Telecom investors haven’t seen a reward from the announced T-Mobile (NASDAQ: TMUS) and Sprint (NYSE: S) deal. It still appears that AT&T (NYSE: T) and Verizon (NYSE: VZ) would be two of the biggest beneficiaries if the merger goes through. Nonetheless, both companies’ stock prices are down since T-Mobile and Sprint announced their plans to merge on April 29.
Perhaps investors don’t believe the deal will gain approval, or don’t think the new combined company will reduce the competitive intensity in the industry. Regardless, those interested in taking advantage of the potential merger in the telecom space are likely looking at AT&T and Verizon, as they’re the market leaders and each pays a hefty dividend for patient investors.
But if you could only choose one of the two stocks, which should it be? AT&T or Verizon?
Surviving the competition
Even if the competitive intensity could decrease following a T-Mobile and Sprint merger, investors should still pay attention to how each company has handled the increased competition over the last few years. It’s a good indication of which company is likely to benefit most from the move from four main competitors to three.
To that end, neither AT&T nor Verizon has performed particularly well. Both saw significant declines in their service revenue for their wireless businesses over the last few years. Those numbers were impacted by the move away from device subsidies, but further exacerbated by a loss of postpaid phone subscribers at each carrier.
Verizon started turning things around last year after getting to the unlimited wireless data plan game a bit late. In the third quarter, it delivered on a promise to produce sequential growth in wireless service revenue, and it managed to add postpaid phone subscribers in the last three quarters of 2017. It ended up losing another 24,000 postpaid phone customers in the first quarter, however, and saw a sequential and year-over-year decline in wireless service revenue. That said, total wireless operating revenue increased year over year in each of the last two quarters.
AT&T is still a bit behind. It saw the slimmest of increases in wireless service revenue in the second and third quarters, before falling back in the fourth and first quarters. Year-over-year growth is still nonexistent as well. It’s also bleeding postpaid phone subscribers, losing 125,000 in the first quarter and 570,000 over the course of 2017.
Verizon seems to be better at attracting and retaining wireless subscribers. It consistently posts lower churn rates, and it produces better wireless EBITDA margins than AT&T. Verizon’s wireless EBITDA margin was 47.8% in the first quarter compared to 41.8% at AT&T.
Expanding their horizons
Both AT&T and Verizon have other services beyond wireless service,. including home phone, internet, and television services. AT&T has invested heavily in the latter, acquiring DirecTV and currently working to gain approval for its proposed acquisition of Time Warner (NYSE: TWX). Verizon, meanwhile, is investing in digital media assets, buying the assets of AOL and Yahoo! to form Oath.
AT&T’s acquisitions come with some hefty price tags. It paid $67 billion for DirecTV, about $20 billion of which was cash. The Time Warner acquisition will cost over $85 billion, and it will pay half of that in cash. AT&T continues to raise debt to pay for these giant acquisitions, and it had $163 billion in debt on its balance sheet as of the end of the first quarter.
What’s more, AT&T’s acquisitions are in a space that’s undergoing immense pressure. DirecTV hasn’t quite turned around the company’s fortunes with regard to losing video subscribers to cord-cutting. Even its over-the-top service DirecTV Now relies on a questionable business model and is at a disadvantage to digitally native competitors. AT&T; hopes to bundle its video and wireless businesses to create better economics for itself and its customers, but both segments are seeing pressure on margins.
Verizon’s acquisitions aren’t exactly hot commodities, either. AOL and Yahoo! Represent the internet of the ’90s and aren’t attracting massive audiences and collecting loads of ad-targeting data like they once could. The bright side is that Verizon’s spending on those properties was tame compared to AT&T’s. It spent just $4.4 billion on AOL and $4.5 billion on Yahoo! It currently has about $119 billion in debt on its balance sheet.
AT&T’s debt is going up quickly, and if its deal with Time Warner closes, that debt could balloon closer to $200 billion. That will put pressure on its ability to grow its dividend at a meaningful rate.
So, which is a better buy?
Verizon is performing better in the core wireless market, and it’s not pursuing huge acquisitions in an adjacent industry that’s struggling to retain subscribers and maintain pricing. So, if its valuation is roughly in line with AT&T’s, it’s a clear winner.
Company EV/EBITDA
Verizon 7.26
AT&T 6.69
T-Mobile 5.46
Sprint 4.68
Verizon currently trades for a premium over AT&T and the rest of the wireless industry. That said, its superior performance in the wireless industry to AT&T, its better EBITDA margins, and its better balance sheet give me more confidence that it’s still a better buy.
But it’s close.
