Personal Finance

Better Buy: Verizon vs AT&T

The U.S. telecom market is dominated by two giants: Verizon (NYSE: VZ) and AT&T (NYSE: T) . Both have huge subscriber bases producing stable revenues and fueling enough cash flow to return quite a bit of it to investors. AT&T's dividend yields nearly 7%, while Verizon's 4.5% yield isn't too shabby, either.

Investors may have a tough time deciding between the two company's stocks, so let's take a closer look at their business operations, balance sheets, and valuations to help you make a decision.

A close up of a person using a smartphone

Image source: Getty Images.

The core business

Verizon and AT&T may have branched out from their phone service businesses, but they still make most of their money from wireless phones.

Verizon added 1.1 million postpaid phone subscribers in 2018. Its wireless service revenue has increased year over year in each of the last three quarters, and total operating revenue from its wireless business increased 4.8% for the full year.

Meanwhile, AT&T added fewer than 200,000 postpaid phone subscribers last year. However, it's also started to show progress toward service revenue growth with improvements in each of the last three quarters. Total operating revenue from its mobility business increased 2.1% for the full year.

Verizon notably produces much healthier profit margins on its wireless business than AT&T. Take a look at the EBITDA margins of both businesses over the last four quarters.

Company Q1 2018 Q2 2018 Q3 2018 Q4 2018
Verizon 47.8% 47.8% 47.7% 42.5%
AT&T 41.8% 44.1% 42.8% 40.1%

Data sources: Verizon, AT&T.

Importantly, Verizon expanded its profit margin in 2018, while AT&T saw its margin shrink in three out of four quarters.

Advantage: Verizon

Beyond wireless

Both AT&T and Verizon have made moves to expand beyond wireless.

Verizon's wireline business is relatively small, serving a few million customers. That customer base is mostly shrinking, though, as customers cut the cord on pay TV and abandon home phone service. Its FiOS internet subscribers continue to climb, though. Overall, wireline revenue declined 3% last year.

Verizon also made two big investments in AOL and Yahoo! to form Verizon Media Group (formerly Oath). Those investments haven't worked out so well. It took an impairment charge of $4.6 billion on the goodwill of its acquisitions last quarter. That's about half of what Verizon paid for the two companies combined.

AT&T's acquisition of DirecTV for $49 billion hasn't worked out quite so well. The satellite TV service is bleeding subscribers every quarter. The streaming linear TV service AT&T launched in 2016, DirecTV Now, hasn't been able to offset the subscriber losses. The company lost a total of 750,000 video subscribers last year. What's more, operating profits declined 28.6% for the entertainment group.

AT&T also closed on its Time Warner acquisition over the summer; the company paid $85 billion for the media company. The segment produced a 6.2% increase in revenue in its first two full quarters under AT&T. It also showed operating margin expansion. AT&T pointed to strong box-office results from Warner Bros. Studios as the top reason for revenue growth in the fourth quarter. Box-office revenue is much more inconsistent than subscription and affiliate revenue from cable subscriptions, though.

AT&T spent a lot of money diversifying away from wireless, and it's not clear if those investments were very smart. Meanwhile, Verizon has practically admitted its investments didn't work out, but at least it didn't spend $130 billion on them.

Advantage: Verizon

Digging into the financials

In order to keep paying and increasing those high dividends, Verizon and AT&T need to show strong balance sheets and cash flows. Let's compare them side by side.

Metric Verizon AT&T
Operating cash flow $34.3 billion $43.6 billion
Free cash flow $17.7 billion $22.4 billion
Cash $2.7 billion $5.4 billion
Debt $105.9 billion $171 billion

Data sources: Verizon, AT&T.

AT&T's acquisitions have pushed its debt up to unprecedented levels. The company is now working to aggressively pay down its debt, which may curtail its ability to raise dividends and return capital to shareholders over the next couple of years.

While AT&T does produce more free cash flow than Verizon, the amount of debt on its its balance sheet offsets that advantage.

Advantage: Verizon

Which one's cheaper?

Investors shouldn't make a buying decision on most stocks without at least looking at the valuation of each.

Valuation Metric Verizon AT&T
P/FCF 12.55 9.53
EV/EBITDA 7.9 7.68

Data sources: Verizon, AT&T.

If all you care about is free cash flow, you'll get more of it per dollar with AT&T stock than Verizon. But when you account for AT&T's debt load with its enterprise value, its valuation doesn't look quite as attractive compared to Verizon's. It's only negligibly less expensive.

Investors are right to discount AT&T's free cash flow since it's burdened with paying down its debt over the next couple of years. That means less cash flow goes to shareholders, while Verizon is more likely to increase its dividend a more significant amount as it grows free cash flow.

Advantage: Push

Which one to buy

Verizon's core wireless business is performing well, and while its risky investments in digital media didn't pan out, at least it's not on the hook for over $100 billion like AT&T. As a result, its balance sheet is more attractive. With its valuation roughly in line with AT&T's, Verizon is a better buy right now.

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Adam Levy has no position in any of the stocks mentioned. The Motley Fool recommends Verizon Communications. The Motley Fool has a disclosure policy .

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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