T-Mobile(NASDAQ: TMUS) stock has consistently butted heads with a $150 share price, but that could change soon.
There's a good reason T-Mobile shares are stuck below $150. As part of its merger agreement with Sprint, Softbank(OTC: SFTB.Y)(OTC: SFTBF) forfeited 48.8 million shares of T-Mobile stock it was entitled to. Softbank will receive those 48.8 million shares back from T-Mobile if the stock price stays above $150 for 45 days (on a volume-weighted average price basis) before Dec. 31, 2025.
It's no surprise, then, that a lot of people are selling shares when they climb above $150. The stock will become diluted (read, less valuable) if T-Mobile has to issue an additional 48.8 million shares to Softbank.
But T-Mobile could break through that barrier as soon as this year.
Overwhelming any dilution
T-Mobile CEO Mike Sievert says management's always expected it would have to true up with Softbank.
With expectations for $16 billion to $18 billion in free cash flow in 2024, T-Mobile's currently valued at just a 10x multiple. While that might be higher than its competition, there are a few reasons it deserves a higher multiple. Namely, it's growing faster and taking market share and it's not as debt-laden as its competition.
Management sees shares as undervalued, expecting the price to climb above $150 eventually. In the meantime, it's buying back shares hand over fist. It recently announced a new share buyback program for about $15.25 billion over the next five quarters on top of its initial $14 billion buyback announced in September of 2022.
Sievert discussed the potential for dilution from the Softbank agreement at a recent investor conference. "It's of course overwhelmed by our purchases in the markets," he said. "In fact, we've purchased more in the last ... few months than the whole potential dilution event in the first place."
Indeed, through the first seven months of 2023, T-Mobile purchased more than 62 million shares of its own stock on the open market. The authorization through the end of next year allows management to buy an additional 124 million shares at $140 per share, the price it's been targeting this year.
While the potential dilution would sting, it won't sting nearly as much when T-Mobile expects the total number of shares outstanding will return to where it was in just a few months.
That said, T-Mobile's latest capital return program includes a dividend. That may be a concession from the board that the $150 price may continue to be a point of resistance for the shares, and it'll pay investors to hold the stock at this price. Still, the vast majority of the capital return program is dedicated to buybacks, which indicates the board's feelings that $150 will be broken sooner rather than later.
Breaking through the barrier this year
It wouldn't be a big surprise to see T-Mobile's stock break through $150 this year and stay above that level.
There are currently 1.18 billion T-Mobile shares outstanding, which means that 48.8 million additional shares would dilute the stock by just a bit more than 4%. And that means investors need to value existing shares at $156 to be willing to buy shares at $150 today. That doesn't seem unreasonable.
T-Mobile has consistently produced strong operating results. It leads the industry in net subscriber additions, and it doesn't rely as heavily on promotions to get those sign-ups. That's allowed it to keep its pricing flat while its competitors raise prices, which should only accelerate its share-taking.
As it wraps up its merger-related expenses this year, it's starting to see the benefit in its free cash flow. It accelerated its 5G buildout over the past couple of years, and now it's starting to see the benefits in cash flow from that as well as it takes its foot off the gas pedal.
It's benefiting T-Mobile's bottom line as well. Management raised its guidance for core adjusted EBITDA to $28.9 billion to $29.2 billion alongside its second-quarter earnings report. EBITDA margin is expanding as well, up 3 percentage points through the first six months of the year.
A share price of $156 would imply a 2023 enterprise value-to-EBITDA ratio of 10.4. T-Mobile's existing authorization could lead it to retire another 50 million shares this year, completely offsetting the potential dilution from Softbank. That would lower the multiple to about 10.
With strong top-line growth and expanding EBITDA margins, investors should be willing to pay that multiple today. T-Mobile's management certainly seems to think so. It just issued $2 billion in debt in part to start buying back shares faster.
10 stocks we like better than T-Mobile
When our analyst team has a stock tip, it can pay to listen. After all, the newsletter they have run for over a decade, Motley Fool Stock Advisor, has tripled the market.*
They just revealed what they believe are the ten best stocks for investors to buy right now... and T-Mobile US wasn't one of them! That's right -- they think these 10 stocks are even better buys.
*Stock Advisor returns as of September 11, 2023
Adam Levy has no position in any of the stocks mentioned. The Motley Fool recommends T-Mobile US. The Motley Fool has a disclosure policy.
