After falling to a low of $5.27 in early October, shares in Telstra Corporation Ltd (ASX: TLS) have rallied 5% higher in just the past month alone, to close yesterday at $5.66.
There has been no significant news released by the company, which could explain its rapid rise. However, at an investor presentation in late October, the telecommunications giant maintained its outlook for 2015. Although it, unsurprisingly, hinted mobile growth was continuing to moderate.
Indeed, EBITDA and revenue growth is forecast to be in the low-single digits, with free cash flow in the range of $4.6 billion to $5.1 billion.
For a $69 billion company, such a growth outlook could be considered impressive, and justify its recent price rise. Especially when the said company is offering a 7.5% grossed-up dividend yield, at a time when interest rates are just 2.5%.
But when the stock is fully – if not over – valued, it's a pause for concern.
If you bought a private business, which was expected to grow at much less than 10% in the next year, would you pay 5.1 times its net asset value (that is, assets minus liabilities)? What about 17 times last year's profits?
I know I certainly wouldn't. And don't intend to.
Warren Buffett, an investing legend, was recently quoted on CNBC as saying: "If you own your stocks as an investment – just like you'd own an apartment, house or farm – look at them as a business… If you're going to try to buy and sell them based on news or something your neighbour tells you, you're not going to do well."
If you're investing in the stock market, it's vital to remind yourself regularly that you're not just buying and selling three letters on a screen, there's a business attached to it. Find out what it's doing and determine if the price is fair.
As Charlie Munger – Warren Buffett's Co-Chairman at Berkshire Hathaway – says: "No matter how wonderful [a business] is, it's not worth an infinite price."
Telstra has a lot of favourable characteristics in today's market. Its overseas venture provides an element of exciting growth, its Network Application Services (NAS) division is kicking goals and its dominant Australian operations afford it enviable free cash flows and a durable competitive advantage. In my mind, it is, by definition, an excellent business.
However, it's not worth buying at $5.66 per share. In fact, I believe a bargain hunter (who doesn't like a bargain?) would set their entry price lower than $3.70 per share.
Think I'm a little too pessimistic? Maybe. But it's important to note it traded below this price in 2005, 2006 and from 2009 to 2012. Since 2009 earnings per share have only climbed 1.5%, so not much has changed.
Buy, Hold, or Sell?
It's clear, I don't think Telstra is a worthwhile investment today. However it's not a "Sell" either.
Provided your average purchase price is significantly lower than today's market price, you can rest assured knowing your money is safe in one of Australia's most reliable dividend payers and wait for those bi-annual profit distributions to keep rolling in.
