If you're screening for high dividend-yielding stocks, it's likely Verizon (VZ 0.49%) and AT&T (T +0.47%) have come to your attention. Verizon is currently yielding an eye-popping 7%, and AT&T yields slightly less at 5.8%. When stocks reach this level of yield over a sustained period (sometimes because the stock price has fallen significantly), it's often a warning sign that the stock is in trouble and might not be able to keep up this level of payout. The stock sells off, further exaggerating its yield, and creating a vicious cycle that only ends when the dividend is finally cut (or worse, suspended).
So, is this the case with these two large telecoms? Let's find out if investors have a reason to worry about the dividend payout of these two.
Q3 was solid for both companies
The past 18 months have been tumultuous for AT&T. It sold DirecTV to a private equity firm in August 2021 and spun off Warner Media to merge with Discovery Communications and help create Warner Bros. Discovery in April. Both actions changed the fundamental makeup of AT&T's business, reverting the company back to its more telecom-focused state.
NYSE: T
Key Data Points
Verizon's business over this time period is more straightforward and unchanged, as it hasn't made the same major adjustments as AT&T. But these businesses are now easier to compare, with each primarily focusing on internet and phone subscriptions.
In the third quarter, both companies reported solid results for their industry.
| Company | Q3 Revenue | Q3 Revenue Growth (YOY) |
|---|---|---|
| AT&T | $30 billion | 3.1% |
| Verizon | $34.2 billion | 4% |
Data source: AT&T and Verizon. YOY: Year-over-Year. Note: AT&T's YOY comparison does not include its U.S. Video segment that was spun off.
Bear in mind, AT&T and Verizon are not rapidly growing tech stocks; they are mature businesses that generate a bigger portion of shareholder returns through dividends. These aren't bad results for either company and are above-average growth rates compared to the past decade.
So, the growth these two generate is enough to maintain a dividend. But what about expenses?
Both companies are in great shape to pay their dividends
I like to assess the dividend payout ratio, how much of a company's profits are paid out as dividends, in two ways: From an earnings perspective and a free cash flow perspective. In 2022, Verizon produced $1.17 in earnings per share (EPS) and $12.4 billion in free cash flow (FCF). Compared to the $8.1 billion in dividends it paid ($0.652 per share dividend), that equates to a 55.7% payout ratio from an EPS perspective and a 65.3% payout ratio from on an FCF basis. Those are healthy ratios, but if Verizon maintains its current trend, those metrics could worsen.
NYSE: VZ
Key Data Points
2022 FCF was down from $17.3 billion last year, so Verizon will need to control its cash expenses or eventually risk a dividend cut. On the plus side, it some ways to go before that would be necessary.
AT&T cut its dividend earlier this year, so that bad taste is fresh in investors' mouths. However, the cut was because of its Warner Bros. Discovery spin-off, not because of profit issues. AT&T looks healthy moving forward. The company projects to earn about $14 billion in FCF this year, much greater than its $8 billion dividend payout. Additionally, its EPS for Q3 was $0.79, significantly higher than its $0.2775 quarterly per-share dividend payout.
So both companies are well on track to meet their dividend obligations, which should ease investor worry. Then why are their dividend yields so high?
Treasuries are partly to blame
As the 10-year Treasury note's yield rose, Verizon's stock fell.
10-Year Treasury Rate data by YCharts
AT&T's stock experienced a similar action, although its movement was likely more influenced by its April spinoffs. The drop in both stocks all boils down to one thing: investors' desire for a rising risk-free savings rate. As the rate on Treasuries rose, investors saw they could get risk-free yield (as long as the U.S. doesn't default on its debt) from buying Treasury assets rather than holding these comparatively riskier stocks. So their stock prices fell as investors sold off to pile into Treasuries or other similar-type, lower-risk investments with more favorable return profiles. The sell-off helped push up the dividend yield on the stocks.
So should you buy Verizon and AT&T stock for 2023?
My answer? No.
Both stocks have significantly underperformed the broader market over the past five years, even when dividends are included.
VZ Total Return Level data by YCharts
While the dividend yields may be enticing, the long-term performance of the broader market is just a better place to invest money. The dividends may be safe, but they come at the price of significant underperformance.
