BT Group (LSE: BT-A) has been a tough investment to love in recent years. BT’s share price has slid from a high of nearly 500p in 2015 to just 110p, at the time of writing.
Things haven’t been this bad for the firm since 2009. But with a new management team and an improved strategy, I think the shares could be cheap. Investors at Hargreaves Lansdown seem to think so too. BT was one of the most heavily-bought stocks on the DIY investment platform last week.
I’ve been taking a fresh look at this telecoms giant. Is it time to get on board?
Big spending, slow growth
BT’s problem isn’t that it doesn’t make any money. It does. Last year, the group reported an operating profit margin of almost 14%, with free cash flow of just over £2bn.
What worries investors are two different problems. The first is that BT has been shrinking for several years. The group’s sales have fallen each year since 2017. It’s very hard for a company to grow if its revenue is falling.
The second problem faced by BT is that it spends a lot. Maintaining and upgrading the UK’s largest mobile and fixed line networks to provide 5G and fast broadband isn’t cheap. Capital expenditure is expected to be over £4bn this year.
Falling sales and high levels of spending have lifted the group’s net debt to more than £18bn. I think this should be manageable, but I wouldn’t want to see this number climb much higher.
However, if CEO Philip Jansen can return the business to growth, I think the shares could perform well from current levels.
3 reasons why BT shares look cheap
BT’s growth prospects may be uncertain, but its shares do look cheap to me. I’ve chosen three popular measure of valuation to show why I think the stock’s valuation may now have hit the bottom.
First up, BT shares currently trade on just five times next year’s forecast earnings. That certainly seems cheap.
However, one concern with using price/earnings to value a share is that it doesn’t include a company’s debts. One alternative measure I often use that solves this problem is the ratio of enterprise value (market-cap plus net debt) to operating profit. My sums suggest BT’s forecast EV/operating profit ratio is around 10. That’s also an attractive valuation, in my view.
Of course, we can’t ignore the elephant in the room. BT shares have always been bought by income investors, but the group’s dividend is currently suspended. Jansen has chosen to preserve cash this year to support his spending plans while limiting extra borrowing.
Happily, BT is expected to pay a dividend next year. The firm’s guidance is for a payout of 7.7p per share. That would give a dividend yield of nearly 7% at current levels. Such a high yield also suggests to me this stock could be cheap.
BT shares: buy, hold, or sell?
Jansen faces a tough challenge returning BT to sustainable growth. But I’m impressed with his plans and commitment so far and think he could do well.
At current levels, I believe BT shares are genuinely cheap and should deliver positive returns for shareholders. Patience may be needed, but at 110p, I rate BT as a buy.
