Weighing the price of separation

A reader suggested a key test to structural separation to compare shareholder return for BT with that of Telstra, providing a presumptive analysis of whether separation was a Good Thing or a Bad Thing. This was a great idea that I had to try.
Written by David Braue, Contributor on

Several weeks ago, I highlighted that structural separation did not "limit future innovation" for BT, despite Telstra's best efforts to persuade us otherwise.

One reader suggested a key test would be to compare shareholder return for BT with that of Telstra, providing a presumptive analysis of whether separation was a Good Thing or a Bad Thing.

This was a great idea, especially since it was already on my radar for upcoming columns. So, here goes.

Finding information about BT's performance over time is dead easy: the company runs a comprehensive Investor Centre where just about any number you care to find, can be found.

Of particular interest is the record of BT's payments of shareholder dividends, which is a bottom-line metric that, I think we can all agree, gauges how well the company has done over time.

As it turns out, this week BT shareholders are receiving a 10.4 pence dividend per share, based on a record date of 22 August and following on from an interim dividend of 5.4p, which was made back in February and based on a record date of 28 December. That's a final return of 15.8p per share for the full year.

This is the highest dividend paid since 1999/2000, when the internet was young and a glut of telecoms investment led to a dividend of 21.9p per share. Dividends evaporated during 2001, with the dotcom implosion and September 11 attacks rocking economic foundations and pushing BT's dividends down to just 2p in 2001/2002. BT slowly recovered — to 6.5p in 2002/2003, 8.5p in 2003/2004, and 10.4p in 2004/2005.

Then in 2005, disaster struck — or so opponents of separation would have us believe — when the company was separated by the government. Yet the company's shareholders wouldn't have noticed: dividends rose to 11.9p in 2005/2006, 15.1p in 2006/2007, and the current levels of 15.8p for the year that just finished.

I'm not a shareholder of BT, but if I were, I wouldn't exactly be complaining about what seems to be a steady pattern of growth that is delivering the highest returns in nearly 10 years — in an environment that has become the global gold standard for separation.

Now, I know directors have been known to play tricks with dividends to convince investors the company is doing better than it really is. Were BT's directors playing tricks, perhaps — increasing dividends as a smokescreen to disguise the havoc separation had played with their profits? I'm thinking not so much.

Here's what BT's business generated, before and after separation:

Earnings per share
Dividend per share
Broadband users
2007/8 £20.704b 2% £2.506b Flat 23.9p 15.8p 12.7m
2006/7 £20.223b 4% £2.495b 15% 22.7p 15.1p 10.7m
2005/6 £19.51b 6% £2.177b 5% 19.5p 11.9p 7.9m
2004/5 (separation) £18.623b 1% £2.085b 4% 18.1p 10.4p 5m
2003/4 £18.519b 1% £1.417b 53% 16.4p 8.5p N/A
2002/3 £18.727b 2% £3.000b 12% 14.3p 6.5p 800,000
2001/2 (mmO2 demerger) £18.447b 8% £2.663b 12% 2p Nil N/A
2000/1 £17.141b (8%) £2.506b 22% (25.7p) 7.8p N/A
1999/2000 £18.715b N/A £2.055b N/A 31.7p 21.9p N/A

Now, I'm no financial analyst, but it seems to me that the biggest change to BT's operations came when — on the back of a suddenly flaccid global telecoms market and massive debt from enthusiastic overbidding on 3G spectrum — the company demerged several of its non-UK mobile interests, began trimming excess business operations, and rooting out inefficiencies in its operations.

Whether it did this because it had to, or because it wanted to, is another matter. Since separation and the shift to a more open structure, BT's profit growth hasn't been all that bad. Revenues are up, dividends are up. And, if you look at figures such as free cash flow, it does indeed seem that BT is investing heavily in its network — or, perhaps, in a share buyback program designed to prop up the price of its shares.

Those of you with stronger financial analysis credentials than I, are welcome to debate the figures below. However, I think it's safe to say that separation has hardly spoiled the party for BT shareholders.

Now, on to Telstra
Like BT and many other companies, Telstra also has a page dedicated to trumpeting its share price results. As of this week, the company's shares were sitting at around $4.25 each. This is around half the price the shares were fetching when they first issued back in 1999. If you go to the share price page and change the "from" date to 1999, you'll see that Telstra's shares moved steadily down from 1999 to 2003, and have hovered just north of $4 ever since — except for a year-long dip below $4 during 2006.

Now, on to the shareholder's perspective. Telstra's dividend history page tells us that the company has paid regular dividends to investors — so regular, in fact, that it has paid 14 cents per share for each half since the beginning of 2006. Dividends for the second half of 2008 were paid this week, putting an initial 14 cents per share in the pocket of each investor.

Compare yearly dividends and you see little change: in 2000, investors reaped 18 cents per share. In 2001, it was 19 cents. In 2004, it was 16 cents. In 2005, it was 20 cents. In 2006, 2007 and 2008, it was 28 cents — which it should be, given that Telstra is taking more money out of Australia's businesses and consumers than ever before.

Telstra has an earnings-to-dividends ratio of around two-and-a-bit to one: in 2006 it was 2.2; 2005, 2.1; 2004, 3.1; 2003, 2.6; and 2002, 3.35. BT's ratio, by comparison, was 1.5, 1.6, 1.7, 1.9, and 2.2 for the same years, respectively.

In other words, BT is returning more of its earnings to shareholders than Telstra.

A full analysis would of course involve analysing the percentage returns to investors, and anybody whose head isn't already spinning is welcome to do so. But if we go back to the question of whether separation has damaged BT's attractiveness as an investment for shareholders, my feeling is that it has not.

What's yours?

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