High-yielding Vodafone 'too cheap'

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High-yielding Vodafone 'too cheap'

The current year still has six weeks to run, but FTSE 100 heavyweight Vodafone (VOD) is already delivering on City expectations as one of the top stock picks for 2018.

As long ago as September, the mobile phone giant was picked by UBS analysts for inclusion in their most-preferred list of 2018, alongside 44 other companies across Europe including Royal Dutch Shell (RDSB) and Sainsbury's (SBRY).

UBS's faith has been rewarded in double quick time as Vodafone shares shot ahead by 5% to 228p Tuesday after the company upgraded underlying earnings guidance for next year to around 10% growth, compared with the 4-8% previously forecast.

As pointed out by Vittorio Colao, who will celebrate his tenth anniversary as chief executive next year, this was the first time in recent history that Vodafone had been able to increase organic EBITDA guidance.

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There have been some factors working in Vodafone's favour, such as the €100 million (£88.9 million) compensation settlement from BT's (BT.A) Openreach and a delay in the arrival of new competition into the Italian market.

But even adjusting for these one-offs, the underlying trends were better than expected amid signs that Vodafone is capturing ample rewards from its £19 billion Project Spring investment in both network and service quality.

Revenues grew organically in the majority of its markets, driven by mobile data and as Vodafone staked its claim to be Europe's fastest growing broadband provider. Enterprise revenues also continue to grow, led by its offerings in Internet of Things and Cloud technology.

Encouragingly for Vodafone, UK service revenue returned to growth in the second quarter, supported by higher average revenues per user in consumer mobile and a lower decline in its Enterprise fixed and carrier services.

For the second year running, Vodafone's Fit For Growth strategy helped it achieve a reduction in operating costs. And, with the mammoth Project Spring now behind it, free cash flow improved to €1.3 billion (£1.15 billion) in the half-year against an outflow of €100 million (£88.9 million) the prior year.

This meant Vodafone was also able to upgrade its free cash flow forecast for 2018 to more than €5 billion (£4.45 billion), from the €4.9 billion (£4.36 billion) forecast in the City.

At these levels, there's added support for the dividend yield of 6%. UBS analyst Polo Tang certainly thinks so, having placed a price target of 270p on the stock, implying 19% potential upside. Hit those prices and Vodafone would be back where it was in the early 2000s.

Tang said after today's results: "We see Vodafone as too cheap, offering an 8% calendarised free cash flow yield for 2018E and a 6% dividend yield."

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.