It's win-win for Telstra investors
It is edging towards $5 a share, almost double its trading price less than two years ago.
From an investment perspective Telstra competes (not with Optus) but with other major Australian corporates such as Rio Tinto, BHP Billiton, the big banks and the bond market.
If yield is the measure du jour, it stacks up particularly well. By default it's been one of the best bets on the market.
At the start of the financial year the capital and debt markets were in "risk on" phase. Telstra still provided a solid return, both in share price gain and dividend yield, but punters were gravitating towards the stocks that could produce potentially higher share price gains.
Over the past month investors have become a bit more cautious and the greater the caution, the more money gravitates to Telstra shares.
Short of blowing itself up making some stupid investment decisions or losing a major chunk of the mobile market share, Telstra is bullet proof in a profit sense thanks to the Gillard government and more recently the would-be government under Tony Abbott and Malcolm Turnbull.
Telstra boss David Thodey pulled off a masterstroke of negotiation when he came to a deal on being compensated for passing the company's wholesale business to the National Broadband Network. He did it again a few weeks ago when he managed to retain and even improve Telstra's position under a Coalition government.
The superior commercial skills of a large corporation when pitted against a bunch of bureaucrats is no surprise. And by the time Turnbull got a second swipe at it, it was too late. He was in no position to disenfranchise all those Telstra shareholders and, in any event, Telstra management had already "future proofed" its position if there was a change of government.
Thus the company's dividend policy looks solid under either government scenario and from 2014 should start to grow from the current 28¢ a share.
It is this kind of certainty and its status as an income stock that pays out all its fully franked earnings to shareholders that makes Telstra so attractive. It's a "returns" pedigree that few other investments have. The returns are way above the bond yield and better than the Australian banks, which have also been a popular choice for parking capital for yield-thirsty investors.
In this regard most of the major mining companies simply don't pass muster. Even if one puts to the side that their earnings are under pressure, they have a tradition of spending cash flow on growth prospects ahead of giving it back to shareholders.
Given their challenged earnings profile both BHP and Rio have been attempting to sell assets to generate sufficient cash to maintain their dividends, and are viewed not to be in a position to increase payments to shareholders other than by borrowing.
Under their newly revised strategies and management, both BHP and Rio will be easing off on capex and instituting more rigorous cost-cutting initiatives. But neither are suggesting they will change their spots sufficiently to become shareholder-friendly, high-yielding investments.
A recent Citi report summed it up well. "Although global equity markets have performed strongly in 2013, mining has not been invited to the party. Investors switching from fixed income to equities are chasing yield but with limited free cash flow generation in 2013-2014 the only increase in yield from BHP/Rio has come from lower share prices."
The banks are also a popular investment for yield-hungry investors and their results this week and next should demonstrate clearly that they are in something of a sweet earnings spot given interest margins and earnings are improving despite sluggish credit growth.
Plenty of money has been pumped into the banking majors over the past six months, but their yields do not not match up to Telstra, which is enticing investors with a grossed-up yield around 10 per cent. The rise in the value of the shares is cream on the cake.
Despite its popularity with investors, Telstra's business - or large parts of it - are mature or maturing or even in decline, but its profit will continue to rise thanks to the lucrative deal it has done with the government. It is not a growth stock in an earnings sense. There are smaller companies with better earnings profiles but not with such a degree of earnings safety.
The author owns Telstra shares.
Frequently Asked Questions about this Article…
Telstra's share price has risen as investors look for safe, high-yield places to park capital. The stock is attractive as an income play because it pays fully franked dividends, is seen as relatively secure thanks to government compensation deals, and has delivered both share price gains and strong yields compared with bonds and many banks.
The article notes Telstra is enticing investors with a grossed-up yield around 10%, which is well above typical bond yields and higher than yields on the major Australian banks. That high yield, combined with share price gains, is a key reason investors are choosing Telstra for income.
Telstra negotiated compensation for handing its wholesale business to the National Broadband Network, and the company later protected its position under a Coalition government. Those deals have helped secure Telstra's profit outlook and support a dividend policy that the article says looks solid under different government scenarios, with dividends expected to start growing from the current 28¢ a share from 2014.
Telstra is described in the article as an income stock rather than a growth stock. Large parts of its business are mature or maturing, so it isn’t seen as a high-earnings growth play — instead it offers earnings safety and attractive, fully franked dividend returns.
The article flags a few risks: Telstra could undermine its position by making poor investment decisions or by losing a major chunk of the mobile market share. Otherwise, its earnings are viewed as relatively secure because of the commercial deals it struck with government.
According to the article, major miners generally don’t match Telstra for yield. BHP and Rio have challenged earnings profiles, have been selling assets to maintain dividends, and are unlikely to become high-yield, shareholder-friendly investments in the near term — making Telstra comparatively more attractive for yield-seeking investors.
The banks remain popular for yield-hungry investors and have improving interest margins and earnings, but the article suggests bank yields still don’t match Telstra’s grossed-up yield. Many investors have rotated into banks recently, yet Telstra’s income profile has been comparatively more compelling.
Yes. The article discloses that the author owns Telstra shares, which is an important ownership disclosure for readers to consider when evaluating the commentary.
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