Tomorrow, October 23, I will add shares of Verizon (VZ) to my Dividend Income Portfolio. Verizon’s shares closed at $45.89 on October 22 with a 5.06% yield.
Verizon reported third quarter earnings on October 20. By and large the numbers were so-so.
Earnings of $1.04 a share beat Wall Street estimates of $1.02 a share by a not so whopping two cents a share. Total revenue in the wireless segment grew 5.4% year over year. The number of retail subscribers increased by 4.3%. However, retail total postpaid average revenue per account (ARPA) dropped 5.5%.
But for income investors there was one really important and exciting number. In the quarter total retail churn dropped to 1.21%, down from 1.29% in the third quarter of 2014.
Why is the churn rate so important? For Verizon and other wireless companies one of the biggest expenses is acquiring customers. Which means that any customer that doesn’t have to be replaced—who renews when the current contract expires—is extra valuable.
And you can see that drop in churn reflected in the big increase in cash flow. Cash flow from operations rose to $28.4 billion for the first nine months of 2015 versus $23.2 billion in the first three quarters of 2014. Free cash flow for that nine-month period was $15.9 billion against $10.5 billion in the first nine months of 2014. (The falling churn rate isn’t solely responsible for that increase but at a time when competitors are going aggressively after Verizon’s customers, a falling churn rate in an extremely important sign.)
That’s a lot of that cash stuff that income investors want to see. Remember that paying a 5.06% dividend takes a lot of cash and remember that in the current global economy slow growth in individual markets and volatile currencies can take a sudden bite out of the cash available to sustainably pay that hefty dividend.
Verizon’s falling churn rate and its huge free cash flow are big “sustainability insurance” policies.
The company paid out $6.4 billion in dividends in the first nine months of 2015. That was easily exceeded by the $15.9 billion in free cash flow and the $28.4 billion in cash flow from operations in that period. Verizon spends a good chunk of cash each year on building out infrastructure and new products. Currently the company is spending big on its efforts to become a mobile purveyor of original content. And Verizon’s dividend history doesn’t show a record of generous increases in the quarterly payout. But at least with the company’s lines on cash flow, you can feel that the dividend is very safe.
That’s not a minor point for dividend investors looking to diversify a dividend portfolio heavy on energy holdings as my dividend income portfolio currently is. Energy plays offer very high yields right now but I don’t think we can say that those dividends are secured by a river of cash flow. At a time when finding sustainable cash flow in the energy sector is subject to uncertainty, I like the security of Verizon’s falling churn and rising cash flow.