Is the time right to buy VZ’s discount?

As questions continue to loom about the continued progression of COVID-19 in the United States – and to what extent it may blunt any progress made in the last month or so from the standpoint of economic recovery – it’s pretty easy to give in to the fear that new restrictions may have to be imposed to a comparable extent to those seen earlier this year. That increases fear, which in turn leads to an increase in volatility in the market.

Increasing fear is something that tends to drive average investors away from the markets; but for those who can take a longer-term view, including the ability the take a contrarian perspective of things, can usually find terrific opportunities in those kinds of conditions. An example of what I mean is to look at the reality that coronavirus-driven fear forced the closure or retail businesses all around the world for a big portion of the second quarter of the year, and that even as many of those businesses are able to reopen, they are forced to operate at drastically reduced capacity levels. In many cases, consumer demand is proving to be slow to keep pace with even gradual, decreased capacity requirements. That means that recovery in the retail side of many business operations is likely to be slow going at best.

The wireless telecommunications industry is an interesting case in point. Shelter-in-place orders, work-at-home arrangements, and the continued need to maintain social distancing measures has increased just about everybody’s reliance on their mobile devices, which is generally good news for the companies that provide those products and the services that come with them; but it also means that demand for new devices, including upgraded smartphones, tablets, wearables, and so on, has so far been pretty muted, and is expected to continue to follow that pattern for most of the rest of the year. That is likely to keep pressure on those companies to manage their operations as efficiently as possible – which could be a challenge, as leverage in this industry was already very high before the pandemic hit, even among the largest and most established companies, like AT&T and Verizon Communications Inc. (VZ). Continued pressure on revenues through the rest of the year is likely to challenge these company’s existing operating models and force liquidity, which was already a red flag, to deteriorate.

That’s the bad news – but I also think that there is quite a bit of good news to consider, as well. Over the last few years, VZ has been one of the biggest investors in acquiring 5G spectrum, and are the first major provider to start rolling out 5G connectivity in their network. The implementation is slow going so far, with only a small portion of its nationwide network having access to 5G towers, and the truth is that if adoption of new, 5G-enabled devices is hindered by the pandemic, progress will continue to be slow. Even so, 5G represents a long-term growth opportunity. Soon or late, consumer trends will shift back in the favor of the tools that enable faster wireless connectivity, and that means that companies that have been at the front of the pack will still be the winners in this game. Add to that the tact that VZ’s stock price remains more than -10% below its pre-pandemic high, with a bargain proposition that puts its target price more than 50% above its current price and well above its all-time highs. Countered against the company’s high leverage is healthy, stable free cash flow and operating margins that have held up better than expected in the current economic environment. Altogether, that makes VZ a stock that could be worth paying attention to.

Fundamental and Value Profile

Verizon Communications Inc. is a holding company. The Company, through its subsidiaries, provides communications, information and entertainment products and services to consumers, businesses and governmental agencies. Its reportable segments are Verizon Consumer Group and Verizon Business Group. Its Consumer segment provides wireless and wireline communications services. Its wireless services are provided across wireless networks in the United States under the Verizon Wireless brand. Its wireline services are provided in nine states in the Mid-Atlantic and Northeastern United States, over its 100% fiber-optic network under the Fios brand and via traditional copper-based network. Its Business segment provides wireless and wireline communications services and products, video and data services, corporate networking solutions, security and managed network services, local and long-distance voice services and network access to deliver various Internet of Things (IoT) services and products. VZ has a current market cap of about $227.8 billion.

Earnings and Sales Growth: Over the last twelve months, earnings grew by about 5%, while revenue declined about -1.6%. In the last quarter, earnings were 11.5% higher, while revenues declined -9.1%. VZ operates with a healthy operating profile that, saw margins moderate somewhat in the last quarter. Over the last twelve months, Net Income was 14% of Revenues, and weakened to 13.15% in the last quarter.

Free Cash Flow: VZ’s free cash flow is very strong, at more than $18.5 billion, and translates to a useful Free Cash Flow Yield of 8.19%.

Dividend: VZ’s annual divided is $2.46 per share, which translates to an impressive yield of 4.46% at the stock’s current price.

Debt/Equity: VZ carries a Debt/Equity ratio of 2.02, which is generally considered a high number that isn’t unusual for stocks in this industry. Their balance sheet shows nearly $7 billion in cash and liquid assets versus more than $124 billion in long-term debt. Their operating profile indicates that servicing their debt, even though it is high, shouldn’t be a problem.

Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but I like to work with a combination of Price/Book and Price/Cash Flow analysis. Together, these measurements provide a long-term, fair value target around $84 per share, which is more than 30% above the stock’s high in January (which is also near its all-time highs) around $65. That also suggests that the stock is significantly undervalued right now, with about 52% upside from its current price.

Technical Profile

Here’s a look at the stock’s latest technical chart.

Current Price Action/Trends and Pivots: The red diagonal line measures the length of the stock’s downward trend from its January high around $62; it also informs the Fibonacci retracement lines shown on the right side of the chart. From the low, the stock rallied to about $58 in April before dropping back near to its current level. It retested $58 in June before falling below the 38.2% retracement line last week around $54 per share. In the last few days, the stock has picked up bullish momentum, and it nearing Immediate resistance at the 50% retracement line around $56.50, with support back at $54. A drop below $54 could see the stock test its March low around $49, while a push above $54 should at least give the stock enough room to move to at least $57 where the 61.8% retracement line sits, and possible retest its June and April highs around $58, with additional room to rise to almost $61 if bullish momentum persists.

Near-term Keys: VZ offers an interesting value proposition, with a higher-than-average dividend that makes for tempting bait for both value and fundamental-oriented investors. Despite the stock’s underwhelming performance over the last three months, the stock’s current bullish momentum could offer a useful short-term opportunity to buy the stock or work with call options; use a push above $56.50 as a signal to enter the trade, with an eye on $58 to take quick profits and $61 if bullish momentum is strong. A drop below $54 should be taken as a signal to consider shorting the stock or buying put options, using VZ’s March low around $49 providing an interesting profit target on a bearish trade.