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Dulat Atabek

AT&T - aristocratic stock of the 21st century

AT&T is a good dividend stock.
The DTV merger and acquisition of multiple Mexican telecom companies gave new opportunities to AT&T.
Significant growth in the Entertainment and Internet Services and Consumer Mobility parts of Revenue.

AT&T is one of the biggest telecom companies with billions of dollars in assets and stable Free Cash Flow. Because AT&T is an old company, it has considerable history of dividend payments from 1984 (!). Moreover it has increased its dividends for the last 11 years in a row. What is more interesting is their astonishingly high dividend yield of 5.8%. According to their annual financial statements the dividend yield is higher than their long term debt payment, which is 4%.
Also, the growth of the dividend yield has been stably increasing over the last 10 years by 2.3% annually. If the same different growth in dividends will continue for the next 10 years, a hypothetical total gain can be calculated:

As you see you can fully return your invested money in 10 years purely on dividends. AT&T is historically considered an aristocratic blue chip. Company state their Payout ratio would be higher than 70%, this means in the face of increasing Free Cash Flow they will increase dividends.
The next advantage of AT&T is its stable Free Cash Flow:

As you see AT&T's Free Cash Flow has increased in the last year, and it is anticipated that growth in free cash flow will be higher in the future. As growth will continue, AT&T will increase its dividend growth rate. AT&T currently pays 11 billion dollars in dividend with a Free Cash Flow of 15 billion dollars. This means the payout ratio is approximately 77%. After the DirectTV merger the free cash flow is expected to increase up to 17 billion dollars per year (DirectTV Free Cash Flow added to the AT&T's), which means that the dividend yield will increase to the 6,3%, as they need to maintain current Payout Ratio. In this case investors will have bigger gain:

We already mentioned merger of AT&T with DirectTV company. The deal was closed at July 24, and CEO of the AT&T Randall Stephenson commented this deal:
“This transaction allows us to significantly expand our high-speed Internet service to reach millions more households, which is a perfect complement to our coast-to-coast TV and mobile coverage,” Stephenson said. “We’re now a fundamentally different company with a diversified set of capabilities and businesses that set us apart from the competition.”
CEO's usually try to somehow fool their investors, so such statements should be taken with some skepticism. However, in this case diversification really has occurred. After the merger AT&T is the largest pay TV provider in the world, providing service to more than 26 million customers in the United States and more than 19 million customers in Latin America. Additionally, AT&T has more than 132 million wireless subscribers and connections in the U.S. and Mexico; offers 4G LTE mobile coverage to nearly 310 million people in the U.S.; covers 57 million U.S. customer locations with high-speed Internet; and has nearly 16 million subscribers to its high-speed Internet service.
AT&T expected such results to the end of 2015:

In fact, we can see from the FORM 8-K (SEX fillings) for the Q3, that US Video & Broadband revenue boosted by 34%, while Business and Mobility segments have stayed stable. Therefore, we can conclude, that AT&T not only diversified their revenue stream, but in some sense becomes a new company.
AT&T started to focus on the Latin America market. This was one of the primary reasons why they have decided to merger with DirectTV. Also, in June 24 2015, CEO Randall Stephenson during his meeting with President of Mexico has announced that AT&T plans to invest approximately 3 billion dollars to extend its high-speed, mobile Internet service to Mexico, covering 100 million people in Mexico by the end of 2018. That would be additional an 3 billion dollars to the 4.4 billion dollars that AT&T invested earlier this year. AT&T has bought such central and south American companies like Iusacell and NII Holdings in the previous years. The plan was to deliver mobile Internet service to Mexico, creating North American Mobile Service Area covering 400 million people and businesses in Mexico and the U.S. This means that AT&T will likely have growth in the future years.
Covering their financial statement, it should be noticed that AT&T's current financial position is not strong, because they have actively increased leverage in the past 5 years. Their long-term debt exceeds $100 billion dollars. This presence of big debt makes their liquidity ratios quite small: Current Ratio equals to the 0.73 vs. Industry 1.12, Cash -to- Debt 0.05 vs. Industry 0.43. AT&T wanted to fully use current low interest rates in the market and take "cheap" loans. However, as we expect an increase in the December interest rates, AT&T should step-by-step decrease their long-term debt. Because of that their shares will fall after interest rates are increased.
P\E ratio 37.62 is also very high and it seems that the market anticipated a higher EPS than it currently has, and this anticipation is included in the current stock's prices. Taking this fact into consideration we do not expect a capital gain in the nearest future( also in the past 5 years their shares were fluctuating between $32 and $36). Nevertheless, if AT&T's Latin American investment are to be successful, their shares should go up.
AT&T can be seen as a "boring" aristocratic stock with small capital gain in near future and big dividend yields. Such stock will offer solid annual dividend gain and potential long-term capital gain with potential short-term losses. Therefore, if you do not want to take additional risks and receive stable cash flow from investments (which higher than on bond market), you should go for AT&T stocks. In this case you will make the same decisions as famous value investor - Warren Baffet did in the third quartile of this year.
Our recommendation: