Which Stocks Offer Safer Dividends?

AT&T (NYSE: T) and Verizon (NYSE: VZ) have been popular income stocks for decades. Both emerged in the landline era, sustaining dividends through steady business. Even as AT&T and Verizon branched out into wireless and broadband Internet services, they increased their payments over time.

However, remaining competitive against each other and the growing threat of T-Mobile left both companies massively in debt. That obligation led AT&T to cut its payouts in 2022. Verizon, on the other hand, is maintaining a series of payout increases.

Companies are free to adjust pay levels at any time. Verizon’s annual payout increases might make it the most desirable dividend, but its need to pay down debt increases the odds of a dividend cut.

So the question for investors is does AT&T’s lower payout make it a better dividend stock or should it stick with Verizon? Let’s take a closer look.

How dividends compare

At first glance, AT&T looks like the weaker dividend stock. The company ditched a 35-year history of growing payouts in 2021, then cut its dividend by just under 50% to $1.11 per share annually the following year. This gives it a dividend yield of 5.6% at current prices.

Instead, Verizon has built a 17-year history of growing payments. Also, because the end of such a streak can dampen confidence in the stock, such companies tend to continue annual payout increases. This led to an annual dividend of $2.66 per share, a cash yield of 6.4% at current prices.

Although Verizon offers a higher yield, both dividends far exceed it S&P 500 average of 1.3%. Both also come at a significant cost to their companies.

AT&T spends just over $8 billion a year to maintain its dividend. Free cash flow was $7.7 billion in the first half of 2024 and $11.6 billion in the last two quarters of 2023, for a total of $19.3 billion in free cash flow during the 12 months.

In Verizon’s case, its higher yield comes at a higher cost. It spends just over $11 billion annually to cover the cost of its payment. Still, free cash flow closely matched AT&T’s, with $8.5 billion in the first two quarters of 2024 and $10.8 billion in the last half of 2023.

That means Verizon, coincidentally, also generated $19.3 billion in free cash flow over the past twelve months. It also implies that Verizon can generate the cash it needs to keep paying, leaving cash free for other purposes.

Financial challenges

Unfortunately for both companies, they need to generate enough free cash flow to service and ideally reduce their debt burden.

The story continues

At the end of the second quarter of 2024, AT&T claims total debt of just under $131 billion, slightly more than the $119 billion the company holds in equity.

Despite the apparent strain on its balance sheet, AT&T’s debt stood at more than $143 billion in the next year’s quarter, which means it has written off $12 billion. It also has $5.2 billion of that debt due in the next year. At this rate, they could retire that debt without needing to refinance.

In contrast, Verizon has a higher absolute and relative debt load. It has more than $149 billion in debt, when its shareholders’ equity is only $98 billion.

Moreover, total debt did not fall significantly, falling from just under $153 billion in the year-ago quarter. Additionally, its debt maturing in one year totals over $22 billion. At the current rate, it will likely have to refinance most of that obligation, probably at higher interest rates.

Which dividend is safer?

When comparing the two companies, AT&T seems to offer a safer dividend.

Of course, AT&T stock offers a slightly lower dividend yield. Also, since it doesn’t currently raise its payout annually, a dividend cut would likely hurt its stock less. However, AT&T is maintaining its dividend while significantly reducing its debt, meaning it probably doesn’t need to cut its payout.

In contrast, Verizon’s situation is more precarious. While it can technically afford dividends, it has a higher debt-to-equity load and has been reducing that debt more slowly. Assuming it has to refinance maturing debt, the pressure to follow AT&T’s lead and reduce its payments could prove too much to resist.

Finally, income investors tend to be more risk averse. Given each company’s debt situation, they probably face less risk going with AT&T.

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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.

AT&T or Verizon: Which Stock Offers a Safer Dividend? was originally published by The Motley Fool