The Telstra Corporation Ltd (ASX: TLS) share price fell 15% in August, dropping from $3.40 at the start of the month to yesterday’s closing price of $2.89.
It hasn’t been a great year for Telstra in 2020 so far either. Telstra shares are down around 20%, year to date, which isn’t a great look when the S&P/ASX 200 Index (ASX: XJO) is only down around 9.4% over the same period. So what’s going on with the ASX’s largest telco?
Telstra’s not so good, very bad month
Telstra’s disappointing month can be put down to just one thing: its earnings report for the 2020 financial year (FY20). In this report, Telstra hit its guidance and reported the continuation of the 16 cents per share dividend that the company has been paying for a few years now. But investors weren’t too stoked on the company reporting a 9.7% fall in earnings and a 14.4% drop in net profits.
Even though Telstra will be paying out 16 cents per share in dividends for FY20, I think investors are getting the wobbles about the sustainability of this payout. Telstra currently has a ‘payout ratio’ policy of paying out between 70–90% of its earnings as dividends. On Telstra’s current guidance, it will be unable to continue to pay 16 cents per share in dividends in FY21 under this framework. Thus, it’s my opinion that investors are starting to panic and are pricing in a Telstra dividend cut for FY21.
Is the Telstra share price a buy at these levels?
I think this substantial August dip is a good buying opportunity for Telstra shares. Yes, its earnings are continuing to be battered by the NBN rollout and a sluggish economy. But I happen to think Telstra’s 16 cents per share dividend is safe for FY21.
My Fool colleague James Mickleboro pointed out last month that if Telstra moved to a free cash flow model for its dividend payments, its 16 cents per share payout could be sustained going forward, a view shared by both investment bank Goldman Sachs and myself. What’s more, I think Telstra’s heavy investment in its 5G rollout will pay dividends in the future (literally).
5G is the next generation of mobile network technology and could unlock some significant future earnings streams if Telstra can capture the lion’s share of a 5G market (which is likely, in my view). Yes, Telstra is facing some challenges. But at the end of the day, I think it’s a reliable dividend payer with a defensive earnings base and some future 5G growth potential. I’d be happy to pay under $3 for Telstra shares today as a result.
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Motley Fool contributor Sebastian Bowen owns shares of Telstra Limited. The Motley Fool Australia owns shares of and has recommended Telstra Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.
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