Vodafone Group plc (VOD) USD0.20 20/21
HL comment (26 July 2019)
Vodafone's first quarter results show revenue trends improving from -0.6% in Q4 to -0.2%. The group also confirmed it expects this trend to continue.
Vodafone has also finalised plans to separate its towers assets, and create a separately managed new organisation.
The shares rose 7.6% after the announcements.
Telecoms have fallen out of favour in recent years. Competition is intense, and spectrum auctions continue to raise more than expected for European governments, putting pressure on cash flows.
Add in the looming debt pile that's hanging over the group (EUR24.5bn as of last year), and it's easy to see why the group has decided to rebase the dividend and cash in network or telecom towers.
If we assume an independent towers business could handle net debt of around four times cash profits, and apply an earnings multiple comparable to tower peers, it's perfectly possible Vodafone could rake in around EUR14-15bn from a complete sale, and there's significant capex savings too.
Still, we shouldn't forget the group would be losing an attractive asset. Mobile providers pay tower owners rent, which generates a stable return.
The shakeup leaves Vodafone increasingly focused on its core mobile and fixed line business, especially with the impending acquisition of Liberty Global's German and Eastern European cable networks. The net effect of these portfolio changes should leave Vodafone with less leverage.
Prior to first quarter numbers and the towers announcement, the shares were offering a prospective yield of 6.8%, even after the cut. Potentially enticing, but investors will really want to know if Vodafone, with its sharper consumer focus, can rebuild the dividend.
The savings to be had from the Liberty deal should help. Vodafone reckons it can get EUR535m a year in operating and capital expenditure savings within 5 years of the deal completing.
The acquired businesses should also bring cross-selling opportunities, as the group looks to roll out broadband, fixed line and TV services across its European markets. Vodafone's finding that customer retention is significantly better among those taking up multiple products.
This is important because, despite the multi-billion investments in mobile spectrum, there's not much differentiating mobile providers other than the price they charge. Customers often just go with the cheapest deal, which Vodafone has found out to its detriment in India and Spain.
Add in integration risks and the EUR1.2bn cost of combining the two businesses, and we think there's still plenty of lingering uncertainty.
All-in-all then, while we think the strategic shift and dividend cut make sense, there's no guarantee the group can thrive from here.
First quarter results
In Europe, revenue was EUR7.8bn, with organic service revenues (OSR) down 1.7%, an improvement from the 2.1% decline in Q4. Much of the weakness stems from Spain, where OSR fell 9.3% on account of increased competition and increased customer churn following the decision not to renew football rights. Elsewhere, UK mobile revenues stabilised, trends in Germany remain robust and OSR trends in Italy improved from -7% in Q4 to -3.8%.
Throughout Europe, fixed line revenue is generally growing stronger than mobile, although there was a 0.5 percentage point year-on-year reduction churn. The group has now launched 5G services in 5 European markets.
In the Rest of the World, revenue was EUR2.5bn, with OSR up 5.3%. Growth was particularly strong in Turkey and Egypt, which both grew by double digit percentages. The African Vodacom business saw growth slow to 1.1% (3.5% in Q4) following regulatory and macro pressures in the important South African market.
The separation of the towers business will see a new organisation created to manage the group's 61,700 towers across ten markets. Vodafone says this business would generate around EUR900m in annual cash profits. The group says the proceeds will be used to reduce debt.
Looking ahead, the group's adjusted EBITDA guidance remains unchanged at EUR13.8 - 14.2bn for the year, implying low single digit organic growth. Vodafone still expects to deliver free cash flow pre-spectrum costs of 'at least EUR5.4bn'.
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