Telecom giant AT&T (NYSE: T) has taken on a lot of debt over the years as it has made a number of large acquisitions, such as its purchase of DirecTV for $67.1 billion in 2014, as well as its acquisition of Time Warner for a consideration of $108.7 billion in 2016. At the end of 2018, AT&T's debt load stood at $171 billion -- a substantial amount, to be sure.
AT&T has been quite clear that it wants to focus on bringing that debt balance down. In its most recent earnings presentation, the company outlined a path to bringing it down to $150 billion by throwing a large chunk of its free cash flow at the debt coupled with another $6 billion to $8 billion from what it describes as "asset monetization initiatives." (These, according to the company, include the sale of real estate, sales of "noncore" assets, and "working capital initiatives.")
Image source: Getty Images.
According to Seeking Alpha, AT&T CEO Randall Stephenson said, in response to questions about the company's plans for M&A, that "[we] have one focus: paying down the debt."
There seems to be some worry that this could mean that AT&T might suspend its dividend in a bid to maximize the pace at which it marches toward its desired debt level. Here's why you shouldn't worry about that.
AT&T can pay down debt while paying shareholders
First, remember that the context in which Stephenson made those comments was with respect to its M&A plans, not to its overall capital allocation strategy. AT&T has already done a good amount of M&A, which has significantly augmented its business portfolio (although the company's DirecTV acquisition isn't looking so hot right now) and, ultimately, its ability to generate free cash flow.
Focusing on paying down the debt instead of purchasing additional assets makes sense. It's not exactly clear that AT&T needs to buy anything else right now to support its core business strategy, and paying down debt leads to lower interest payments, improving the company's overall financial performance.
At the same time, though, suspending the dividend -- or, perhaps, simply breaking its multi-decade streak of dividend increases -- wouldn't be a great way to optimize shareholder value.
Sure, suspending the dividend for a while to pay down the debt would allow AT&T to extinguish that debt faster, which would ultimately lead to a faster reduction in the company's overall interest payments. However, what this would also do is eliminate what is arguably the most attractive feature of AT&T stock: a large dividend (the stock's dividend yield is about 6.7% as of writing) that investors can not only depend on, but can expect to keep growing for the foreseeable future.
Many investors value having a significant and growing income stream and aren't necessarily chasing wild capital appreciation. By freezing the dividend or even failing to increase it in a given year, AT&T would break the trust that it has built with those shareholders, potentially resulting in something of a mini exodus from the stock.
The reality is this: The plan to pay down debt that AT&T laid out already incorporates the fact that a large chunk of its fiscal 2019 free cash flow is going to go straight into the pockets of its shareholders. It plans to pay down debt with the free cash flow that's left over after it pays its shareholders.
Yes, AT&T has a lot of debt, but at the same time, it's also a company that generates a tremendous amount of free cash flow -- something that I expect it to continue to do for the foreseeable future. AT&T can achieve its goal of bringing down its debt to saner levels while at the same time fulfilling its obligation to keep paying its shareholders a generous and growing dividend.
More From The Motley Fool
- 10 Best Stocks to Buy Today
- 3 Stocks That Are Absurdly Cheap Right Now
- 5 Warren Buffett Principles to Remember in a Volatile Stock Market
- The $16,728 Social Security Bonus You Cannot Afford to Miss
- The Must-Read Trump Quote on Social Security
- 10 Reasons Why I'm Selling All of My Apple Stock