Should You Buy TELUS for Its 6%+ Yield?

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Written by Robin Brown at The Motley Fool Canada

TELUS Corp. (TSX:T) is near the top of the list as one of Canada’s most well-known dividend stocks. With a market cap of $35 billion, it sits amongst Canada’s largest companies as well.

Over the past 10 years, TELUS investors have earned a 7.2% compounded annual return (a 100% total return). Just six months ago, that return would have been significantly larger.

However, TELUS stock has had a rough time. In 2023, the stock has declined 10%. Over the past 52 weeks, it is down 18%. Today, the stock is yielding 6.3%. That is the highest TELUS’ dividend yield has been in over a decade.

Some investors might be wondering if that is an opportunity. Certainly, it could be, but shareholders do need to be cautious. TELUS is facing several challenging headwinds and it is not clear when they will clear up.

Debt has grown and earnings are getting hit

Firstly, over the past three years, TELUS has been investing heavily in an elevated capital and investment program. TELUS’ net debt has ballooned from $18 billion to over $26 billion. That is a near 50% increase.

With interest rates rapidly rising in 2022 and 2023, the market has become skittish over concerns its debt may become unsustainable. Already, elevated interest expenses have impacted profitability. Year to date, earnings per share have fallen 61% in 2023.

Net debt-to-EBITDA (earnings before interest, tax, depreciation, and amortization) is up at 3.8 times versus 3.4 times a year ago.

TELUS subsidiaries are underperforming expectations

Secondly, TELUS’ stake in TELUS International (TSX:TIXT) has suffered a major hit. TELUS International stock has fallen 65% in 2023.

TIXT suffered a major slowdown in customer demand as the economy has weakened. This caused margins and earnings to rapidly decline. TIXT was expected to be a significant growth engine for TELUS. However, so far it has been a serious drag on earnings.

To contain its cost structure, TELUS has cut staff and implemented efficiency measures. This is temporarily hurting the bottom line even more. From its recent quarter, management indicated these restructuring costs might linger into 2024 (longer than many expected).

Dividend is not backed by cash flow, so be cautious

Thirdly, TELUS has been forecasting a geyser of excess cash as it pulls back both capital and operational spending. It believes this should support strong dividend growth ahead.

Yet, today its dividend payout ratio remains over 100%. That means that its dividend is not sustained by earnings or cash flow. Nonetheless, TELUS still increased its quarterly dividend by 7% this quarter.

Investors will need to hope and pray that management can pare back expenses quickly. If not, the balance sheet will start to look stretched, and its dividend could become unsustainable.

Lastly, TELUS is facing stiffer competition and regulatory challenges that could impact margins and investment returns. Certainly, some of these issues are already priced into the stock, but investors do need to be aware that its dividend may not be quite as safe as first imagined.

The Foolish takeaway on TELUS

TELUS may have an attractive dividend right now. However, its business faces significant challenges. Management keeps promising a massive surge in free cash flow, but that keeps getting deferred.

If you like the stock, you really must trust management can do what they say. If you are not confident in that and are overwhelmed by the many headwinds, it is probably best to sit on the sidelines for now.

The post Should You Buy TELUS for Its 6%+ Yield? appeared first on The Motley Fool Canada.

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Fool contributor Robin Brown has positions in Telus International. The Motley Fool recommends TELUS and Telus International. The Motley Fool has a disclosure policy.

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