Here is why I’m buying shares in Telstra Corporation Ltd

Credit: Telstra

Australia’s largest telecommunications carrier Telstra Corporation Ltd (ASX: TLS) lifted the S&P/ASX 200 Index (ASX: XJO) higher on Thursday, after investors bought the stock following its investor day briefing in Melbourne.

In the four months from July to November, Telstra’s shares had slumped almost 20%; but with Thursday’s 2.5% rally off 52 week lows, I believe investors should reconsider buying shares in Australia’s sixth largest company. Here’s why.

Investor update

Thursday’s investor briefing didn’t provide shareholders with much new information, apart from the fact that CEO Andrew Penn’s strategy to reinvest in its core network is taking shape.

Penn announced that in the five years to 2021, Telstra expects to incur $3 billion dollars of capital expenditure associated with building “future proof” networks ($1.5 billion), accelerating digitisation of the business ($1 billion) and improving the customer experience ($500 million).

In return, Telstra expects to generate approximately $500 million per annum in earnings (EBITDA) benefits via incremental revenue (approximately $330 million per annum) and sustainable cost cuts (approximately $170 million per annum) by 2021.

If it can deliver on these promises, the slated capital outlay would yield an internal rate of return of 16.7%, well above its current single digit full-year earnings growth rate.

This is possibly why investors drove its share price higher on Thursday.

Growth prospects

Of course, $500 million in incremental EBIDTA by 2021 is a mere drop in the ocean for a company worth $57 billion-odd, which currently generates $11 billion in underlying annual earnings. However, investors are seemingly also excited by the prospect of further capital management by the Board.

As part of its investor update, Telstra announced that in the coming 6-12 months, the Board will review its capital allocation strategy in light of its NBN rollout proceeds from the government.

Reading in between the lines, it is likely the Board will undertake further share buy-backs and either increase its dividend or conduct a special dividend when the time is right. M&A activity is also on the cards.

Whatever it chooses though, I expect its capital allocation review to be shareholder friendly for all.

The dividend floor

Although the outcomes of its future strategy will take time to play out, Telstra compensates investors in the meantime with its market-leading yield. Telstra currently pays a juicy fully-franked dividend of 31 cents per annum, leaving it trading on a 6.4% yield -as at Thursday’s close of $4.84.

Importantly, it’s relatively high yield means Telstra is able to hold its own in the battle for income investors’ funds (like the SMSF army) against dividend heavyweights Commonwealth Bank of Australia (ASX: CBA) and National Australia Bank Ltd (ASX: NAB).

As such, I believe Telstra’s share price should have limited downside given its large retail (yield-deprived) shareholder base is likely to bid the stock up if it falls much further.

Foolish takeaway

Although Telstra reported a lacklustre set of 2016 full-year results, I find it hard to look past Australia’s premier telecommunications carrier as a long-term buy.

Whilst I don’t expect blockbuster capital growth from current prices, Thursday’s investor presentation by management reveals new CEO Andrew Penn is committed to creating a sustainable future which should derive value for shareholders.

Therefore, income-seeking investors should take note.

If you are interested in other quality dividend shares, then I would recommend this top dividend share as well. A strong yield and potential share price gains make this a great investment idea in my opinion.

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Motley Fool contributor Rachit Dudhwala owns shares of National Australia Bank Limited and Telstra Limited. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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