In the financial coliseum of 2023, we find AT&T (T 0.17%) and its investors locked in a high-stakes bull-versus-bear duel. The telecom giant, a perennial darling for dividend-seekers, has found itself in a precarious wobble. Its stock price has slipped a brutal 20% lower this year, missing out on the S&P 500 gaining 17% in the same period. This imbalance was sparked by AT&T's first-quarter earnings report, where adequate revenues and earnings were overshadowed by disappointingly weak cash flows.
Now, as the economy gradually shakes off the chill of the 2022 inflation crisis, investors are left with a conundrum: Is AT&T a discounted gem ready to shine or a financial house of cards under catastrophic pressure?
Two tech experts from The Motley Fool are stepping into the ring to settle the score. They are about to guide you through the highs and lows of AT&T's year, presenting both the bull and bear perspectives.
Which argument makes sense for your own portfolio? You decide.
Bull case: This beaten-down telecom is underestimated
Keith Noonan: Despite a bullish rally for the broader market in 2023, AT&T's share price has slid roughly 17% year to date. While the company is facing some significant challenges, its stock has been pushed down to levels that leave room for shareholders to see strong returns.
With shares trading at roughly 6.3 times this year's expected earnings and sporting a roughly 7.3% dividend yield, AT&T appears to be trading in deep-value territory. The big yield might not mean much if the company is incapable of supporting the dividend at current levels, but concerns about the viability of the payout following the company's Q1 report appear overblown.
AT&T's free cash flow (FCF) of roughly $1 billion in the first quarter admittedly came in far below the $6.1 billion in FCF it posted in last year's fourth quarter -- but the drop off isn't as bad as it might look at first glance. The telecom giant's business and investment cycles tend to have some seasonality, and high levels of spending on building out 5G and fiber infrastructure pushed capital expenditures to $6.4 billion in Q1.
Despite record spending on strengthening its 5G and fiber growth drivers, the company still expects to record FCF of at least $16 billion this year. Provided AT&T hits that target, it would be enough to cover its current annual dividend payout roughly twice over.
In today's relatively high high-interest-rate environment, it's understandable that AT&T's high debt load looms large for many investors. On the other hand, the company has continued to grow average revenue per user and add wireless and fiber customers at solid clips, and the company appears capable of supporting a generous dividend and paying down debt with its current FCF generation trajectory.
Bear case: Ma Bell struggles under a mountain of debt
Anders Bylund: AT&T's first half of 2023 can be summed up with the phrase, "When it rains, it pours."
The telecom titan managed to baffle the Wall Street wizards with a scary first-quarter earnings report. The revenue and earnings readings were roughly in line with expectations, but AT&T's cash profits told a darker story.
FCFs plummeted from a solid $2.8 billion the previous year to a skimpy $1.0 billion. Dividend payouts added up to $2.0 billion in the same period, working out to a cash-based payout ratio of 201%. AT&T is telling shareholders, "Here's my wallet. Take twice what I made this quarter!"
Later, CFO Pascal Desroches tried to play the financial superhero by forecasting a 2023 FCF of a whopping $16 billion. Unfortunately, his cape didn't quite catch the wind; AT&T's stock barely moved on the cheerful guidance update.
AT&T's grand plan? Pour treasure chests into fiber-optic data services and 5G network upgrades, a long-term game that, so far, is more tortoise than hare. In the meantime, nimbler rival T-Mobile (TMUS 0.05%) is out there doing the Macarena with market share gains in the wireless sector.
And then there's the almost-literal elephant in the room -- AT&T's mountain of debt. Running a massive telecom with both wired and wireless networks is a capital-intensive business, and Ma Bell has largely financed its infrastructure with long-term debt papers over the years. As a result, interest expenses of $6.2 billion over the last four quarters are taking a Godzilla-sized bite out of their operating profit.
By comparison, T-Mobile's interest payments are about half as large. For better or worse, T-Mobile doesn't set aside funds for dividend checks, funneling its cash profits into growth-driving systems and service improvements.
Adding to the headache, AT&T's historical market underperformance is like a bad tune you can't get out of your head. It makes AT&T look less like a discounted diamond in the rough and more like a precarious game of financial Jenga. I'm quite happy on AT&T's sidelines with a few T-Mobile stubs in my pocket instead.
