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Vodafone - India weighs but Africa and Europe sustain momentum

George Salmon | 2 February 2017 | A A A
Vodafone - India weighs but Africa and Europe sustain momentum

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Vodafone Group plc USD0.20 20/21

Sell: 109.48 | Buy: 109.52 | Change -4.48 (-3.93%)
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Vodafone's Q3 trading statement confirmed a slowing of growth in its Indian markets, with competitive pressures and the scrapping of high denomination currency hitting performance. The group now expects to meet the lower end of the previous EUR15.7-16.1bn EBITDA (earnings before, interest, tax, depreciation and amortisation) guidance, but still expects to hit free cash flow targets. The shares fell 2% on the news.

Our View

Vodafone consists of a recovering European business and the Africa, Middle East, Asia-Pacific (AMAP) division, which serves fast-growing countries like India and Turkey. Often in these emerging economies, mobile phones are the primary form of communication as fixed line infrastructure never got built. With vast swathes of the population still to enter the smartphone market, emerging economies should represent a growth opportunity for Vodafone.

However, the launch of a new rival, Jio, in the Indian mobile market is threatening to put a spanner in the works. Its introductory offer of free data and calls means customers are flocking to it and Vodafone has been forced to slash prices to stay competitive. A possible tie-up with Idea, another big Indian network, could provide the economies of scale to go toe-to-toe with the challenger. But, with Jio backed by industrial giant Reliance Industries it could well be up for the fight. A damaging price war could be on the cards.

In Europe, data growth is generally strong, but the group faces similar competitive challenges here too. It doesn't really matter where you are, in reality not much differentiates telecom providers from one another other than the price they charge. The problem for the group is there is little to prevent customers simply going with the cheapest deal.

Vodafone is trying a couple of different approaches to change this. The completion of Project Spring has increased its 4G coverage around the world. Vodafone has found that once customers have taken a 4G package, they tend to increase data usage significantly. The extra data the group can now provide therefore offers the potential to get more customers on higher-data bundles, which of course attract higher tariffs.

Vodafone is also rolling out broadband, fixed line and TV services across its European markets. The hope is that customers who sign up to these contracts will be less likely to switch provider, meaning higher quality revenues going forward.

However, by some measures free cash flow has been negative for the last 6 years. The group's extra infrastructure spending has sent net debt towards EUR40bn, around two and a half times expected earnings before interest, tax, depreciation and amortisation. Longer term then, we will need to see signs of improvement if debts are to come down while the dividend goes up. At present, the shares offer a prospective yield of over 6.5%.

Third quarter trading in detail:

Group organic service revenue grew 1.7% to EUR12.3bn. The 0.7% growth rate in Europe remained broadly consistent with that in Q2, however in the AMAP (Asia, Middle East and Asia Pacific) regions, growth slowed from 7.1% to 3.9%.

Organic service revenue in India declined 1.9% to EUR1.45bn. The overall customer base is still growing, but data customer numbers dropped from 69.6m in Q2 to 65m. Increased competition saw pricing drop 11% year-on-year, while growth in data usage per customer also slowed.

The group has confirmed that it is in discussions with Aditya Birla Group about an all-share merger of Vodafone India (excluding Vodafone's 42% stake in Indus Towers) and Idea. Any merger would be effected through the issue of new shares in Idea to Vodafone and would result in Vodafone deconsolidating Vodafone India. There is no certainty that any transaction will be agreed, nor as to the terms or timing of any transaction.

Vodacom (Vodafone's African business) reported 4% growth in organic service revenue, to EUR1.17bn, with customer additions and data in South Africa continuing to grow strongly.

Q3 European organic service revenue of EUR8.06bn represents growth of 0.7%, slightly down from the 1% reported in in Q2. Mobile termination rate cuts in Germany and extra competition in the UK outweighed an improving performance in Spain and Italy. Fixed service revenues improved across the main European markets, with over 270,000 fixed broadband net additions across Spain, Germany and Italy.

Unless otherwise stated, all estimated figures, including prospective dividend yields, are taken from a consensus of analyst forecasts compiled by Thomson Reuters. These estimates should not be taken as a reliable indicator of future performance.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.