Introduction
If you’re looking for a complete overview of BT Shares then you’ve come to the right place!
In this article, I’m going to discuss BT as a business, the wider telecoms market and whether BT shares are a compelling investment.
On the lookout for some cheap dividend stocks after the Brexit flash crash I picked up some BT shares but they have since gone on to decline by around 18%.
Whilst I’m not a huge fan of the stock, especially after the accounting revelations, I’m confident in holding it for its dividend and future potential.
With BT shares down 36% in a year, could this be a buying opportunity?
Why have BT shares dropped so much?
As I’m sure most are aware, BT’s share price went down by over 20% by the end of January and are down by around 36% overall this year.
So, Why have BT shares gone down?
- The Italian accounting scandal
BT recently became aware of some historical accounting inaccuracies in their Italian arm.
Initially, they estimated that the cost of the inaccuracies would come in under £150m but after an independent audit the cost has tripled to over £450m.
Following this, the head of BT’s European division was relieved of his duties leaving BT’s reputation in Europe tarnished.
2. The end of big IT contracts
The previous Labour government embarked on an ambitious IT spending spree to upgrade the UK’s tech infrastructure.
These contracts included improving internet speed and connectivity.
With these contracts now coming to an end, BT, especially it’s Openreach arm, will find it tough to replace this reliable and substantial cashflow.
The good
Quadplay!
I’m always quick to emphasise that stocks should be bought on current facts and valuations. One should always do their best to avoid ‘betting’ on future earnings and predictions.
But, recent moves from BT have gotten me excited!
BT recently bought the UK’s largest mobile network EE for £12.5bn. A hefty price!
This acquisition puts BT in an enviable market position. The company now offers Telephone, Broadband, TV and Mobile and are focusing on rolling these products into one convenient package for customers.
We have already seen a glimpse of the future potential of these synergies by BT’s offer of a free BT sport app for EE customers for six months.
Openreach – Clarity at last!
Regulatory issues surrounding BT’s Openreach servicing branch have caused headaches for the company over the past few years.
But, the telecommunications regulator deemed a spin-off unessacary, and BT have since negotiated a controlled and partial spin off of its Openreach arm.
Openreach will have its own board, and make its own investment decisions but BT will still retain control over Openreach’s budget and will remain the 100% owner of the cashcow.
This retention, along with quad-play, will allow the group to continue to enjoy competitive advantages over its competition in future.
The main attraction – dividend.
One of the main attractions for me is BT’s dividend.
Currently yielding 3.55% (ttm) BT offers a decent dividend yield.
The company has been rebuilding their dividend since 2008 and have achieved a 5 year growth rate of 13.6%.
The payout ratio currently sits at close to 50% meaning that the company has room to grow its dividend even if results disappoint somewhat.
The company has managed to grow its EPS by 10% over the past 5 years meaning that dividend growth is sustainable in the medium term if EPS continue to grow by the same rate.
In fact, I expect synergy savings from the EE acquisition to start kicking in and increased customer retention to outpace the increasing costs of TV rights (although this is pure prediction).
The Bad
Football rights – a red flag?
BT is currently up against Sky when it comes to bidding for football rights. The intense competition has lead to the costs of football rights skyrocketing!
BT recently spent £1.8bn to snap up football rights to broadcast on BT sports including a £300mn fee for champions league football rights.
This has helped reduce the level of broadband customers switching to Sky but has come at a heavy price with the cost of football rights soaring 80% due to the bidding war.
My main concern here is the limited number of cost cutting measures that Sky and BT could employ in order to offset the rising costs of football rights.
With BT’s debt pile already stacking higher, this continued bidding war is of major concern and is one it may well lose in the long term vs a mammoth like Sky.
Disruptors
Moving forward, we may see services such as Netflix and Amazon prime begin to bid for TV rights that could drive costs higher again.
Amazon recently made a bold move in signing the trio of Jeremy Clarkson, Richard Hammond and James May, formerly of Top Gear for an exclusive online series The Grand Tour.
They are reportedly paying a hefty £3million + per episode.
It’s inevitable that Amazon and its rivals will eventually move into sports broadcasting, pushing up the price of rights further.
With BT investing heavily into its quadplay stratergy for customer retention a loss of any single element could derail its stratergy.
The Financial Times has a great article about how the football rights battle is heating up; Further reading: http://www.ft.com/cms/s/0/f5af4fde-5404-11e6-9664-e0bdc13c3bef.html#axzz4IzkHkEZV
Debt
The acquisition of EE certainly did nothing to improve BT’s already pressurized balance sheet.
In 2016 Net debt has increased by £4,726m. This included the £3,464m cash consideration as part of the EE acquisition and EE net debt of £2,107.
What is also worrying is the massive £7bn pension deficit that BT is carrying. Although it’s most generous of schemes, a relic of state ownership, ‘The BT Pension Scheme (BTPS)’ is now closed to new members, the BTPS still has around 35,000 active members, 197,500 pensioners and 69,000 deferred members.
A 16-year deficit contribution plan has been agreed. Under this plan, BT has made deficit payments of £875m in March 2015, £625m in April 2015 and £250m in March 2016. A further payment of £250m will be made in 2016/17, bringing the total for the three years to 31 March 2017 to £2.0bn.
This mammoth deficit isn’t going anywhere soon and is a major concern going forward with a further £5bn of payments still to make in order to close the gap.
With BT continuing to pour billions into this seemingly unfillable hole investors are right to be skeptical about future free cash.
Should I buy BT shares? – Valuation
What attracted me to BT shares was its valuation compared to the FTSE100, but this isn’t to say that the stock is cheap.
BT shares currently look attractively valued and appear a compelling investment. BT’s current 10 year p/e ratio is 12.8 (excluding 2009 due to negative earnings). The company currently trades at a p/e ratio of just 10.0 meaning the shares appear undervalued.
With the added value of EE and Quad-Play, I feel that BT has evolved rapidly as a company over the past two years and is now much better placed to tackle competitors as it was previously.
Previous valuations for BT do not reflect its current state.
This is evidenced by a widening of margins, despite TV rights battles. With further cost saving measures ahead and an increase in customer retention I am confident these margins can be maintained.
BT operating margins: (Source:GuruFocus)
Summary
BT has placed itself in an enviable competitive position with the acquisition of EE.
EE and BT are both well known brands with good reputations. Rolling telephone, broadband, mobile and TV together allows BT to increase barriers to exit for customers, allowing increased customer retention.
Debt remains a worry for BT. With a seemingly never ending pension black hole and increased spending on football rights, investors need to watch the balance sheet closely.
BT’s margins continue to expand, giving me confidence in the company’s ability to successfully battle competitors.
The recent collapse of the share price have left BT shares looking very attractive with the dividend being maintained.
The fallout from the accounting scandal and the infrastructure will take years to fully pass but the dividend remains in place and I still feel BT is best placed in the market to ride out the current market troubles and competition spike.
I rate BT shares a cautious but risky buy.