At this point, I just can’t see why investors insist on seeing AT&T Inc. (NYSE:T) as a high-quality dividend stock. AT&T stock is hovering near an 18-month low. The AT&T stock price hasn’t moved in five years. Dividend increases have been modest, even if a 5.4% yield looks attractive. Simply put, T stock has been dead money for a long time now.
Basically, this is a case of reputation over performance. AT&T stock, going back to its “Ma Bell” days, long has been considered a “widows and orphans” stock: one of, if not the, safest income-generating equity investments out there. But even a cursory look at AT&T’s business and balance sheet shows that’s no longer the case.
This will be soon be, assuming its acquisition of Time Warner Inc (NYSE:TWX) goes through, one of the most indebted companies in the world. And that debt is backing a collection of businesses in which investors are not terribly interested at the moment.
This isn’t a safe stock, and even near the lows, T stock isn’t a good stock. Investors need to look past the name and the history and see AT&T for what it is. It is a collection of businesses that don’t look particularly attractive.
The Wireless Business
The wireless business as a whole simply isn’t very healthy. Pricing competition has increased, hitting margins. Both Sprint Corp (NYSE:S) and T-Mobile US Inc (NASDAQ:TMUS) have taken share from AT&T and Verizon Communications Inc. (NYSE:VZ). AT&T even lost customers in an ugly first quarter, which only added to the pressure on the AT&T stock price. I wrote in July that industry weakness supported what was then a 52-week low in T stock, and I still think that’s the case.
The long-rumored merger between Sprint and T-Mobile in theory could alleviate some of the pricing pressure. But that merger isn’t guaranteed by any measure, and it doesn’t necessarily solve the core problem here. There’s basically no more wireless market growth in the U.S. That leaves the remaining entrants fighting for share and pricing is the easiest weapon, whether there are four players or three.
This simply is not an attractive industry, and the performance of both AT&T stock and Verizon stock over the past few years shows it. At the least, Verizon can claim to be the market leader. It hasn’t been quite as susceptible to subscriber declines. But even if AT&T improves its competitive position, it’s going to come at substantial cost. As such, any investor expecting some sort of accelerated profit growth from AT&T’s wireless business is going to be disappointed.
DIRECTV and U-Verse
AT&T already is deemphasizing U-Verse, trying instead to push subscribers to its DIRECTV unit, acquired in 2015. But regardless of the service, subscriber counts are going to come under pressure. InvestorPlace columnist Anthony Mirhaydari named T stock as one of 5 likely come to under pressure from so-called “cord cutting.” He was right to do so. The increasing popularity of streaming services like Netflix, Inc. (NASDAQ:NFLX) is going to erode DIRECTV subscribers for years to come.
In response, AT&T has launched a streaming service of its own, DIRECTV NOW. (For the record, I’m a subscriber myself.) But that initiative appears off to a slow start. The company disclosed disappointing video subscriber numbers on Wednesday evening, sending the AT&T stock price down over 6% and undercutting a recent rally.
Like wireless, this simply seems like a poor business long-term. And unlike cable operators like Comcast Corporation (NASDAQ:CMCSA) and Charter Communications, Inc. (NASDAQ:CHTR), neither AT&T nor DIRECTV has dominant market share in Internet service that should provide some benefit from the cord-cutting trend. Instead, the company is going to see a long-term decline in profits from its Entertainment Group that has already started in the first half of 2017.
That leaves Time Warner. And I’ll give AT&T credit for at least picking probably the best media stock to buy. The HBO unit in particular seems well-positioned for the cord-cutting transition.
But this also is not a particularly attractive industry at the moment, and 55% of first-half operating profit came from the Turner cable channels. They, too, will be impacted by cord-cutting, and those fears are rampant across the media space. Viacom, Inc. (NASDAQ:VIA,VIAB) Class B shares are down 24% year-to-date. CBS Corporation (NYSE:CBS) stock is down 11% in 2017. AMC Networks Inc (NASDAQ:AMCX) has pulled back over 15% just since August.
This doesn’t look like a growing business, either, and AT&T is paying up. Time Warner’s 2017 guidance suggests something shy of $9 billion in Adjusted EBITDA this year, meaning AT&T is paying about 9.5x EBITDA. The rest of the industry trades closer to 8.5x, with a cable pure-play like AMCX closer to 7x.
The idea that Time Warner will rescue AT&T stock seems ludicrous. Content companies aren’t growing right now. The good news is that it means Time Warner will fit in nicely with the rest of the AT&T portfolio.
The AT&T Stock Price Isn’t Going Up
There’s a case that with AT&T stock trading at 12x 2018 analyst EPS estimates, and maybe below 11x once Time Warner is added in, that these pressures are priced in. But I’m not buying it, figuratively or literally.
Leverage alone is a major problem, since interest expense will be fixed while operating profit potentially declines. That leverage also means that a lower overall business value leads to an accelerated decline in T stock, as the debt value stays fixed.
At the end of the day, AT&T is a highly leveraged, and declining business. That’s a terrible combination, and it’s the exact opposite of a ‘safe’ stock. AT&T may find a way to muddle through, and its reputation may stay intact a little longer. But that’s not enough, or close, to offset the very real concerns facing the company, and the very real likelihood of a further decline in AT&T stock.
As of this writing, Vince Martin has no positions in any securities mentioned.
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