Verizon (NYSE: VZ) is one of the best dividend stocks in the S&P 500The telecom giant’s payout currently stands at over 6.5%, putting it among the 10 the highest returns in that broad market index, where the average is less than 1.5%.
The company also recently raised its payout for the 18th consecutive year, the longest current streak in the U.S. telecom sector.
A big The factor that has influenced Verizon’s ability to continue increasing its dividend is improving free cash flow and leverage ratioHowever, the company recently agreed to the acquisition Border communication (NASDAQ: FYBR)While that deal will strengthen the fiber network, the $20 billion cash acquisition will burden the network with a lot more debt. That increased leverage could have implications for the company’s performance. ability to continue growing its dividend.
A remarkable step backwards
In recent years, Verizon has focused on reducing its debt. The company has set a long-term goal of reducing its leverage to a series of 1.75x to 2.0x. The leverage ratio was 2.5x at the end of the second quarter, down from 2.7x at the end of 2022.
The company has used all of its excess free cash flow after capital expenditures and dividends on debt reduction. The plan was to do that until leverage was around 2.25x. Once it reached that level, the company expected to launch a share buyback program.
Verizon was on track to hit its leverage ratio target to trigger share buybacks next year. It has generated increasing amounts of post-dividend free cash flow, allowing it to accelerate its deleveraging. For example, it generated $2.9 billion of excess free cash flow through the first half of 2024, up from $2.5 billion in the same period last year. That debt paydown put the company on track to close next year with a leverage ratio of 2.3x, Fitch said.
However, the acquisition of Frontier will throw a spanner in the works. According to credit rating agency S&P WorldwideVerizon’s leverage ratio will rise to around 3.0x after the Frontier deal closes. This means Verizon won’t be able to buy back shares anytime soon.
On a more positive note, both ratings agencies expect the company to rapidly deleverage its balance sheet following the Frontier deal. S&P Global believes it will reach its target leverage ratio for share buybacks by 2027 (assuming all goes according to plan). Fitch also expects the company to get back on track to meet its leverage target following the Frontier acquisition.
Silver edges
The Frontier deal will have a meaningful impact on Verizon’s balance sheet in the near term. However, the company does have room to absorb the blow. S&P Global noted that while Verizon’s leverage will rise to 3.0x after the transaction closes, it is still well below the 3.25x level that would trigger a credit downgrade. S&P Global’s bond rating for Verizon is BBB+, which is a strong investment-grade level, while Fitch’s level is even higher, namely A-.
Meanwhile, Verizon’s balance sheet has already stronger than that of the rival AT&T (NYSE: T). The fellow telecom giant ended the second quarter with a leverage ratio of about 2.9x. The company also aggressive repayment debt ($5.1 billion in the past year). With that, AT&T is on track to reduce its leverage ratio to a series of 2.5 times in the first half of next year (which is about Verizon’s current level).
AT&T had previously cut its dividend by nearly 50% in 2022 to keep more cash to invest in its network and reduce debt after the spin-off from her media company.
Verizon is using its currently stronger balance sheet through acquisition of Frontier to better compete with AT&T in fiber. The deal will grow the number of subscribers from 7 million today to more than 10 million households in 2026. with the potential to achieve 25 million homes. Furthermore, the deal will to be accretive to the company’s bottom line, driven by at least $500 million in cost savings in the first three years as Verizon integrates Frontier.
Finally, the company will still maintain a solid balance sheet (which will improve steadily). These factors should enable to continue paying its industry-leading dividend.
Raise the risk profile a little
Verizon is making a big push to bolster its fiber business by acquiring Frontier in a $20 billion deal that will boost its leverage ratio in the short termwhich makes the company less likely to buy back its own shares. That higher level of leverage adds some risk to the dividend.
However, Verizon is in a strong position to absorb the additional debt it expects to pay down in the coming years. As such, it still appears to be a solid option for income-seeking investors, as it should be able to continue to grow its high-yielding dividend even as it reduces its debt.
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Matt DiLallo has positions in Verizon Communications. The Motley Fool has positions in and recommends S&P Global. The Motley Fool recommends Verizon Communications. The Motley Fool has a disclosure policy.
Verizon Just Raised Its Dividend for the 18th Year in a Row. Will Its $20 Billion Acquisition Hurt That Streak? was originally published by The Motley Fool
