Lead Problems? Income Solutions: Verizon, Yield 7.9%

Co-authored by Treading Softly

There are some sectors in life that are covered and saturated by just a few companies. These companies create what are called oligarchies, where they actively compete against one another, and it is rare, if not impossible, for a new major company to come in and join the fight.

Part of this is because these companies are so established that the cost to enter the fray would be extremely high, and the chances of reward are very low. A businessperson, when looking at an opportunity and seeing the risks associated with a high capital output and a low potential for success, is more likely to move on to a better sector than to try and join in.

Very few objects within the United States are as ubiquitous as a cell phone. It seems like everybody has one, and everyone is paying a phone bill. We rely so heavily on our phone. You might think that would likely cause greater levels of competition, not just between phone makers but phone service providers as well. Yet the service providers in the United States are so ingrained and entrenched, and the cost is so high to join into the fray that we're not expected to see another new major cell phone company emerge.

As an income investor, I am looking for opportunities to buy great income from companies that are established, mature, and able to pay me great income because their revenue is boring. Everyone seems to prioritize paying their cell phone bill above filling up their gas tank.

Today I want to take a look at a great opportunity that has seen heavy selling pressure over fears that really don't need to exist.

Let's dive in!

Can You Hear Me Now?

We last covered Verizon Communications Inc. (NYSE:VZ) in July, following the panic caused by a Wall Street Journal article on legacy lead-sheathed cables. VZ is trading at prices it hasn't seen in a decade. VZ surprised many, but not us, by raising its dividend 1.9% to $0.665/quarter. Currently, VZ carries a juicy yield of 7.9%.

There are several realities about the telecom business:

When we invest, we have to know what to expect, and telecom isn't an industry that is going to see dramatic growth. If you are looking for the kind of investment that is going to see earnings shooting up 20%+ each year, look elsewhere. What telecom does have is a cash flow that is stable, recurring, and well-protected. In income investor terms, it is a sector that is a "cash cow" – perfect for paying out large dividends – and that is what VZ is doing. Source

For investors looking for a high current yield, and steady dividend growth, VZ is an excellent option. The market is presenting an opportunity today because it fears the unknown. Specifically, VZ is likely to be targeted by various litigation surrounding its lead-sheathed cables. The first class action against VZ on this issue can be seen here. Whether VZ will be found liable, and if they are, how high the damages might be is a complete unknown; and that is what the market is afraid of.

It reminds me of another industry that is also competitive, has high cash flow and very sticky customers, but faced enormous lawsuits: Tobacco. In the 1990s, tobacco lawsuits were all the rage. How did that impact the income from Altria (MO)? Source

The dividend was raised every single year, despite settling massive lawsuits. Tobacco faced a problem that telecoms don't have; the product's users were highly incentivized to stop using it – their doctors advised them to stop using it, warnings on the packages informed them of the risks, tobacco use was outlawed in many public locations, and a whole industry focused on helping people quit formed.

For telecoms, people aren't going to stop using their phones because of lead cables. The customers aren't going anywhere. The very people suing the company, the lawyers, the judges, and the expert witnesses will ALL be walking into the courtroom with a mobile phone in their pocket.

The bottom line is that nobody is collecting millions, let alone billions, next year. It will take many years, if not decades, for these cases to be argued in court; there will be appeals, deals, and delays. The big winners from this will be the lawyers.

Does it matter how large the bill is? Not really. Telecoms will do what the tobacco industry did – raise their prices to offset whatever the costs are. And there isn't a darn thing you are going to do about it but pay the bill, because your addiction to your phone is thousands of times more powerful than an addiction to tobacco.

Conclusion

By investing in VZ, we're able to get strong income from a company that's trading at lows not seen for decades. A 7.9% yield! Cell phone usage in the United States is only climbing. Data usage in the United States is climbing hand in hand with that usage. We are a heavily connected society, relying on our cell phones to access the Internet more so than laptops, tablets, or computers. The smartphone has brought about an era of connectivity that has not been previously seen by prior generations. Yet, all that connectivity comes at the cost of another bill. Thirty years ago, the home phone bill was a simple bill we paid to be able to call others and use it in the event of an emergency. Now the home phone has been replaced by a phone in your pocket, and the bill for that phone typically is much higher than the way you paid for your home phone service.

As an income investor, I'm thankful for every single person who pays their cell phone bill because I can collect great income over and over again by being a shareholder. Many telecom companies are well-established, mature firms that have the ability to output the capital to maintain their networks and upgrade them, as well as pay a strong dividend to their shareholders. That's the type of income that I like. When it comes to retirement, I want to be paid to do nothing. By being a shareholder, I don't have to do anything more than own shares to get paid.

That's the beauty of my Income Method. That's the beauty of income investing.

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