Vodafone on a yield of 8.9%

Sunday, Jan 20 2019 by

An investment in Vodafone is currently very much a binary bet between whether you believe that they are going to have to cut the dividend or not. Guy Peddy of Macquarie Securities, forecasts that Vodafone (LON:VOD) will cut the dividend to €0.08 (or ¢8) and the share price will fall 19% to 125p. At this level Vodafone (LON:VOD) would still be yielding an attractive 5.65%. However, the concern over the maintenance of its dividend has driven the share price down to 149p where it is yielding an extraordinary 8.9%.

I’ve had a look at the cash flow figures and whilst there isn’t much headroom currently there isn’t anything that would cause sufficient stress to force managements’ hand. Nick Read as the new CEO (1 Oct 2018) has already taken the opportunity to change the dividend policy from ‘progressive dividend growth’ to maintain at the current level. But with the need to finance the takeover of Liberty Global’s continental Europe cable businesses (€18.4bn) he had the perfect opportunity and justification to make a cut. Now that this is the decision he’s made, I doubt very much that he will want to reverse it.

Vodafone’s current cost efficiency programme is starting to generate significant savings, as a result of their £19bn infrastructure investment (Project Spring). This is targeted at saving €1.2bn in annual operating costs (including a €400m reduction in the current year) and there is another €0.5bn annual operating cost synergy benefits from integrating the Liberty Global businesses. So, there is a trajectory that puts Vodafone in a very comfortable cash flow position without needing to cut the dividend.

Once Mr Market sees that the dividend isn’t under pressure that 8.9% yield will be difficult to resist. This will undoubtedly cause a re-rating in the shares – the question then is by how much? Well let’s say it equilibrates at the same level as BT that is currently yielding a very attractive 6.26%. That would see Vodafone recovering to c.212p – a gain of 42% for anyone buying now plus the opportunity to lock-in an 8.9% yield on the purchase price. Incidentally, working off Macquarie’s projected yield would suggest the share price rising to 235p (up 57%).

So looking at this binary bet, I estimate a…

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Vodafone Group Plc is a telecommunications company. The Company's business is organized into two geographic regions: Europe, and Africa, Middle East and Asia Pacific (AMAP). Its segments include Europe and AMAP. Its Europe segment includes geographic regions, such as Germany, Italy, the United Kingdom, Spain and Other Europe. The Other Europe includes the Netherlands, Portugal, Greece, Hungary and Romania, among others. Its AMAP segment includes India, South Africa, Tanzania, Mozambique, Lesotho, Africa, Turkey, Australia, Egypt, Ghana, Kenya, and among others. The Company provides a range of services, including voice, messaging and data across mobile and fixed networks. more »

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22 Posts on this Thread show/hide all

Maddox 21st Jan 3 of 22

Hi wilkonz,

Yes, your view is widely shared which is why the share price is where it is. The statutory figures also appear to support your view but those figures are obscured by the asset write downs that need to go through the P&L. My view is based purely on a cash flow analysis that presents a different picture. It's the extreme dichotomy of views that makes this an interesting situation and I'm looking forward to seeing how it plays out.

I note though that there are no declared short positions on Vodafone and I think that you'd need to be very brave to short at this level.
Regards Maddox

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wilkonz 21st Jan 4 of 22

In reply to post #438438

Indeed Maddox. I won't be going short at the moment, But I think we'd both agree it's one for contrarians. Best wishes, William

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sharmvr 21st Jan 5 of 22

I hold and it is likely my most actionable holding (have bought around 225 - late 17).

My thesis at the time, which still stands just about:
Post project spring, free cash improved and covers divi (pre - spectrum).
Africa / Vodacom is a growth market.
Vodafone don't cut dividend.

Since I have held:
They don't cut dividend at the expense of continued balance sheet destruction,
Africa could go the same way as India.

I am contrarian, but this could be heading into (already is) value trap - stockopedia notwithstanding)

I continue to hold because:

The dividend cut has already been priced, and on the basis of Vodafone don't cut dividends, is pretty spectacular!
It's a huge company - among other benefits, they can rip costs out to get earnings - something a CFO turned CEO ought to be good at.
I don't want to crystalise a loss!
Europe and UK are pretty disliked at the moment

They are not particularly good reasons to hold and 5g may well end up low return capital intensive faeces, which is likely a reason to sell.

If dividend held and guidance held it should get a bounce Friday. Over long term, more interested in free cash and debt.

Alternatively I could have just used your article!

All the best

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Edward John Canham 22nd Jan 6 of 22

This is a general British problem at the moment. The City demands too much in the way of dividends.

There are many companies in the FTSE100 that are paying dividends that are way too high - if you analyse allowing for the Capex required by these companies - most are paid simply by adding to debt - and some of the debt levels are worrying. (Add up the debt levels of the so-called Consumer Defensives and you arrive at a number which many countries would flinch at)

The only way Vodaphone can become great again is by slashing its dividend - its ridiculous and threatens the very existence of the company. I simply cannot see the logic.

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Maddox 22nd Jan 7 of 22

In reply to post #438898

Thanks Sharvi,

The new Group CFO Margherita Della Valle looks to be a ruthless cost cutter - and wants to do so at pace.

"First, transforming the Group’s operating model and fundamentally reshaping our cost base by
accelerating the move to digital. In the digital world, speed and ambition are critical. If we wait for
the perfect solution, I think we could be too late. I also see very significant opportunities to
leverage Group scale."

Here's the webcast 1H 2019 - you can judge for yourself.

Regards Maddox

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sharmvr 22nd Jan 8 of 22

Hey Maddox - is there a link there? Sure I can find on their investor relations in any case.

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sharmvr 22nd Jan 10 of 22

Muchas thanks - one to review at dentist reception!

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aflash 22nd Jan 11 of 22

These posts have made me examine my thesis with the following inconclusive results:

If it is showing weakness before Friday's Q3 2019 trading statement, as it is, then somebody knows something and is more likely to drop than jump up on the day.

However the Relative strength (RSI) is still higher than in early November. At that time a technical analysis service to which I subscribe signalled a 'bullish divergence'. I bought because the ex-dividend date was approaching on 22 Nov and there would be more buying than selling pressure until then. To my amazement the momentum continued until the 27th when I sold for a 9% capital gain plus collecting the dividend.

That was some consolation for a core position carrying a 14% loss. An 8% yield is no compensation for that, the next ex-dividend date is June and the sky can fall on us before then.

So Iooking for other reasons to buy I found CFRA-stars and Morningstar are unanimous in saying Strong Buy, Undervalued. Then I ran through the comparaisons I have done many times against other global telecommunications companies. VOD has always done well. This time instead of comparing against the five 'peers' that Stockopedia takes, even if one adds and substracts other candidates, I used the Tool 'Telecommunications Services Industry'.

This shows 273 companies if one ticks 'dual listings'.

VOD is not so hot here and way below BT.A.

There is no short interest. The last time it was significant (1,5% on loan) was June 2016.

It has not been this low since 2010 so support in the low 140s is excellent.

However all those people who bought higher up will want to bail out as the stock rises.

All those who bought at the bottom will want to take profits so there will be pressure on upward movement for some time.

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FreakNomad 25th Jan 12 of 22

Thanks for the posts here. Interesting.

The debt looks less risky than the equity IMHO. But it doesn't look as if any of it is publicly traded. Please someone tell me I'm wrong.


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aflash 25th Jan 13 of 22

In reply to post #440653

One needs the price on that debt compared to similar coupons and maturity dates.

It has almost certainly dropped a few basis point today.

It looks likely the equity will close below 140p which is a bearish development.

I shall be taking part of my loss after posting this. If I had none I would buy!

Be warned that it may get worse before it gets better and the bounce may be anaemic.

A few years ago the Verizon repurchase was a real bonanza for me. Lightning never strikes the same place twice. Since then I have traded in and out a couple of times with good results. DYOR & GLA

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Maddox 25th Jan 15 of 22

Well the Q3 trading update today hasn't been well received. However, IMHO the paragraph that is pertinent to Mr Market's current concern about Vodafone cutting the dividend is:

'Trading during the third quarter was in-line with management’s expectations underlying the outlook statement for the 2019 financial year. The Group therefore confirms its expectation that organic adjusted EBITDA on an underlying basis (excluding settlements and UK handset financing, IAS 18 basis) will grow by around 3%, with free cash flow generation (pre-spectrum) of around €5.4 billion.'

Which is exactly what was stated in the November strategic plan and means that there is no deterioration in cash flow generation that would force a dividend cut.

At 137p the yield is now c.9.5%.

Regards Maddox

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Edward John Canham 25th Jan 16 of 22

This just kicks the can down the road one more time.

The dividend is not covered by earnings - questionable if it's even covered by CF if everything taken into account - pre-spectrum ?!

Just look at the SP graph, surely this suggests the dividend policy is not working - perhaps today's fall is, in part, recognition that the 9.5% is mainly a capital repayment.


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Richard Goodwin 28th Jan 17 of 22

In reply to post #440793

I assume pre- spectrum means pre buying radio spectrum for 5G services. Essentially this is capex.

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Maddox 28th Jan 18 of 22

Hi Richard,

Yes that's right, mobile companies are in the midst of a round of 5G spectrum auctions, in fact just about at the peak. So Vodafone is spending on average c €1.2bn p.a. that is capitalised and are amortising under €1bn p.a. currently. IMHO it's fully justified to finance the purchase of multi-year life assets with debt and thus excluding this from cash flow.

It is cash that is needed to pay dividends, whereas statutory profit and earnings are governed, and complicated, by accounting conventions. Vodafone has had to write-down the balance sheet value of its Indian Company, for example, through its P&L that has wiped-out the statutory profit and earnings. As these write-downs are not cash there is thus a very large difference between the free cash flow being generated by Vodafone and the reported profit and earnings. So whilst there is no profit to pay the dividends there is more than enough cash - the converse would not be true.

Regards, Maddox

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Maddox 29th Jan 19 of 22

Despite the negative sentiment created by a few recent analysts opinions the balance of Broker recommendations is overwhelmingly positive:

Strong Buy........14
Buy................... ..3
Strong Sell..........3

So out of 25 - 17 or 68% are on the Buy-side.

Regards, Maddox

Source: Share.com

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jwebster 3rd Feb 20 of 22

VOD is an interesting case, much in the media drubbing them for an unsustainable dividend %

Looking at FY17/18 cash flow, VOD generated 4.044B EURO in fee cash flow net of 1.12B spent on spectrum costs. Of this, 3.92B was spent on the dividend, i.a. all of their cash flow.
From the CEO transcript "Given our progress, we are confident we will deliver our full-year guidance
objectives of around 3% underlying EBITDA growth and free cash flow of around €5.4 billion"
So in theory, this year will be a repeat of last year, and VOD will pay the dividend.

Risks are obvious on the 5g spectrum costs, but I would have thought this is under control as VOD management have a good balance sheet focus, e.g. their sharing arrangement with O2 in the UK and their mast rental in Europe.

Actually, the real risk is some problem with top line revenue, from some unknown issue with customer retention, product penetration or price competition. I personally don't have much of a view on this, as VOD in the UK is much the same as the other big players really. Certainly there is no story around revenue growth, without acquisitions, but such is the industry now, it's more like a utility. Consolidation in Europe will come as the smaller players can't afford the 5g spectrum. Consolidation would actually improve revenue stability for VOD.

VOD does have huge net debt at 29.6B but can afford the net interest repayments - which were 753m - but obviously have no chance of ever repaying the debt, unless they cut the dividend.

The recent Q&A is interesting as the analysts really pushed on the risks to top line revenue (read the Q&A from Goldmans for example) and the answers from Nick Read was guarded, i.e. he doesn't know where the market will go from here. Fair enough. In the round, I believe the revenue pool in Europe is static, slightly declining due to softness in Germany. EM will grow subject to China of course. This is the key issue and why the market is driving down the share price. Top line is around 46B so an 8% drop is the end of the entire dividend.

Hence, a bet on VOD today is a bet on Europe holding up economically over the next two years. Further out, VOD might actually do ok under a scenario of industry consolidation and clever shared asset arrangements.

Personally, I think there is some macro pain coming Germany's way with China on the slide. Still, VOD is getting close to a punt as they might just squeak in this year and pay the dividend. I will wait for another round of bad PMIs from these two and see the VOD share price reaction.

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FreakNomad 3rd Feb 21 of 22

In reply to post #443283

Actually, the real risk is some problem with top line revenue, from some unknown issue with customer retention, product penetration or price competition. I personally don't have much of a view on this, as VOD in the UK is much the same as the other big players really. Certainly there is no story around revenue growth, without acquisitions, but such is the industry now, it's more like a utility. Consolidation in Europe will come as the smaller players can't afford the 5g spectrum. Consolidation would actually improve revenue stability for VOD.

I think you have summarised the problem with top line revenue.  There is no obvious growth.  We're awash in bandwidth at the moment. I'm on a 8GB plan and I never, ever use it.  If I streamed youtube all day everyday, it might be a problem.  But I don't, and I wouldn't see any point.

The upshot is that mobile phone staff are extremely aggressive at the moment into pushing you into more expensive plans.   This has got my alarm bells ringing, because it suggests that management are desperate to show revenue growth, but are having trouble finding it.

As  you say the telcos are like utilities.  If so, they should be priced as such and there is going to be downward pressure on prices as consumers realise that their expensive 60GB plan is just a waste of money and start downgrading, switching provider etc.

The phone upgrade cycle also seems to be stalling.  I'm of the view that the mobile phone thing peaked in around 2016 and there is nary a reason to upgrade now unless your phone falls to pieces.

I realise Vodafone needs to buy 5G, but I can't think you this would be any improvement on what we have now and I can't see how this is going to give a boost to revenues.

If management don't waste money on acquisitions and stupid new technology, it should provide a steady income stream. I think Vodafone (LON:VOD) is interesting, but it seems that you'd want to buy after the divi cut, which seems inevitable at this point.

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JohnEustace 3rd Feb 22 of 22

As Neil Collins put it in the FT yesterday, Vodafone's share price shows UK plc lives in dividend fantasy land.

He also lists in no particular order BT, GSK, Centrica, StandardLifeAberdeen, and SSE as needing to understand that if a dividend is not earned, it is not sustainable.

But income obsessed fund managers ensure that the CEO who cuts the dividend is likely ending their career.


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