The ASX telco share sector could be a source of defensive returns because of the essential nature of the internet for households and businesses. ASX investors have two main choices to choose from – Telstra Group Ltd (ASX: TLS) shares and TPG Telecom Ltd (ASX: TPG) shares.
I'm going to compare a couple of the main statistics for each of these businesses, and then talk about the main reason why I'd pick one over the other.
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Valuation
The price/earnings (P/E) ratio is not exactly a perfect measure of which business is better.
A company's profit can be massaged to make it look better, for example by spreading out research, development and asset depreciation costs over multiple years.
Alternatively, investing for growth, which is good for the long term, can hurt profit in the short term.
But, comparing profit valuations is probably as good as any metric to look at.
FY23 may be a period of adjustment for a number of businesses and sectors with the changes in the economy and interest rates. So, we'll look at the projections on Commsec for FY24 and FY25.
The TPG share price is valued at 32 times FY24's estimated earnings and 24 times FY25's estimated earnings.
Looking at the Telstra share price, it's valued at 24 times FY24's estimated earnings and 21 times FY25's estimated earnings.
Purely on a P/E ratio comparison, Telstra shares look better valued.
Dividend yield
Dividends can be a key way for investors to generate cash returns if they don't want to sell their shares and lock in capital gains.
Looking at the Telstra grossed-up dividend yield projections, it could be 5.9% in FY24 and 6.25% in FY25.
In FY24, TPG could pay a grossed-up dividend yield of 5.1% and 5.4% in FY25.
Both of the ASX telco shares are projected to grow their payouts over the next two years, but Telstra is seemingly going to pay a stronger yield in both years.
While the dividend isn't everything, it could mean that Telstra shares are more rewarding in terms of cash hitting the bank account over the next two years.
Which ASX telco share is better?
The Australian Financial Review recently reported on the latest commentary from the broker Morgan Stanley on the two businesses.
The broker currently has a buy rating on Telstra, with a price target of $4.75. That implies a potential rise of around 10%. A price target is where the broker thinks the share price will be in 12 months.
It said there is "a shift in wallet share from large telcos to software vendors is a potentially small headwind for Telstra but not strong enough to change its profit forecasts or share price valuation."
However, for TPG, the Morgan Stanley price target is $5.60, which is only slightly higher than where it is today. It suggested there could be "margin pressure and fixed-line enterprise headwinds for TPG as a result of new cloud technologies."
For me, the biggest thing that Telstra has going for it is the sizeable advantage it has with its network in both metropolitan and regional areas. It's a key selling point for potential customers. TPG seemed to think Telstra had such a strong network that it wanted to utilise Telstra's regional spectrum – while that agreement is currently blocked on competition fears, it's likely a sign of how a rival views Telstra's power.
Being the number one telco player in the market enables Telstra to increase prices (and profitability), which could bode well for future shareholder returns.
