On paper, Verizon Communications (NYSE: VZ) stock should look like a slam-dunk buy, considering its market positioning and low valuation. Verizon is one of only three nationwide 5G providers in the U.S., and given the cost to build such a network, it is unlikely that new competitors will enter the market.
Shares also sell at a price-to-earnings (P/E) ratio of only about 15. Considering the importance of wireless communications in everyday life, a longtime emphasis on quality, and its increasing role in supporting artificial intelligence (AI), Verizon controls its destiny.
Unfortunately, the race to keep up with AT&T and T-Mobile left Verizon with a total debt of $149 billion, and the company has made very little progress in reducing that burden. Hence, until it makes one critical move, the telecom stock will probably continue to suffer.
What Verizon needs to do
If Verizon wants to rescue its stock, it will probably have to make the tough decision to slash or, better yet, suspend its dividend payments.
The decision will not come easily. Verizon now has a 17-year streak of annual dividend hikes. From a certain point of view, that makes Verizon the premier dividend stock in telecom. AT&T ended a 35-year streak of yearly payout increases in 2021 before slashing its payout, and T-Mobile only began dividend payments in December.
Still, the payout is a tremendous burden. At $2.66 per share annually, the dividend yield is now 6.4%, nearly five times the S&P 500 average of 1.3%. That has led to a dividend cost of $5.5 billion for the company in the first two quarters of the year, or approximately $11 billion annually.
Addressing the debt problem
Unfortunately, that cost hamstrings Verizon with its $149 billion in debt. Verizon's shareholders' equity amounts to only $97 billion, meaning the total debt amounts to over 150% of the value of Verizon's assets minus liabilities.
Although that imposes a tremendous burden, market conditions will probably make that debt weightier over time. Verizon paid $3.3 billion in interest in the first six months of 2024. While that sounds relatively low given the total debt, it is up 34% from the $2.5 billion during the same period in 2023.
Moreover, more than $23 billion of its debt matures within one year. Free cash flow for the first two quarters was $8.5 billion, which would presumably extend to $17 billion on a yearly basis.
If current trends continue, $11 billion will go to the dividend. So even if Verizon uses the remaining $6 billion to pay down debt, that would still leave $17 billion it would have to refinance, probably at higher interest rates. Thus, its debt could become a greater burden on the balance sheet.
Adding $11 billion to repayments would not cover the entire $23 billion in debt that matures over the next year, but it would leave only $6 billion to refinance, meaning Verizon would likely reduce its interest costs.
After years of declines, Verizon stock has started to trend higher. However, even if investors lost the dividend, an improved balance sheet could draw more investors to Verizon stock. That could help take Verizon stock higher and, ultimately, compensate shareholders for a lost dividend, giving the company more reason to eliminate (or at least reduce) its payout.
Moving forward with Verizon stock
Ultimately, Verizon should consider suspending its dividend, at least for the foreseeable future. Admittedly, such a move would disappoint income investors, and ending a 17-year streak of payout hikes could reduce confidence in the stock in the near term.
Nonetheless, a greatly reduced dividend burden would strengthen the balance sheet, increase profits by reducing interest expenses, and, by extension, probably increase the value of Verizon stock over time. If investors bid its stock price higher, that should ultimately benefit rather than cost investors, giving Verizon all the more incentive to eliminate its increasingly unsustainable payout.
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Will Healy has no position in any of the stocks mentioned. The Motley Fool recommends T-Mobile US and Verizon Communications. The Motley Fool has a disclosure policy.
