Mobile communications giant Vodafone Group (LSE: VOD) has been one of the most admired income stocks on the FTSE 100 for some years, and rightly so. It’s still a top yielder, currently paying a handsome 5.6%, but whatever happened to the growth?
Rites of Spring
Vodafone’s income isn’t just generous, it’s also rising, with the yield forecast to hit 6.1% by 31 March 2017. However, there are growing worries about the sustainability of that dividend, with cover slipping to a wafer thin 0.4. This is partly due to Project Spring, Vodafone’s two-year investment programme to improve its mobile infrastructure, which has now soaked up more £20bn.
The company has nonetheless managed to increase its dividends by around 2% in each of the past two years, and expects to continue doing so over the next couple of years. That’s despite incurring a whopping €5bn first-half loss, mostly due to writedowns in India. Net debt rose to €40.7bn at 30 September, up from €36.9bn on 31 March, reflecting the cost of paying its final dividend. In other words, the income is partly funded by debt, and therefore remains vulnerable. You can’t rely on anything these days.
4G or not 4G
Project Spring has massively expanded Vodafone’s 4G and broadband access across the UK and Europe. With the spending splurge out of the way, the rewards should soon start rolling in. Vodafone says it’s currently beating expectations in key growth markets Germany and Italy. It’s also Europe’s fastest-growing broadband operator.
Vodafone remains a British success story, the largest mobile communications network company in the world. Unfortunately, it isn’t a share price success story, peaking at 400p at the height of the technology boom. I sold my shares three years ago at 211p. Today, it trades at 203p.
All about the base
There are signs of hope. In Europe, the 4G customer base has soared from 15m to nearly 40m in a year, and because these customers typically use double the data, this should generate greater margins and revenues. Data traffic growth is robust at 61% across the group. Vodafone is also the fastest-growing broadband provider in Europe, again, boosting revenues and locking in customer loyalty, as will its planned fixed line and pay-TV expansion.
Three years of negative earnings per share growth are forecast to turn positive, with an impressive jump of 39% in the year to 31 March 2017, followed by another 11% the year after. That will lift EPS from 5.04p to 7.81p per share in just two years. However, the dividend per share is forecast to be far more than that at 12.37p, so again, the payout isn’t covered.
Today’s valuation of 40.3 times earnings looks pricey, despite a forecast to drop to 30 times earnings. This hefty valuation may be justified by the fact that Vodafone has poured money into future expansion plans, but it also suggests that meaningful share price growth will remain difficult. The company is also vulnerable to further Eurozone ructions. Vodafone may struggle to break its recent ceiling of £2.25p but provided it can maintain that 5%-plus income, who cares?