BT’s (LSE: BT.A) share price looks cheap on the surface. But is it? My starting point for assessing it is comparing it to its competitors on key valuation measures I trust.
On the price-to-sales ratio, BT trades at just 0.7 compared to a peer average of 1.2. So it looks very undervalued on this basis. The same is true on the price-to-book ratio, on which it trades at 1.1 against a 1.5 competitor average.
However, on the price-to-earnings ratio it is presently at 18.2 versus the average 16.4 of its peers.
To gain more clarity on the potential undervaluation I ran a discounted cash flow analysis. This shows BT’s shares are technically 61% undervalued at their present price of £1.42. Therefore, a fair value for them would be £3.64.
Market unpredictability may push them lower or higher than this, of course. However, it underlines to me just how much value potentially remains in the stock.
The bonus of a good yield as well
BT shares currently yield 5.6%, which compares very favourably to the FTSE 100’s present 3.6% average.
Investors considering a £10,000 holding in the firm – the same as mine – would make £7,484 in dividends on this basis after 10 years. After 30 years this would rise to £43,446.
These returns depend on two provisos. First, the dividends are reinvested back into the stock (known as ‘dividend compounding’). And second, the annual yield over the periods averages 5.6% — it may be lower or higher.
That said, BT’s interim dividend for 2024/25 increased 3.9% from 2.31p in the previous year to 2.4p. If applied to this year’s entire dividend, the total would be 8.312p. This would yield 5.9% on the present share price.
Analysts project this average 5.9% level will remain in place in 2025/26 and 2026/27.
In the long term, a company’s share price and dividend are driven by its earnings growth. A principal risk for BT in this context in my view is any fundamental problem in its infrastructure build-out. This could be costly to remedy and damage its reputation.
However, analysts forecast its earnings will increase by 16.5% each year to the end of 2027.
How does the core business look?
Fo its full fiscal year 2023/24 results, CEO Allison Kirkby said BT achieved its £3bn cost and service transformation programme a year early. She added that it had reached the inflection point in its long-term strategy.
Shortly afterwards, I bought the shares for the first time. And on a somewhat grander level, legendary investor Carlos Slim bought an initial 3.16% stake in the firm as well. My guess is that he sees the same exceptional value in the stock as I do.
BT’s H1 2024/25 results saw year-on-year revenue drop 3% to £10.1bn. However, earnings rose 1%, to £4.1bn. The difference came principally from ongoing cost-cutting. Anyhow, it highlights to me that BT can increase earnings even if revenue declines.
Revenue is the total income generated from sales, while earnings are what remains after operating costs are subtracted.
Will I buy more of the shares?
I am happy with my current weighting of BT shares.
However, without these I would buy the shares now based on their earnings growth potential. This should drive the share price and dividend higher over time, in my view.
The post At £1.42 now, BT’s share price looks cheap to me anywhere under £3.64 appeared first on The Motley Fool UK.
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Simon Watkins has positions in Bt Group Plc. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
