After Earnings, Is AT&T Stock a Buy, a Sell, or Fairly Valued?

AT&T T released its second-quarter earnings report on July 24. Here’s Morningstar’s take on AT&T’s earnings and stock.

Key Morningstar Metrics for AT&T

• Fair Value Estimate: $23.00
• Morningstar Rating: 4 stars
• Economic Moat: Narrow
• Morningstar Uncertainty Rating: Medium

What We Thought of AT&T’s Q2 Earnings

• The convergence of broadband and wireless services was a major theme in AT&T management’s comments on the quarter. The firm continues steadily expanding its fiber-to-the-home network, and it expects to update investors on its longer-term network plans later this year or early next year as debt leverage nears its long-term target. The firm indicated that nearly 40% of its fiber broadband customers are also wireless customers—a far higher percentage than cable companies Comcast CMCSA and Charter Communications CHTR can claim for their relatively new wireless offerings.
• Results were solid, with strong wireless customer churn pushing net customer additions up nicely versus the prior year despite headlines around a data breach during the quarter. Free cash flow continues to track in line with or slightly ahead of management’s outlook for the year.
• AT&T believes it has an opportunity to take share if phone upgrade rates accelerate later in the year, saying it has built financial flexibility to capitalize if demand materializes.
• AT&T shares aren’t as attractive as those of Verizon Communications VZ, in our view, trading at a 17% discount to our fair value estimate. But we think the stock still provides good value, with a 5.8% dividend yield well covered by cash flow.

Fair Value Estimate for AT&T

Our $23 fair value estimate assumes that AT&T will deliver modest revenue growth and gradually expanding margins over the next several years as its wireless and fiber network investments pay off. Our fair value estimate implies an enterprise value of 7.2 times our 2024 EBITDA estimate and equals a 10% free cash flow yield based on actual 2023 results.

In wireless, we expect AT&T will slowly gain market share over the next few years. We believe postpaid revenue per phone customer will grow modestly amid a relatively stable competitive environment, surpassing $60 per month in 2028 versus less than $56 in 2023. We estimate AT&T generates around $2 billion annually from connected devices, such as cars. We model this revenue increasing roughly 40% over the next five years as things like edge computing gain adoption, but this estimate is highly uncertain. In total, we expect wireless service revenue to increase a bit more than 3% annually on average through 2028, with wireless EBITDA margins holding in the low 40s, as cost-efficiency efforts and benefits from slower customer growth offset rising network operating costs.

Read more about AT&T’s fair value estimate.

Economic Moat Rating

We assign AT&T a narrow moat. Wireless is AT&T’s most important business. Returns on capital in wireless have eroded somewhat in recent years as the firm has spent heavily on wireless spectrum and invested to put that spectrum to use.

We expect wireless returns will remain ahead of AT&T’s cost of capital. Verizon, AT&T, and T-Mobile TMUS dominate the US wireless market, collectively claiming nearly 90% of retail postpaid and prepaid phone customers and supplying the network capacity to support most other players. Solid nationwide coverage requires heavy fixed investments in wireless spectrum and network infrastructure. While a larger customer base requires incremental investment in network capacity, a significant portion of costs are either fixed or more efficiently absorbed as network utilization reaches optimal levels in more locations.

Read more about AT&T’s economic moat.

Financial Strength

AT&T’s net debt stood at $129 billion at the end of the first quarter of 2024, leaving net leverage at about 2.9 times EBITDA. This load is far higher than the firm has operated under in the past. Immediately before its current capital deployment binge began in 2012 (with a round of heavy share repurchases), AT&T typically carried leverage of around 1.5 times EBITDA. Still, the firm’s debt load is reasonably similar to Verizon and T-Mobile’s.

AT&T’s dividend payout totals about $8 billion annually, down from $15 billion in 2021. The dividend consumed about 50% of free cash flow in 2023 versus more than 80% in 2021. We think the dividend policy makes sense, leaving substantial excess cash to reduce leverage and make network investments, which we believe is vital to AT&T’s long-term health.

Read more about AT&T’s financial strength.

Risk and Uncertainty

Our Uncertainty Rating of Medium reflects the volatility we expect AT&T investors will face relative to our global coverage. Regulation and technological change are the primary uncertainties facing the company. Wireless and broadband services are often necessary for employment and education. If AT&T’s services are deemed insufficient or overpriced (especially in response to weak competition), regulators or politicians could step in.

The firm is also still responsible for providing fixed-line phone services to millions of homes across the United States, including many in small towns and rural areas. It could be compelled to invest more in rural markets even if economic returns are insufficient.

Read more about AT&T’s risk and uncertainty.

T Bulls Say

• Following a period of investment, AT&T will hold a nationwide 5G wireless network with deep spectrum behind it and a fiber network capable of reaching nearly one-fourth of the United States.
• AT&T has the scale to remain a strong wireless competitor over the long term. With three dominant carriers, industry pricing should be more rational going forward.
• Combining wireless and fixed-line networks with new technologies and deep expertise makes AT&T a force in enterprise services.

T Bears Say

• The cost of maintaining dominance in the wireless industry by controlling spectrum has been exceptionally high. AT&T has spent $40 billion over the past three years on licenses, with few prospects for incremental revenue.
• Advancing technology may eventually swamp AT&T’s wireless business, enabling many other firms to enter the market and further commoditizing this service.
• AT&T’s massive debt load could catch up with it. The firm carries far higher leverage than it historically has, and its dividend payout remains high. Lead liabilities could be an additional burden.

This article was compiled by Leah Breakstone.