Frontier Communications Corp. and Telecom Stocks - Are The High Dividend Yields Worth the Risk?

Frontier Communications Corp. (FTR), the largest provider of voice, internet and television services in rural America is the highest yielding stock among the S&P companies. As of June 30, it had a dividend yield of 9.35%, compared with the average 2.22% yield of the S&P companies. CenturyLink Inc (CTL) and Windstream Corp (WIN), two other large telecom carriers, also have dividend yields over 7%. AT&T Inc (T) and Verizon Communications Inc (VZ), the two largest telecom carriers in the country, have dividends which, while slightly lower, are strong enough to make them the two highest paying dividend stocks among the Dow 30.

High returns come with high risks, as seen in case of FTR. The company has a long term credit rating of Ba1 by Moody’s and BB by S&P, which makes its bond issues “junk”. It has $8.2 billion worth of debt on its books and debt to equity ratio of 1.6. Its basic EPS has fallen to $0.05 for the first quarter of 2011, as opposed to $0.14 during Q1 2010. The payout ratio on its latest dividend, which is the dividend divided by its earnings, was 346%. Despite reducing the quarterly dividend last year from 25 cents to 19 cents, it has had problems in maintaining such a high dividend rate and payout ratio. During 2010, it paid out $520 million in dividends, resulting in negative cash flows to the firm.

But despite the risks involved, FTR might not be a bad investment. Although its bonds are non-investment grade, it has among the higher ratings in speculative grade with a stable outlook by Moody’s, Fitch and S&P. In its huge debt, the first sizeable amount of $1.3 billion does not mature before 2014, which gives the company time to increase revenues. Also, negative cash flows was a result of about $580 million worth of capital expenditures and another $200 million spent in other investing activities. Recently, Frontier announced an extended strategic partnership with Yahoo! to deliver better online services to FTR’s broadband subscribers in 27 states. I believe this gives FTR the opportunity to leverage on Yahoo!’s industry leading technology and email services to increase its subscriber base and revenues.

FTR does have its risk but it is a high yielding investment with a fairly stable dividend. Diversifying among other high yielding stocks in the telecommunication industry might reduce some idiosyncratic risk involved in FTR. Windstream Corp, for example, has a dividend yield of about 7.6% and has paid out quarterly dividends of $0.25 since Q2 2007. CenturyLink Inc., which trades at about $40, has had a slowly growing dividend off late and yields over 7%.

Such high returns surely demand a deeper analysis of these issues too before an investment can be made. But for investors who are willing to bear some risk to get a fairly high dividend yield with prospects of capital gains in an environment with near zero rates and a sluggish economy, telecommunication stocks might prove to be a good bet.

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