Fat yield fails to win Vodafone favour with investors

AJ Bell press comment – 15 November 2022

• Vodafone’s high debt burden means investors are shying away from the increased risk this represents
• German profits drop in first-half the latest headache for chief executive Nick Read as profit expectations steered to lower end of €15 billion to €15.5 billion range
• Yield over 7% looking unlikely to persuade investors

“A share price that is unchanged since 1998 is unlikely to be a good sign and for all of his efforts with disposals, mergers and spin-offs, chief executive Nick Read is struggling to get a tune out of Vodafone,” says AJ Bell investment director Russ Mould. “The company still looks like an investment trust of telecoms assets, is not offering much by way of sales, profit or dividend growth and remains saddled with a hefty debt burden as a result of 2019’s purchase of Liberty Global’s operations in Germany and Eastern Europe.

“This is all a bit reminiscent of the turn of the century, when the huge Mannesmann deal, also in Germany, proved a step too far as Vodafone ultimately overpaid for its prey.

Source: Company accounts. Financial year to March.

“Unlike Imperial Brands, where lower debt is encouraging investors to pay a higher share price, Vodafone is finding that higher debt means investors are shying away from the increased risk this represents. As a result, they are applying a lower multiple to Vodafone’s earnings and demanding a higher yield to compensate themselves for those risks – and since neither earnings nor the dividend are growing that fast, the only way for the market to get that lower multiple of earnings and higher yield is to pay a lower share price.

Source: Refinitiv data

“The debt burden complicates Vodafone’s existing strategic challenges and ability to meet them in its chosen markets of mobile and broadband telecoms as well as in its target geographies.

“On one hand, the company is hemmed in by fierce competition in its key markets of Germany, Spain, the UK and Italy and on the other it faces the regulator. Worst of all, so far as that 2019 acquisition goes, it is Germany that seems to be the latest problem and the reason why Vodafone is steering profit expectations to the lower end of the €15 billion to €15.5 billion range to which Mr Read had pointed at the start of the financial year.

Source: Company accounts, Marketscreener. *2023E based on mid-point of company guidance given alongside interim results. Fiscal year to March. **Earnings before interest, taxes, depreciation, amortisation and special losses.

“Regulation, in the form of 2021’s Telecommunications Act, competition and soaring energy prices are all taking their toll in Vodafone’s German operations, which lost broadband and TV service customers and saw increased acquisition costs for mobile customers. Sales also fell in Spain and Italy, thanks to customer losses in the former and price pressure in the latter, although the UK offered one bright spot. Sales rose here, thanks in part to increased international travel and higher roaming charges.

Source: Company accounts

“A drop in German profits weighed on the first half and looks set to leave Vodafone with too much ground to make up in the second, if it is to at least meet the top end of the forecast range.

Source: Company accounts. * Earnings before interest, taxes, depreciation, amortisation and special losses.

“That also limits Vodafone’s ability to increase its dividend. The first-half payment remains stuck at €0.045 (although pound’s weakness in 2022 could bring some respite to those who bank the payments in sterling).

Source: Company accounts, Marketscreener, consensus analysts’ forecasts

“The question now is whether a yield of more than 7% – topped up by share buybacks – is enough to persuade investors that Vodafone is worth the risk. Looking at the share price today, the answer seems to be, ‘no, not really’.”