AT&T shares took another hit on Tuesday (February 1), dipping as much as 5% in early trading after the telco giant said it would slash its dividend by nearly half, giving growth investors yet another reason not to own the stock.
And those reasons are beginning to mount up. AT&T has spent the past few years dismantling its attempt to build a mega-media conglomerate, selling large chunks of DirecTV and WarnerMedia for bargain prices. With the dividend cut, AT&T said it will be on the hook for just under $8 billion this year for the shareholder payout, versus $15 billion in 2021. Analysts have been waiting for the dividend cut for a while, which they deemed necessary to help the company shave its enormous debt load.
Dividend cuts are never good news for shareholders, though, and many have been voting with their feet over the past few months. The stock closed February 1 at $24.42, down 4.2%, or $1.08 per share, as trading volume doubled to 123.6 million shares, compared to the average daily volume of 59.5 million. On Wednesday (February 2), it was down another 1% in early trading to $24.19.
AT&T shares are down about 8% since January 26, when the company released mixed Q4 results, and by more than 20% since it said in May that it would combine its WarnerMedia Group unit with Discovery Inc. That deal, expected to close in the next few months, will pump about $43 billion in cash into AT&T’s coffers and give shareholders a 71% interest in the combined entity.
AT&T also finally revealed the structure of the Discovery deal: It will be a spinoff rather than a split-off, with AT&T shareholders receiving 0.24 shares of Warner Bros. Discovery (the name of the new entity) for every share of AT&T stock they own. There had been some speculation that investors would be disappointed in a spinoff structure vs. a split-off exchange, but most analysts believed there would have been little chance for the latter structure.
In a research note January 26, MoffettNathanson senior analyst Craig Moffett wrote that others had argued that there would be a benefit in a split-off structure because it would reduce the number of outstanding AT&T shares, and there was a belief that that would cause the stock’s price to rise. In a split-off, AT&T shareholders would exchange their AT&T shares for stock in the new company, compared to a spinoff, which would give them a percentage of new shares based on their AT&T holdings. Moffett argued the opposite: What the company really needed to do, in his view, was to further reduce the dividend in order to pay down debt more quickly.
Is The Debt Too Darn High?
“AT&T’s problem isn’t that their promised dividend is too low,” Moffett wrote in his January report. “It’s that it’s too high. The market has already judged it to be unsustainable.”
What appeared to force some shareholders to the exits Tuesday is that in the spin-off structure, investors get a lower dividend yield. Then AT&T added to the pain by further cutting the dividend from their previous guidance of the “$8 billion to $9 billion range,” settling at a number just under $8 billion.
Later, Moffett said the lower dividend payout was a prudent move and should help them in their ongoing efforts to pare down their $154 billion in long-term debt.
According to Barron’s, a split-off could have reduced AT&T’s total shares outstanding by as much as 20%. Based on the spinoff structure and the reduced dividend payout, Barron’s estimated AT&T’s dividend yield to be about 6.2%, compared to the previous 8%. That’s still higher than its closest rival, Verizon Communications, with a dividend yield of about 4.8%.
The drop in the stock price can also be traced to more fundamental reasons. AT&T has been touting its new direction as a pure-play telecom company for months, aggressively discounting wireless service and building out fiber and 5G for broadband offerings. At the end of the fourth quarter, AT&T said it added 884,000 postpaid wireless subscribers and 271,000 fiber broadband customers. But it became quickly evident that subscriber growth was the result of deep discounting. EBITDA, a measure of cash flow, growth was literally nonexistent, prompting Moffett to use an old movie analogy to bring home the point.
“Pro forma organic EBITDA growth (adjusting for DirecTV, WarnerMedia and Vrio), despite solid subscriber growth for both wireless and fiber, came in at … 0.0% (paging Mr. Blutarsky),” Moffett wrote in a January 26 note to clients.
Moffett noted that he had upgraded AT&T to “neutral” in October because he thought the stock was too cheap at the time. Now he says he can’t figure out how the company grows.
That is most evident in a deeper dive into the Q4 numbers. While organic revenue growth of 4.2% in the quarter seems respectable, Moffett wrote that if you pull out wireless equipment and organic service revenue, it drops to 3.8%. Stripping out WarnerMedia and its Latin American digital entertainment business Vrio (sold to Grupo Wertheim in November), organic operating revenue drops to 1%.
Also: Eureka, AT&T is a Phone Company Again
“The results were weak, with EBITDA missing in every segment, there is no pro forma growth here whatsoever and guidance was for more of the same,” Moffett wrote in an email message about the stock’s January 26 decline.
Other analysts agreed.
Bernstein media analyst Peter Supino pointed to the company’s 3% service revenue guidance, saying it indicated faster ARPU (average revenue per unit) declines than he had marginally modeled, adding in a report that he expects AT&T to dial back promotions.
In a report titled “Can AT&T Get Out of Its Own Way?,” Barclays media analyst Kannan Venkateshwar expressed his disappointment in the 2022 guidance, adding that AT&T management has the unique opportunity to redefine the company and its investment narrative but the Q4 results were a step back.
Wireless Worries
“The company has clawed back share in wireless over the last few quarters, is now starting to turn around its wireline business back to growth next year, its spectrum investments have been a lot more balanced than Verizon and pro forma leverage should be a lot more manageable,” Venkateshwar wrote. “However, as demonstrated yesterday [January 26], it remains difficult to underwrite the company's execution path, partly on account of lack of transparency on key drivers.”
AT&T isn’t alone. J.P. Morgan media and telecom analyst Phil Cusick downgraded Verizon to “neutral” from “overweight” on January 26, citing concerns about postpaid wireless subscriber growth in 2022, warning that Q1’s normal seasonality could make it tough for the telco, and its troubles could extend beyond that period.
So it’s happening all over. Media is hard but so is wireless. And AT&T is perhaps getting singled out because it spectacularly failed at one and is showing signs of slipping with the other.
There is no question that getting out of the media business is a good idea for AT&T. The high prices paid and the low returns realized from its media dabblings dating back to Tele-Communications Inc. in 1998 have been written about and analyzed ad nauseum. It’s just that the business that it is supposed to know well — wireless telephony — is changing too. More players (cable is encroaching quickly on the mobile front), pricing wars and add-ons like free HBO Max service are ruling the day. For AT&T and its shareholders, the harsh reality is that business is hard. And whether AT&T has the right formula — wireless and broadband — is going to play itself out over time. Hopefully it finds the answer before time runs out. ■
