I’ve been looking at FTSE 100 companies carrying big debts. That has, perhaps inevitably, brought me to BT Group (LSE: BT-A). Seeing the BT share price down 23% since a 2021 high in June only adds intrigue. It means BT is down 10% over two years. And it’s making me wonder whether I should buy.
I like the idea of investing in the future of telecommunications technology and content delivery. But I have a general rule of avoiding companies carrying big debts. Still, the costs of telecoms development inevitably leads to significant borrowing needs. And debt funding can actually provide benefits. If a company generates better returns using borrowed money than it costs to service it, that can gear up profits for shareholders.
What about valuation? On a headline price-to-earnings (P/E) ratio basis, the BT share price looks cheap. Even after the slide in earnings of the past few years, earnings per share for March 2021 indicates a trailing P/E of 8.4. I’m actually not too worried about that earnings weakness, as BT is very much in an investment phase. I’m expecting next generation broadband, together with the content delivery it will facilitate, to start delivering profits over the next few years.
That P/E valuation is low compared to the FTSE 100, which has a long-term average around the 14-15 mark. And it seems especially low for a technology company with hopefully some significant growth in the coming decades. By comparison, Vodafone stock is on a trailing multiple of 16, almost twice as high.
Real BT share price valuation
But headline P/E numbers are based on the company’s stated market capitalisation, and they don’t take account of debt. So let’s see where that leads. BT released a first-quarter update in July, revealing net debt of £18.6bn. If we add a company’s net debt to its market cap, we get a figure known as the enterprise value. It’s how much an investor would have to pay to buy the company, pay off creditors, and wholly own the business itself.
On that basis, BT’s enterprise value P/E jumps to around 18. BT’s net debt is slightly more than the total market cap of the company. Gulp. Perhaps the BT share price is not a screaming bargain.
Oh, that ignores BT’s pension fund deficit. While maybe not a traditional debt, it’s still an effective liability that’s costing the company money to service. At 30 June, it stood at £8bn. To buy the company, pay off its debt, and settle the deficit, an investor would have to stump up for an effective P/E of 23.
Dividend policy
Still, at least BT has abandoned its bad practice of paying big dividends from cash it doesn’t have. By offering huge yields as recently as 2019, the company was effectively borrowing money to give to shareholders. And there’s no way I can twist that to make any sense at all. Wait a minute, at the end of the last full year BT promised to resume its dividend at 7.7p per share in the current year. Oh dear.
What pains me is that I really can see the BT share price rising in the next 12 months. And I do think I see a buying opportunity now. I just can’t buy into BT’s debt and dividend policy.
