LONDON -- It's the fourth-largest constituent of the FTSE 100 and a solid dividend payer, yielding 6%. So it's not surprising that Vodafone (LSE: VOD.L ) (Nasdaq: VOD ) is in many private investors' portfolios.
It was bad news all around, then, when Vodafone issued disappointing half-year results last week, causing its shares to drop 5%. They are now down 10% this year.
There are generally three things you can do when a core shareholding drops in value:
- Hold your nerve, and the stock. In most cases, that's probably the best course of action for long-term shareholders.
- Run for the hills and sell the stock in case it is starting on a slippery slope downwards. Sadly, that is sometimes the case.
- Top up your holding and buy at what you hope to be a bargain price.
I was happy to top up my holding of Vodafone last week. I'll explain my reasons in more detail below, but in essence it was summed up by CEO Vittorio Colao's remarks:
We have continued to make progress on our strategic priorities over the last six months, with good growth in data and emerging markets in particular. In the short term, however, our results reflect tougher market conditions, mainly in Southern Europe. We remain very positive about the longer term opportunities.
If the CEO is to be believed, it's a short-term setback in a long-term positive trend. That could be a buying opportunity.
The headwinds are certainly strong, and they're mostly caused by the mess known as the eurozone. The company was plunged into the red by a 5.9 billion pound writedown of its Spanish and Italian operations, where it now sees lower growth and higher risk.
At an operational level, revenue in Southern Europe was down 10%, with the decline accelerating in the second quarter. With margins eroded in Italy, Greece, and Portugal (though maintained in Spain), Southern European EBITDA was down 15%.
Vodafone's geographically diversified performance is a microcosm of the global economy. While Southern Europe was battered, the Northern and Central European division delivered indifferent growth of 1.5%, while the Africa, Middle East, and Asia-Pacific division saw stronger 5% growth.
Overall, it wasn't a pretty set of results. The writedown helped turn an adjusted operating profit of 6.2 billion pounds into a 1.9 billion pound loss after tax.
So why am I still bullish?
First, I'm happy to discount the write-off. Vodafone's balance sheet is bloated with intangible assets -- the legacy of overpaying for acquisitions by previous management -- and it's no bad thing to see some of it confined to the accounting wastepaper bin.
Secondly, the dire situation in Southern Europe is hardly new news. Significantly, Vodafone did not reduce its full-year guidance.
Thirdly, Vodafone will receive a 2.4 billion pound dividend from its U.S. associate Verizon Wireless (NYSE: VZ ) . It will use 1.5 billion pounds of that to buy back shares, which will boost future earnings per share by about 1%. Vodafone only owns 45% of Verizon Wireless and is at the mercy of its U.S. partner, but the business is doing well as the U.S. economy recovers and 4G takes off. One way or another, it's a major source of value to Vodafone.
In addition, the company is progressing its strategic objectives:
- Generating value from data services.
- Pushing emerging-market penetration
- Growing its enterprise business.
- Standardizing operations to reduce costs.
Data revenue grew 6% in the face of a 13% decline in voice and messaging revenue and now makes up 16% of the total. The AMAP region contributed 30% of EBITDA, but the potential looks huge: More than 260,000 of Vodafone's 400,000 mobile customers are in this region.
In the enterprise segment, the company is integrating its acquisition of Cable & Wireless Worldwide, which it picked up for a song: Goodwill was just 170 million pounds out of a total cost of more than 1 billion pounds. And the company is targeting a 300 million pound reduction in its cost base.
Finally, I know that I'm in good company: Invesco Perpetual's Neil Woodford has about 10% of his high-yield portfolios riding on Vodafone. Woodford is a renowned stock-picker whose funds are built on large, established companies that generate healthy cash payouts. Remarkably, he enjoyed a nine-year run from 2000 to 2008 when he consistently beat the FTSE All-Share index. And in 2011, his funds returned double the index.
You can find out more about how Woodford goes about picking stocks in this special report from the Motley Fool: "8 Shares Held by Britain's Super Investor." It's free, and you can download it by clicking here.
Note that Vodafone's stock goes ex-dividend on Nov. 21.