BT shares yield 5%. Are they worth buying?

BT shares sport an above-average dividend yield at the moment. Should investors buy them for income? Edward Sheldon provides his take.

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BT (LSE: BT.A) shares look interesting from an income investing perspective right now. At present, they offer a dividend yield of around 5%.

Is it worth buying a few shares in the FTSE 100 telecoms giant given the above-average yield here? Let’s discuss.

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Potential for share price gains and income?

Looking at BT shares today, I can see both positives and negatives.

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On the positive side, the stock has a low valuation at present. With analysts expecting the group to generate earnings per share of 18.4p for the year ending 31 March 2024, the forward-looking price-to-earnings (P/E) ratio is just 8.5.

That’s well below the UK market average. Currently, the median P/E ratio across the FTSE 100 index is about 13.9. So the stock certainly looks interesting from a value investing perspective. At the current valuation, there is scope for a re-rating higher at some point.

It’s worth noting that a number of brokers have price targets for BT that are well above the current share price. JP Morgan, for example, has a target of 275p. This is encouraging.

Another positive is that the company’s dividend looks sustainable in the near term. Currently, BT has a projected dividend coverage ratio (this is calculated by dividing earnings per share by dividends per share) of around 2.5 for 2023, which is very healthy.

So at first glance, the stock looks like it could potentially be capable of providing both capital gains and income in the medium term.

Negatives to consider

On the negative side however, BT has a massive pile of debt on its balance sheet today.

At the end of 2022, net debt stood at £19.2bn. This is not ideal, particularly now that interest rates are much higher than they were in the recent past.

Investing in companies that have a large amount of debt can backfire. That’s because the interest payments required to service the debt can put pressure on earnings and dividends.

The lack of growth here is another negative worth highlighting. Right now, BT it’s not generating any top-line growth at all. For the year ended 31 March, analysts expect revenue to decline year on year. Growth is a key driver of investment returns in the long run.

A third negative is the company’s profitability track record. It’s not great. Over the last five years, return on capital has only averaged 7.8%.

Return on capital is another key driver of investment returns in the long run. Companies that have high ratios are generally able to reinvest a lot of capital for future growth and compound their earnings.

The low return on capital here probably explains why the BT share price has gone backwards over the last 20 years.

Better stocks to buy

Putting this all together, my view is that there are better stocks to buy today.

There does appear to be potential for solid returns in the near term here.

However, for long-term investors like myself, I think there are better opportunities out there.

But here’s another bargain investment that looks absurdly dirt-cheap:

Like buying £1 for 31p

This seems ridiculous, but we almost never see shares looking this cheap. Yet this Share Advisor pick has a price/book ratio of 0.31. In plain English, this means that investors effectively get in on a business that holds £1 of assets for every 31p they invest!

Of course, this is the stock market where money is always at risk — these valuations can change and there are no guarantees. But some risks are a LOT more interesting than others, and at The Motley Fool we believe this company is amongst them.

What’s more, it currently boasts a stellar dividend yield of around 10%, and right now it’s possible for investors to jump aboard at near-historic lows. Want to get the name for yourself?

See the full investment case

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Edward Sheldon has no position in any of the shares mentioned. 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.

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