In this article, let's take a look at AT&T Inc. (T, Financial), a $173.99 billion market cap company, which is America’s second-biggest supplier of both mobile phone and fixed-line broadband services.
No Significant Impact
The company agreed to buy DirecTV (DTV), the country’s leading satellite TV distributor, for $48.5 billion in cash and shares. The deal will create a unique new competitor with unprecedented capabilities in mobility, video and broadband services. The goal is to better meet consumers’ future viewing and programming preferences.Â
Although people are wondering about the suitability of the transaction, we think this will not constitute a significant impact in the firm.
Most Important Asset
Wireless remains AT&T's most important asset contributing to half of sales.
The wireless industry is characterized by fierce competition, but neither T-Mobile (TMUS, Financial) or Sprint (S, Financial) can compete because of the cost disadvantages they have when compared to AT&T. The firm´s scale and financial resources contribute to strong margins and cash flow.
Additionally, the company focuses in two important aspects: the improvements in customer service and cutting costs. Further, the firm is seeking opportunities to expand its wireless business in international markets.
Good Cash
AT&T has an attractive dividend policy showing its commitment to return cash to investors in the form of dividends, as it generates healthy cash flow on a regular basis. The current dividend yield is 5.5%, which is excellent to protect the purchasing power and generate a cash income to investors. Dividends have been paid since 1984.
Revenues, Margins and Profitability
Looking at profitability, despite its growing revenue (1.55%), earnings per share decreased in the most recent quarter compared to the same quarter a year ago ($0.68 vs $0.72) The gross profit margin is high; currently it is at 56.37%; and the net profit margin of 10.88% is similar to the industry average.
Finally, let's compare the best measure of performance for a firm's management: the return on equity. The ROE is useful for comparing the profitability of a company to that of other firms in the same industry.
| Ticker | Company | ROE (%) |
| T | AT&T | 20.11 |
| S | Sprint Corporation | -18.63 |
| VZ | Verizon Communications Inc. | 71.70 |
| Â | Industry Median | 12.52 |
The company has a current ROE of 20.11% which is higher than the ratio exhibited by its peers: Sprint Corporation and the industry median. In general, analysts consider ROE ratios in the 15-20% range as representing attractive levels for investment, so this ROE looks very attractive. Verizon Communications Inc. (VZ, Financial) shows a very good ratio level. It is very important to understand this metric before investing and it is important to look at the trend in ROE over time.
The company's current return on equity greatly increased when compared to its ROE from the same quarter one year before.
Relative Valuation
In terms of valuation, the stock sells at a trailing P/E of 9.7x, trading at a discount compared to an average of 20.40x for the industry. To use another metric, its price-to-book ratio of 1.9x indicates a discount versus the industry average of 2.55x while the price-to-sales ratio of 1.40x is below the industry average of 1.51x. All the metrics indicate that the stock is relatively undervalued and seems to be an attractive investment relative to its peers.
As we can see in the next chart, the stock price has an interesting upward trend in the five-year period. If you had invested $10.000 five years ago, today you could have $17.369, that is a 11.7% compound annual growth rate (CAGR).
Final Comment
The telecom services industry is a mature, cyclical, capital intensive and has high entry barriers due to the dominance of well-established players with strong brand identities like AT&T.
The reasons we have discussed make me feel bullish on this stock. So in this opportunity, I would recommend fundamental investors to consider this attractive option for their long-term portfolios.
Hedge fund gurus like Jim Simons (Trades, Portfolio), Ray Dalio (Trades, Portfolio), Paul Tudor Jones (Trades, Portfolio), Murray Stahl (Trades, Portfolio) and James Barrow (Trades, Portfolio) added this stock to their portfolios in the first quarter of 2014.
Disclosure: Omar Venerio holds no position in any stocks mentioned
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