Smartphones have become a necessity, and that's good news for telecom giants AT&T and Verizon. For the most part, a tough economy isn't going to cause many people to drop their wireless plans. However, these companies are still exposed to customers downgrading plans, delaying smartphone upgrades, and being generally more cautious with spending. AT&T, for example, had to cut its free cash flow guidance earlier this year largely because customers started delaying payments.
If you're a risk-averse dividend investor who wants to cut your exposure to the state of the economy, the telecom giants may not be the best choice. They're more recession resistant than most companies, but their performance is still dependent on consumer spending. A better choice is American Tower (AMT -0.48%), which just hiked its quarterly dividend by 6.1%.
Stability in a tough economy
Telecom companies that operate vast wireless networks need to put their equipment somewhere. Outside dense cities, that equipment generally goes on wireless towers.
While telecom companies own and operate some of their own towers, it makes a lot of sense to lease space on third-party towers. Building enough towers to reach meaningful scale is an expensive proposition, and a patchwork of zoning restrictions makes the process time consuming and complicated.
American Tower already operates around 43,000 towers in the U.S. and Canada, along with another 177,000 towers in international markets. The path of least resistance for telecom companies looking to expand coverage is to lease space on an existing tower.
The business of owning and operating wireless towers is a fantastic one, with one caveat: Each tower requires more than one tenant to deliver acceptable returns on investment. Once built, the towers require little in the way of maintenance and operating expenses, but revenue from a single tenant often isn't enough to justify the initial investment. Once multiple tenants are leasing space, though, returns on investment can be well over 20%.
The economics of tower ownership also discourage telecom companies to go it alone. A telecom company would need to lease tower space to competitors for the investment to make sense, which then puts it in a business that is well outside its core competency.
The stability of American Tower's business model comes from its long-term, usually noncancellable contracts. Customers typically sign up to lease space for five to 10 years, with options to renew and lease escalators built in. In the U.S. where there are now just three major wireless carriers, American Tower's customer base isn't going anywhere.
This stability makes the dividend extremely safe. The company has a clear view of how much revenue will be coming in, and annual churn hovers around 2%. While American Tower's growth depends on capital spending from telecom companies, which can certainly slow down when the economic environment deteriorates, the chance of a big negative surprise is minimal.
A safe dividend stock
American Tower's new quarterly dividend of $1.56 per share, about 6.1% higher than the previous payment, puts the forward dividend yield just below 3%. The yield is much higher than it's been historically, largely because the stock has been punished over the past year. Shares are down about 28% from their 52-week high.
This looks like a good opportunity to pick up shares of a recession-resistant business at a discounted price. American Tower isn't going to be a 10-bagger, but it will deliver a safe dividend no matter how the economic environment evolves in 2023 and beyond.
