T-Mobile (TMUS -0.06%) CFO Peter Osvaldik is really focused on one thing: free cash flow generation.
"You can look at EBITDA and service revenue and all of that ... but it's also important to be able to convert that into free cash flow," he said at a recent investor conference.
Indeed, free cash flow is an excellent indication of T-Mobile's operating efficiency and essential for its shareholder return strategy. While T-Mobile doesn't pay a dividend like competitors Verizon Communications and AT&T do, it's buying back shares of its stock at a rapid clip.
Here's how T-Mobile stacks up against the competition.
Service revenue conversion
T-Mobile's primarily focused on growing its service revenue and ensuring more of customers' monthly payments flow into its cash reserves.
To that end, it set a new record in the first quarter, with its free-cash-flow-to-service revenue ratio topping 15%. There's still a long way to go for T-Mobile, though, compared to AT&T and Verizon.
| Company | Wireless Service Revenue (TTM) | Free Cash Flow (TTM) | Service Revenue to Free Cash Flow Conversion |
|---|---|---|---|
| T-Mobile | $61.7 billion | $8.4 billion | 13.6% |
| AT&T | $61.3 billion | $12.3 billion | 20.1% |
| Verizon | $74.9 billion | $15.4 billion | 20.5% |
Data sources: T-Mobile, AT&T, and Verizon. Calculations by author. Table by author.
As you can see, AT&T and Verizon are both converting service revenue around 20%, despite both facing slowdowns in free cash flow recently. But if T-Mobile can steadily march toward that 20% conversion level, it'll see a massive boost in free cash flow.
Indeed, with service revenue already exceeding AT&T's, pushing toward the same efficiency would produce even more cash flow than its older rival. In fact, T-Mobile has produced better free cash flow conversion than AT&T in each of the last two quarters.
T-Mobile will continue to improve its free cash flow in 2023 thanks to reduced merger-related expenses and lower capital expenditures. Management is guiding for free cash flow between $13.2 billion and $13.6 billion for 2023, including about $1 billion of merger-related costs.
AT&T recently reiterated its expectations to reach $16 billion in free cash flow for the year. Wall Street appears to remain skeptical of its ability to produce that much cash after a disappointing first quarter and plans to spend $24 billion building out its network.
It certainly seems within the realm of possibility that T-Mobile and AT&T end the year with similar free cash flow figures. That would be a huge win for T-Mobile investors, as it continues to show leverage in its growing service revenue.
T-Mobile's increasing service revenue
While AT&T and Verizon both raised prices on existing customers last year, T-Mobile hasn't pushed customers to spend more for the same service. Instead, it's looked for ways to expand its service offerings and organically drive customers to higher-priced plans.
T-Mobile has managed to increase revenue per account with the help of additional services like home internet while pushing some customers to upgrade their plan to its newer premium options. That's allowed it to grow service revenue without explicitly raising prices on consumers.
AT&T and Verizon increased their service revenue in the first quarter by 5.2% and 3%, respectively. T-Mobile grew its service revenue 3%. But AT&T and Verizon have benefited from a price hike implemented last summer, while T-Mobile hasn't. That could act as a headwind for T-Mobile's competitors in the second half of the year.
Steadily growing service revenue by offering better service and attracting more customers is a solid path toward improved free cash flow. Investors should expect T-Mobile's ability to convert service revenue to free cash flow to eventually surpass its rivals, as it's proven capable of building an extremely capital-efficient 5G network. As free cash flow grows, T-Mobile's stock price will justify the current premium investors have to pay for shares compared to AT&T or Verizon.
