2023-12-21 14:28:54 ET
Summary
- T-Mobile stock achieved an all-time high in December but has underperformed the S&P 500 over the past year.
- T-Mobile's 5G leadership has helped the company gain market share and fend off competition from cable companies.
- Analysts expect T-Mobile's free cash flow growth to slow in 2025, raising questions about its future growth potential.
- I argue why dip buyers likely took profits this month, as TMUS could underperform the market at the current levels.
- While T-Mobile remains my favorite telco play, it isn't a buy at any price. Investors looking to add exposure must be patient now.
The leading US 5G leader, T-Mobile US, Inc. ( TMUS ), saw its stock achieve an all-time high in December, as investors priced in a more dovish Fed, after the FOMC signaled three rate cuts in 2024. However, TMUS's relative underperformance against the S&P 500 ( SP500 ) over the past year suggested that investors have likely reallocated to other stocks. Accordingly, TMUS notched a 1Y total return of 10.6%, significantly underperforming SPX's 25% upside over the same period. However, TMUS's relative performance is still much better than AT&T ( T ) and Verizon ( VZ ), as these two stocks returned -9% and 1% over the same period.
I last updated TMUS investors in October, as I gleaned an attractive buying opportunity. My thesis has panned out, as TMUS gained more than 8.6% on a total return basis, pretty much in line with the S&P's upside over the same period. As a result, most of TMUS's gains over the past year were achieved over the past two months, emphasizing why paying attention to risk/reward when assessing buying opportunities is critical.
T-Mobile's 5G leadership isn't new to astute investors. It has continued to help the company gain market share in the wireless realm against its telco arch-rivals. In addition, it has also helped fend off more intense competition from broadband leaders like Comcast ( CMCSA ). T-Mobile remains confident in its competitive advantage in its wireless leadership.
However, the company isn't taking the challenges from the cable companies for granted. Management updated in an early December conference, highlighting that the " impact [from the cable companies] is already factored into T-Mobile's business model." In addition, management cautioned that the cable leaders might "resort to promotions to counteract churn as they expand their customer base." As a result, T-Mobile investors must continue to monitor the gains from Comcast and its peers.
Given the sharp interest rate hikes over the past year, I assessed that T-Mobile and its leading telco peers have moved past intense competition to gain subscriber growth. Therefore, the Telco leaders have reported more robust free cash flow projections, corroborating my belief that the competition has normalized.
The company reported a solid third-quarter or FQ3 earnings release in late October, lifting its guidance. It also delivered a post-paid churn metric of just 0.87%, considered by management as a "significant accomplishment." Moving forward, T-Mobile's strategy continues to be on sustainable growth in 5G, focusing on achieving "the lowest churn and the lowest upgrade rates simultaneously." Given its relatively favorable CapEx spending leading to solid free cash flow or FCF margins, I believe investor sentiment on TMUS should remain robust.
Analysts' estimates suggest T-Mobile could see a solid improvement in its FCF margin to more than 20% in FY24 from this year's estimated 17.2%. However, the FCF growth is expected to slow significantly in 2025 to 5.5% YoY, although its FCF margin is expected to remain robust at 20.5%. As a result, it does call into question whether T-Mobile might undergo a growth normalization phase over the next two years and whether it has been reflected in its valuation and price action.
TMUS gets top marks from Seeking Alpha's Quant for growth ("A" grade) and profitability ("A+" grade). As a result, the market likely assessed TMUS as a growth stock within its peer group, suggesting investors must be wary about its potential FCF growth slowdown through 2025. In other words, the near-term upside in TMUS could have been reflected, necessitating portfolio reallocation to continue achieving potential market outperformance. Moreover, TMUS's forward EBITDA multiple of 16.8x is well above its peers' median of 7.9x (according to S&P Cap IQ data), suggesting caution is warranted.
TMUS's price action also suggests caution, as further buying momentum was rejected at the $160 level, as dip buyers likely took profits. As a result, I view a welcomed pullback as increasingly likely to provide investors with a more attractive entry level to add more exposure.
Therefore, I urge holders to stay calm and allow the volatility to take its course while assessing other more constructive support zones to buy into TMUS. Investors should consider assessing subsequent entry zones between the $135 to $140 level.
Rating: Downgraded to Hold.
Important note: Investors are reminded to do their due diligence and not rely on the information provided as financial advice. Please always apply independent thinking and note that the rating is not intended to time a specific entry/exit at the point of writing unless otherwise specified.
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T-Mobile: Top Telco Leader Is Primed For A Reality Check (Rating Downgrade)