Summary
- AT&T and Verizon are beloved by conservative income investors and for good reason.
- They are recession-resistant telecom utilities that are able to generate inflation-adjusted generous income, in all economic and market conditions.
- There are four reasons why Verizon is hands-down the superior quality company (level 9 vs. level 7 on my 11-point quality scale).
- However, today Verizon is about 10% historically overvalued while AT&T is nearly 20% undervalued, which means this higher-yielding stock offers potentially better total returns and is the better place for new money today.
- Just remember that no dividend stock is a bond alternative. Whichever of these telecom utiliites you decide to buy, only do so as part of a properly diversified portfolio, using the right asset allocations for your needs.
- Looking for more? I update all of my investing ideas and strategies to members of The Dividend Kings. Get started today »
(Source: imgflip)
Over at Dividend Kings, I recently completed a valuation/total return list looking at every dividend aristocrat and king. As a result, our subscribers now have access to the historical fair value and realistic five-year total return potentials for these legendary blue chips. In the coming weeks, I'll be compiling more such lists including for
- All safe midstream stocks
- All 45 Super SWANs (level 11/11 quality companies, as close to perfect dividend stocks as exist on Wall Street)
- All the dividend stocks across the entire Dividend Kings universe (109 companies and counting)
These super watchlists are how I decided on the best dividend aristocrats to buy in August, and recently pointed out 10 high-yield recession-resistant(defensive) stocks that are great places for new money today.
During that research, I came to the startling realization that AT&T (T), one of just two level 7 quality aristocrats (average quality compared to US corporations) is actually a good buy right now.
I've been critical of Ma Bell in the past, mostly due to its poor management and various debt-funded empire-building efforts, especially compared to higher quality rival Verizon (VZ). My opinion of AT&T's fundamentals hasn't changed, because there are four reasons why I'm convinced Verizon is hands down the better company.
However, buying AT&T today is potentially a good idea, because it not just offers a more generous safe dividend, but potentially far better long-term return potential.
Reason One: Dividend Safety
45% of my quality score is based on dividend safety. AT&T and Verizon are purely owned for their ability to generate generous and recession-resistant income, which is the basis for owning either of these effective telecom utilities.
Dividend safety involves three things, stable cash flows, a reasonable payout ratio, and a strong balance sheet that isn't likely to blow up during a recession when credit markets tighten.
AT&T and Verizon are America's two largest mobile providers, with about 30% and 40% market share, respectively. The mobile industry is basically an oligopoly because it's a monstrously capital-intensive industry to maintain a nationwide network (AT&T averaged $25 billion in capex over the past six years while VZ spent $17 billion per year). Mobile has become essential to most Americans and subscribers are unlikely to cancel service, even during economic downturns.
In terms of cash flow concentration, virtually all of Verizon's cash flow comes from mobile (and 70% of revenue) while AT&T generates 80% and 50% of sales and cash flow from mobile, respectively. But while AT&T is more diversified, as I'll explain in the next section that doesn't necessarily make for safer cash flow.
As for fundamental dividend safety stats, AT&T has a higher payout ratio, higher debt, and a weaker credit rating leading to higher borrowing costs.
| Company | TTM EPS Payout Ratio | Debt/EBITDA | Interest Coverage Ratio | Debt/Capital | S&P Credit Rating | Average Borrowing Cost |
| AT&T | 58% | 3.0 | 3.5 | 47% | BBB | 5.0% |
| Verizon | 51% | 2.3 | 6.4 | 64% | BBB+ | 4.3% |
| Industry Average | 68% | 2.6 | 5.6 | 39% | NA | NA |
| Safe Level (Industry Specific) | 70% or less | 3.5 or less | 4.0 or higher | 60% or less | BBB- or higher | NA |
(Source: Gurufocus, Morningstar, F.A.S.T. Graphs)
Mind you, AT&T's dividend safety is still above average, due to its defensive business model and strong industry position.
The company has $48 billion in debt maturing by 2022 but has pledged to rapidly deleverage by focusing its large retained FCF for that purpose (plus various asset sales).
