Vodafone: 80% share price upside and 9% dividend yield?

Some think a first cut in the dividend is on the cards at Vodafone, but this expert disagrees and believes the shares are undervalued. Graeme Evans has the detail.

It's been more of the same for Vodafone (LSE:VOD) investors so far in 2019, with the share price languishing near to an eight-year low amid continuing doubts over the security of the mobile phone giant's prized dividend.

This comes despite new boss Nick Read's best efforts to talk up prospects, including in November when he quelled fears that a rising debt pile might jeopardise payouts from the most valuable income stock in the FTSE 100 index.

The subsequent share price rally proved to be short-lived, however, with Vodafone eventually finishing 2018 around a third cheaper than where it started. Read will get another chance to shore up confidence on Friday next week when the Newbury-based company posts a third quarter trading update.

At best, the statement will offer an opportunity for Vodafone to demonstrate there's been further stabilisation in its core markets, including the UK.

Robert Grindle, Deutsche Bank analyst, is hopeful that this could represent the "pre-cursor to a top-line recovery", something that will be vital towards extinguishing fears about a dividend not fully covered by earnings.

Source: TradingView (*)  Past performance is not a guide to future performance

The pay-out has not been cut since it was first introduced in 1990, with the business estimated to account for £1 of every £14 paid by listed companies over the past decade.

But with a share price now yielding as much as 9%, there remain clear signs that the market thinks the dividend is under threat.

The jitters are fuelled by Liberty Global asset purchases in Europe and also the prospect of 5G auctions in Vodafone's largest market of Germany later this year. Net debt rose to 32 billion euros (£28.5 billion) at the half-year stage.

However, completion of the Liberty Global purchases should at least boost free cash flow, which in turn will benefit dividend cover and sustainability.

Read's strategy in relation to cost controls, capital expenditure, higher returns from infrastructure assets, and business simplification also look to be positive in relation to the long-term dividend.

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Grindle is supportive of Read's plans, having reiterated his ‘buy' recommendation today alongside a price target of 268p, a level last seen in 2014 and 2015.

He said: "Late cycle employment and wage growth in Europe alongside better operator behaviour should further boost top lines and profits."

Grindle expects Vodafone's third-quarter organic service revenues will show a 0.7% decline at group level, with Europe down 2.2%. However, this would represent a marginal improvement in Europe and the end of a four quarter deterioration.

He also thinks that the handset cycle outside the UK may have moved back into a positive trend in the period.

Grindle added: "We expect full-year 2019 guidance for 3% underlying earnings growth and free cash flow of around 5.4 billion euros to be reiterated."

*Horizontal lines on charts represent levels of previous technical support and resistance. Trendlines are marked in red.