Telecom giant AT&T (T 1.27%) is facing brand-new challenges these days. Arch-rival Verizon puts up its dukes every time AT&T wants to break away from its only serious peer. On the next tier down, nobody's growing faster than T-Mobile U.S., and Sprint is revamping its operations under a new CEO. Meanwhile, AT&T itself is fighting for its proposed $48.5 billion buyout of satellite TV operator DirecTV (DTV +0.00%). AT&T has tried to grow by acquisition before, with disastrous results.
But it's not all doom and gloom for Ma Bell. Despite the raging competitive landscape in telecom services, there are many solid reasons to own AT&T shares right now.
Here are three of the best potential growth drivers in AT&T's arsenal.
Original image sources: DirecTV and AT&T.
The DirecTV acquisition could pay big dividends
Senator Al Franken has made it clear that he will oppose the merger between AT&T and DirecTV at every turn. He may not have direct control of the merger review, but as chair of the Senate's subcommittee on antitrust policy, Franken swings a rather large stick.
Moreover, Northwestern University economics chair William Rogerson has been appointed as the senior economist in the FCC's merger review. Rogerson is known for taking a dim view of the consumer impact from large media mergers and seems likely to run AT&T and DirecTV through the gauntlet as well.
So, the $48.5 billion deal is hardly a slam dunk. But if it passes regulatory muster, it could be a long-term game-changer for AT&T and its shareholders.
DirecTV would do three important things for AT&T:
- Add some international growth to AT&T's all-American business portfolio. 22% of DirecTV's 2013 revenues and 24% of its operating profits stemmed from satellite TV services across Latin America, where AT&T hardly exists today.
- Make AT&T an instant contender in the American TV market. As of the latest count, AT&T's U-Verse service sported 5.9 million TV subscribers. Meanwhile, DirecTV boasted 20.2 million U.S. subscribers and another 18.9 million accounts in Latin America. Put them together, and AT&T would become America's biggest TV broadcaster with a very serious side business south of the border.
- DirecTV may be an expensive addition, but it brings solidly positive cash flows to the table. In 2013, DirecTV generated $2.6 billion of free cash, up from $2.3 billion the year before and $2.0 billion in 2011. Plus, the deal is expected to unlock some $1.6 billion of annual cost-saving synergies. It won't happen right away, but this deal should eventually pay for itself.
The next era of mobile computing is coming soon
All of the major carriers have largely completed their 4G LTE network builds. Smartphones have replaced old-school feature phones as the default handset nowadays, leaving very little room for rampant growth in this former growth-driver of a market. And the tablet revolution is running out of steam faster than expected.
That just means AT&T is looking for the next game-changing mobile trend. And you can bet there will be one.
What happens when AT&T introduces another next-generation higher-speed network upgrade, probably under the 5G moniker? And what if smartwatches, Internet-connected wristbands, or high-tech eyeglasses hit the mainstream and start shifting millions of units?
Crucially, AT&T must hold the fort and defend its massive market share as we move into the next mobile era. It'll take expensive infrastructure upgrades and fantastic marketing, and Ma Bell needs to respond effectively to every innovation or marketing attack by its many competitors.
Assuming AT&T's seasoned management and enormous resources can keep the company relevant during a full-scale market revolution, let's segue right into the third potential stock growth driver.
AT&T's stock is spring-loaded for the next go-go market
The markets are treating both AT&T and Verizon as if they were all out of growth options. Their P/E valuations are stuck at multi-year lows:
T P/E Ratio (TTM) data by YCharts.
Right. Give AT&T another trend wave to ride, and the P/E ratio should start expanding again. That gives investors a free ride for a while, as the promise of future growth erases harsh memories of the obsolete trend in the rear-view mirror.
To hold steady at those improved P/E levels, AT&T must of course deliver the goods and show actual growth. If that works out as planned, improved earnings on top of wider P/E ratios provide a double whammy of rising shareholder value.
And if you expect 5G networks and wearable computing to drive AT&T higher in the next few years, it's always best to buy when everyone else is panicking.
