HomeMost PopularVerizon: Don't Sweat Refinancing Rates Impacting Dividends

Verizon: Don’t Sweat Refinancing Rates Impacting Dividends

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Introduction

When it comes to the telecom world, competition is fierce. Each provider is vying for customers by offering the best network coverage and the fastest speeds. In the United States, Verizon (NYSE:VZ) is one of the largest network providers with the top 4G LTE network coverage, while T-Mobile (TMUS) excels in the new 5G network coverage. Both companies have unique features that attract customers, making them intriguing options in the market.

Verizon offers a significant discount when customers combine their home internet package with a mobile package, providing access to the 5G Home package for only $35 per month. However, despite its strong offerings, Verizonโ€™s stock price has dipped 23% this year, making its dividend yield appear very attractive to potential investors. However, concerns about Verizonโ€™s large debt pile and potential negative effects of refinancing on profits have created uncertainty. In this article, we will compare Verizon to T-Mobile, analyze the impact of refinancing on earnings and dividends, discuss potential risks, and provide a conclusion.

Verizon VS T-Mobile

Verizon and T-Mobile are major players in the US network provider market, each offering an array of perks and options to attract customers. While T-Mobile has rolled out its 5G network over a large area in the US, Verizonโ€™s 5G network is currently limited to specific regions but offers higher speeds. T-Mobile is renowned for its technological innovation, while Verizon stands out with its attractive extras such as the Disney bundle, Apple One, and Walmart+ at discounted rates. However, T-Mobileโ€™s Netflix Basic subscription falls short with its lower resolution, presenting an advantage for Verizonโ€™s offerings.

Investments in expanding 5G coverage pose challenges for Verizon as its capital spending has increased significantly compared to its slow growth in cash flow from operations. On the other hand, T-Mobileโ€™s higher spending on 5G has been possible due to its lack of dividend distribution. The question remains as to how many consumers will switch to T-Mobile purely for its faster network. Additionally, Verizonโ€™s ongoing loss of customers raises concerns, despite its enticing discounts for combined Internet and mobile plans. However, strong broadband net additions and steady financial metrics provide some reassurance.

The Effect Of Refinancing Its Debt

Like other network providers, Verizon has relied on substantial debt to stay at the forefront of technological advancements. With short-term debt at $14.9 billion and long-term debt at $137.9 billion, the total debt stands at $152.6 billion, while cash and short-term investments are only $4.9 billion. While Verizon has benefited from low interest rates so far and has the opportunity to refinance its debt at low rates, the potential impact of rising rates on earnings is a cause for consideration.

To understand the effects of refinancing, we analyze debt maturing through 2027 and assume a 2.5% premium to the median Fed funds rate as the refinancing rate. By crunching the numbers, we find that the interest expense on debt maturing within one year would increase substantially if refinanced at a higher rate.

A closer look at Verizonโ€™s financial highlights reveals that dividend payments account for about 60% of earnings, indicating a minimal risk of a dividend cut due to refinancing. While the refinancing would have a modest impact on operating cash flow and free cash flow, earnings would only be affected by approximately 3% based on 2022 earnings. Therefore, we can conclude that refinancing is unlikely to result in a dividend cut.

Risks

Although our refinancing assumptions are based on expectations of cooler inflation and declining interest rates, factors such as rising oil prices and unexpected inflation could disrupt the status quo. In such a scenario, Verizon could face adverse consequences. We must also consider the potential impact of future investments in the 5G network on dividends. As Verizon will eventually need to expand its 5G network, financing these investments with debt in a high interest rate environment could heavily impact earnings. However, for now, there is no immediate cause for concern as inflation is trending downwards and the economy is expected to cool, increasing the likelihood of interest rate cuts.

Takeaway

Verizon and T-Mobile each have their management strategies, with Verizon offering a reliable and attractive dividend. Currently undervalued with a low PE ratio of 6.1, Verizon presents an appealing investment opportunity, especially considering its potential for strong returns from 2024 onwards. In contrast, T-Mobileโ€™s stock price appears overvalued with a high PE ratio of 28. While T-Mobile shows promising earnings growth projections, Verizonโ€™s stability and dividend yield make it a better choice. Falling interest rates could serve as a catalyst for Verizon, making debt refinancing cheaper and reinforcing its status as an income-focused investment. Despite some concerns surrounding customer losses and uncertainty regarding earnings projections, Verizonโ€™s stock offers value and a solid dividend that income investors can rely on.

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