Is AT&T's Dividend Safe?

AT&T (T 1.02%) has long been known for its generous dividend, which investors have often been attracted to. For many, dividends seem like a guaranteed return stream and can also serve as a cash-flow instrument to fund retirement.

However, dividends are not guaranteed, and when the yield rises above 5%, alarm bells should ring in investors' heads. With AT&T's dividend yield currently sitting at 7.3%, can investors trust it? Or should they find another stock? Let's find out.

Sometimes a dividend is too good to be true

While many companies choose to pay dividends, some tend to have higher-than-average payouts. These entities are usually utilities, real estate investment trusts (REITs), and telecom companies like AT&T. Because these companies usually have very steady cash flows due to required monthly payments, they can afford to pay a high dividend because they have strong visibility into future costs.

On the flip side, these companies usually aren't growing quickly and require a high dividend payout to attract investors.

Although AT&T has dipped its toes in the water of other industries, like cable TV (DirectTV) and streaming and film (Warner Bros Discovery), it has spun those segments off and now primarily operates its cellular network and internet service.

The spinoffs caused AT&T to slash its dividend from $0.52 per share in 2021 to just $0.28 per share in 2022 because a large part of its revenue stream was now missing. This caused AT&T's dividend yield to drop substantially for a time.

T Dividend Yield data by YCharts

Now that the yield has risen above the key threshold, should investors start to panic?

AT&T's dividend looks safe... for now

When examining a stock that pays a dividend, investors must look at the dividend payout ratio. The metric informs investors how much of a company's profits or free cash flow (FCF) is used to fund the dividend. If this number is more than 100%, that means a company is paying out more than it is bringing in, and therefore the dividend is unsustainable. Ideally, this number is around 50%, but if a company has a more steady business (like a telecom), payout ratios of 75% are acceptable. REITs are required by law to pay their investors 90% or more of their profits as dividends, so a high payout ratio isn't automatically a reason for disqualification.

Here's how much AT&T has brought in and paid out, based on two profitability metrics.

Data source: YCharts. 

As you can see, net income is a terrible profitability metric for AT&T because it is currently negative. This metric is skewed due to a noncash charge in the fourth quarter of 2022. If you remove that one-time charge, AT&T produced $17.7 billion in net income over the past 12 months.

Now, if you divide the dividends paid by the two profitability metrics, you get its dividend payout ratio.

Data sources: YCharts and AT&T.

So from both methods of calculating profitability, you can see that AT&T's dividend looks safe. However, in Q1, net income and FCF dropped by 13% and 64%, respectively. So while these payouts may be safe for now, if AT&T continues its negative slide, it may not stay safe in the future.

That raises the question, should you invest in AT&T? I'd say no. Even though the dividend yield is attractive, the stock has performed horribly, only returning 22% over the past decade with dividends added back in. This underperformance is due to AT&T's declining stock price, as it fell faster than dividends could make up for its tumble. It has been a massive loser compared to the S&P 500's 222% return over that time.

As a result, I think investors are better off putting their money in an index like the S&P 500 than investing in AT&T.