basis. That is extremely expensive. Yes, the company is technically free cash flow positive, but it also pays out a ton of money to executives in stock-based compensation.
Snowflake paid out nearly $400 million in stock-based compensation last quarter alone. Annualizing that to $1.6 billion, it represents 2.7% dilution per year, at this market cap. And that stock compensation will also likely grow in the years ahead.
Of these five stocks, Snowflake may still work out as a long-term investment; in fact, I wouldn't fault someone for having Snowflake as part of their portfolio. However, there isn't much margin of safety in a stock that is valued so highly. If one of the large cloud players or another Silicon Valley start-up becomes more of a competitive threat, Snowflake could get a big rerating. And if interest rates stay high, it could take a long time for Snowflake to grow into its current valuation.
So there is risk involved, even though the business is operating at a high level.
AMC Entertainment
Finally, movie theater operator AMC Entertainment (AMC +0.00%) and AMC Entertainment Holdings (APE +0.00%) preferred stock are risky as well.
AMC rose to meme stock status during 2021, whereby retail traders pushed the stock so high that management was able to sell some stock and raise cash at high stock prices, staving off bankruptcy.
However, the amount raised may not last forever. The comeback from the pandemic has been start-and-stop at best, with the omicron variant delaying a full return to out-of-home activities, and then the inflation surge putting stress on discretionary purchases such as going to the movie theater. Furthermore, the late-summer movie slate is very empty, as most of the films shot before the pandemic have now been released.
AMC did buy itself time, avoiding the fate of Cineworld, the second-largest theater operator in the world, which recently disclosed it may have to file for Chapter 11 bankruptcy.
AMC isn't going bankrupt soon, but if audiences don't return to the theaters in the age of streaming, it could become a possibility down the road. Even in the second quarter, which contained a number of blockbusters such as Top Gun: Maverick, AMC still had negative free cash flow of $117 million.
With the summer quarter representing a low point in the film release slate, expect that number to get worse in Q3. Meanwhile, AMC only had $965 million in cash at the end of the last quarter, against $5.4 billion in debt.
That's probably why AMC issued a new class of preferred stock, getting around its year-old promise to not to dilute its common equity shareholders further. If the theater industry doesn't bounce back as many hope it will, AMC may raise more money through the sale of APE preferred shares, which is technically not common stock, even though it has the same ownership rights.
How much will shareholders be diluted? It's hard to say. Still, AMC's and APE's combined $9.3 billion market cap seems lofty for a business with so much uncertainty.
