How much passive income would I get each year with £17,000 of BT shares?

BT (LSE:BT.A) shares are down around 8% since June 25, when they hit a high of £1.45.

As stock yields have risen while stock prices have fallen, dividend payouts have risen to 6%. This is comparable to the current average FTSE100 efficiency 3.6% and FTSE2503.3%.

In my opinion, the decline in stock prices also contributes to the extreme undervaluation of stocks that existed before. This means to me that any dividend gains are less likely to be wiped out by a prolonged decline in stock prices.

How undervalued are stocks?

The telecom giant’s shares are currently valued at a key price-to-earnings (P/E) ratio of just 15.8.

This looks cheap compared to the current average P/E of its competitors of 19.7. The group consists of Orange at 13.5, Vodafone at 18.7, Telenor at 19.7 and German Telecom at the age of 27.

The same can be said for the other main stock valuation metric I look at, the price-to-book (P/B) ratio. In this case, BT trades at just 1.1, while its peer group averages 1.5.

How much of a bargain is this? To find out, I used discounted cash flow analysis, using data from several other analysts as well as my own.

This means that BT shares are undervalued by a massive 75% at their current price of £1.33. Therefore, a fair value for the shares would be £5.32.

They could go lower or higher, of course. But it underscores to me how undervalued the stock seems.

Do growth forecasts support this view?

Stock prices and dividend payments are dependent on long-term earnings, which poses risks for every company.

A key factor for BT is the high degree of competition in the sector. Given the complexity of the telecommunications infrastructure involved in the company’s operations, any basic technical failure also poses a risk.

Still, analysts are forecasting earnings to grow by 11.9% annually through the end of 2026. Earnings per share are expected to grow by 11.6% annually through that point. And return on equity is expected to be 11.9% through that time.

BT remains on track to meet its free cash flow targets over the next five years, according to its Q2 2024 trading update. It expects around £2 billion by 2027 and around £3 billion by 2030, which would be a strong driver of further growth.

Strong Passive Income Flows

Last year BT paid a dividend of 8p per share, giving a current yield of 6%.

So £17,000 (the average amount in a UK savings account) invested in shares would yield an extra £13,930 after 10 years. This happens if the dividends paid are used to buy more BT shares – known as ‘dividend capitalisation’.

After 30 years, an additional £85,384 would be available.

BT’s total investment would then be £102,384, meaning an annual dividend income of £6,143!

I think BT shares are likely to rise dramatically in price in the coming years, driven by strong growth. In my opinion, this will also result in significantly higher dividend payouts over time.

Therefore, I will buy shares in the next few trading days.