Vodafone Upside Capped

Vodafone Group PLC (VOD:LSE) is the world’s second largest mobile telecom operator after China Mobile, boasting assets across the globe and benefiting broadly from the greater emphasis on data services in demand with the proliferation of mobile devices.  The company’s focuses on a range of services from mobile telecommunication provision to fixed line communications. Its reach is further bolstered by its business services, mobile payments, hosting and cloud computing solutions.  On the whole, the investment in the future and the company’s solid dividend make it a long-term buy, however, in the short-term, shares might run into difficult after hitting 14-year highs.

The Fundamental Outlook

The latest quarter saw some of the best results for Vodafone in years, with shares hitting the highest level since December 2000 after the company recorded the first quarterly rise in revenue in 11 months.  Revenue grew at approximately a 10.2% annualized pace as earnings improved across Asia, the Middle East and North Africa.  Footholds in key emerging markets will help the carrier improve results further as it diversifies away from core European assets.  Vodafone’s full year profit fell to GBP 5.76 billion after the sale of US operations in the year prior netted the firm over GBP 48.2 billion in profit.  The gains in revenue expansion come at a time when European growth is accelerating at the fastest pace in years. 

The company is making substantial investments in the future, building a massive fiber optic cable network infrastructure that stretches across Europe.  The proceeds from the disposal of the Verizon (VZ) stake has been a big contributor to this investment as Vodafone seeks to improve its provision of fixed line services.  The prevailing idea among telecom providers is finding synergies that enable them to bundle services like phone, internet, and TV in an effort to grow the subscriber base to all services.  However, the company remains substantially behind competition like Orange (ORAN) and Telefonica (TEF) which have spent considerably more time on similar projects versus Vodafone which has keep investment trained on the network infrastructure. 

According to Vodafone management, the group is willing to consider selling assets but also make acquisitions if the fit is right.  Liberty Global (LBTYA) announced an interest in partnering with Vodafone to go ahead and bundle fixed-line assets with mobile solutions, helping the company to become more competitive in its service offerings, especially in the home market when it is facing the threat of a proposed merger between British Telecom (BT) and EE.  Not to mention, subscription rates are not growing at the same pace, hence the renewed emphasis on emerging markets as a strategy to boost users.  The idea of a potential merger with Liberty Global sent the shares over 4% higher last Wednesday as the combined company could conquer Western European media markets.

While this strategy of focusing on infrastructure is important, evidenced by the group’s substantial interest in the Indian telecommunications market, it is a long-term plan that will not necessarily translate to shareholder value in the short-term.  The company is stable owing to the fact that 67% of revenues are generatedin Europe which has seen the outlook improve.  However, exposure to Southern Europe could drag on the outlook due to slower lending and austerity driven budgets that are hindering growth.  Has substantial exposure to southern Europe which has been dragging substantially on the outlook.  European demand has generally stabilized, but is not forecast to see a rapid turnaround despite the growth in mobile data sales. 

The Technical Take

While there is a lot of upside in Vodafone shares, notably for income investors, valuations might have been stretched a little too far as evidenced by recent moves in the company’s shares.  While the technicals remains supportive of the upside in the near-term from a more medium-term technical perspective the company’s shares might be faced with a  sharp correction lower to recent momentum higher.  Shares are trading at their highest levels since the crash of the dot-com bubble as communications turn into a necessity for both homes and businesses.  Shares have not had a substantial correction since the pullback in early March, adding to concerns that barring any announced partnership with Liberty Global, the company’s valuation might have gotten a little ahead of the earnings improvement.

 

Shares continue to trade above both the 200-day moving average and 50-day moving average which crossed the longer-term moving average to the upside back in early December.  Both of these are bullish signs with the December golden cross critical to helping shares find further upside.  Helping optimism is also the cross of a major technical level, with shares taking out resistance at 252 pence, set back on February 24th of 2014.  Should further asset sales or partnerships be announced, reaching GBP 265.40 or 277.50 is not unreasonable forVodafone shares.  However, considering the momentum higher, a 30-60% technical retrace is not unreasonable, with the shares running into strong support at GBp 238.70 and GBp 224.95.  The RSI at above 74 should also be construed as adding to evidence that prices have slightly overshot their mark and have substantial potential tocorrect.  With this in mind, short-term a correction towards support is more likely than an upside breakout considering the prevailing circumstances.

 

Conclusion

On a long-term basis, Vodafone will prove a great value if it can find a way to speed growth in emerging markets, reducing its substantial exposure to the European markets which boast far less growth potential than other regions.  The company will further improve the outlook if it can come to terms to partner with Liberty Global which will enable bundling expansion, helping to offset competition.  Shares have been substantial outperformers in 2015, however, without further asset sales or merging of specific operations, upside is likely to be capped in the near-term with the risks skewed more to the downside on the basis of recent momentum.  The emerging relationship with Liberty Global could provide that catalyst needed for a breakout higher, but on the whole, the dividends make this company a great long-term prospect for income investors.