Why Telstra Corporation Ltd remains under selling pressure

The share price of Australia’s largest telecommunications company Telstra Corporation Ltd (ASX:TLS) is currently trading at $3.12 and is down 31% over the last 12 months. Telstra’s share price is hovering slightly above its 52 week low of $3.08 and is trading at levels not seen since November 2011, as the fallout from its dividend cut, National Broadband Network (NBN) earnings hole and possible tax changes weigh down the stock.

Dividend cut and NBN earnings hole

The bearish sentiment surrounding Telstra has increased since last August when the company announced that its future dividends would be cut by an amount greater than the market had anticipated. Prior to the announcement, the market had priced in a minor dividend cut from 31 cents per share. The decision to reduce Telstra’s dividends for FY18 to 22 cents per share has seen the company’s share price fall 28% since that announcement. Investors should also note that Telstra’s most recent dividend payment of 11 cents per share consists of a 7.5 cents ordinary dividend and a 3.5 cents special dividend.

The major catalyst for the dividend cut is the estimated $3 billion per annum in earnings that will evaporate from Telstra’s business from the rollout of the NBN. For the first half of FY18, the NBN had a net negative earnings impact of $370 million, with the cumulative absorbed amount being $870 million.

Tax policy change?

The Australian Labor Party’s (ALP) proposed policy to change Australia’s franking credits rules has added to the selling pressure on Telstra’s stock over the last couple of weeks. The proposed policy would stop eligible investors from receiving cash refunds on excess franking credits. Australia’s dividend imputation system has made fully franked high dividend paying stocks such as Telstra’s attractive to domestic investors, in particular those with self-managed superannuation funds in the tax-free pension phase.

With the ALP currently favoured to win the next Federal election, it appears the market is positioning itself in anticipation that the proposed policy would be enacted. As a consequence, the attractiveness of investing in Telstra would be reduced given the company’s difficulties in achieving capital growth over the long term. At today’s prices, Telstra is trading below the prices of all 3 tranches (T1 $3.30, T2 $7.40, T3 $3.60) of its privatization.

Foolish takeaway

Competition in Australia’s telecommunications market is also heating up and provides a further headwind for Telstra. TPG Telecom Ltd (ASX:TPM) is launching its own network with an aggressive strategy to capture market share. The direction Telstra’s share price takes over the next several years will be determined by how well it manages to fill its earnings hole from the NBN rollout and how effectively it can monetize its 5G network.

While Telstra’s dividend cut has been well publicised, there are other stocks on the Australian market for income orientated investors that are raising their dividends.

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Motley Fool contributor Tim Katavic has no financial interest in any company mentioned. The Motley Fool Australia owns shares of and has recommended Telstra Limited and TPG Telecom Limited. 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 Scott Phillips.

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