After a tough 2022, the stock market bounced back in the first half of 2023. The S&P 500 recorded a 16% gain through the end of June, while the tech-heavy Nasdaq Composite surged more than 31%. Stocks linked to artificial intelligence technology fared even better as investors piled into hot stocks like NVIDIA.
One stock that did not participate in this rally was AT&T (T 1.61%). Shares of the telecom giant fell around 13% in the first six months of the year, losing to the broader market by a wide margin. While investors in general are not interested in AT&T right now, it would be wise to consider the incredibly cheap high-yield dividend stock for your portfolio.
A simple business
Now that AT&T has fully exited the media business with its spin-off of WarnerMedia last year, the company isn't all that complicated anymore. The company sells wireless services through its mobility segment, and it sells wired services like home and business internet through its wired segments.
Both businesses are capital-intensive. AT&T must spend many billions of dollars each year upgrading and expanding its networks to maintain its competitive position. In the first quarter of 2023, AT&T plowed $6.4 billion into capital improvements.
There are only two major competitors in the U.S. wireless industry, Verizon and T-Mobile, and a combination of high capital intensity and network effects makes it unlikely another competitor will emerge. Consumers care not only about having good wireless where they live but also that there's good wireless coverage everywhere. Building out a nationwide wireless network from scratch would likely be a losing investment for any would-be competitor.
In AT&T's wired segments, legacy services are in decline while fiber internet is booming. The company is expanding its fiber network in its existing service areas, and it's moving beyond those areas through its joint venture partnership with BlackRock. The company has the advantage of existing wired infrastructure in its service areas, which helps ease the process of laying down fiber.
A cash flow machine
These heavy investments pay off in the form of free cash flow generation. While AT&T is facing some headwinds related to consumer spending in an inflationary, uncertain economic environment, the company expects to produce at least $16 billion of free cash flow in 2023. AT&T's capital spending is elevated right now as it invests heavily in 5G and fiber, creating the potential to free cash flow to rise in future years as capital spending cools a bit.
Based on the current market capitalization of $114 billion, AT&T stock trades at just 7 times free cash flow guidance. The company pays a dividend that yields just over 7%, and that dividend will eat up just half of the expected free cash flow this year.
There are some negatives to consider. AT&T has a lot of debt, partly a legacy of its failed media acquisitions. At the end of the first quarter, total debt stood at $137 billion. This is a tough hand to hold in a rising interest rate environment, but AT&T will be able to use some of its cash flow to pay down this debt over time.
This debt also means that AT&T's free cash flow is not as impressive as it seems. Cash return on invested capital, or CROIC, is about 6.5% based on free cash flow guidance. That's not particularly high, although it can improve as the debt load is reduced.
Is AT&T stock a buy?
There's no denying that AT&T stock is cheap, and there's no denying that a 7% dividend is attractive. The dividend is unlikely to grow much as AT&T directs its free cash flow toward debt reduction, but compared to a 1.53% dividend yield for the S&P 500, AT&T's dividend is highly attractive.
AT&T's debt does make the company somewhat fragile, and its profitability is only so-so when considered in the context of its total invested capital. But on balance, AT&T looks like a solid value stock for investors unwilling to pay sky-high prices for the hot tech stocks that are surging in the current market environment.
