TMFDeej (99.47)

After all these years, Vodafone still looks super cheap

January 23, 2013 – Comments (5) | RELATED TICKERS: VOD

As a shareholder of Vodafone (VOD), I always keep my eyes open for news on the company.  The stock hasn't been doing particularly well of late, but one famous investor, David Eihnorn, still really likes its prospects.

Here's what Einhorn had to say about VOD in his latest letter to investors:

"We have also increased our Vodafone holdnigs, as the stock fell sharply on news that just doesn't seem that bad...At this valuation, it appears as though the market is placing no value on VOD's 45% stake in Verizon Wireless.  And the Verizon Wireless stake is clearly quite valuable.

Look at it from Verizon's (VZ) perspective: Historically Verizon had a very profitable landline business, and Verizon Wireless owed it billions of dollars.  Verizon received Verizon Wireless's free cash flow as it repaid the debt.  For years, Verizon used its control to try to starve VOD by refusing Verizon Wireless to pay dividends.  Today, Verizon's landline business generates no cash and the debt from Verizon Wireless has been repaid.  Verizon's 55% control stake in Verizon Wireless is probably worth more than all of Verizon's market capitalization, and Verizon has become wholly dependent on dividends from Verizon Wireless to fund its parent company obligations and shareholder dividends.

Excluding any contribution from Verizon Wireless, VOD stock pays a 7% dividend and trades at less than 12x cash earnings - roughly in line with other large European telecom companies.  Meanwhile, VOD has never become dependent upon Verizon Wireless distributions.  Given the huge valuation discrepancy between what the market thinks that Verizon Wireless is worth to Verizon (at least a couple hundred billion dollars) and what it ascribes to VOD (about zero), combined with Verizon's increasing dependence upon Verison Wireless, it wouldn't surprise us if Verizon decided to buy all of VOD to gain full ownership of Verizon Wireless.  It could decide to become a global telecom leader or it could spin out parts of VOD that it's not interested in owning.  Maybe there is an investment banker with time on their hands reading this letter. [courtesy of the great site, marketfolly.com]"

I have personally owned Vodafone stock for years on the thesis that Verizon Wireless would eventually begin to pay dividends to VOD, driving up the value of its stake and allowing it to raise its dividend or to pay a series of special ones.  For the most part this thesis has played out perfectly, but Vodafone's stock has not moves as much as I thought it would.  I'm sure that this is mainly a result of the issues with the European economy over the past several years and its languishing business in several countries.  Vodafone's tax issues in India may have also played a role. 

Either way, to give you an example how this trade has done, I went long VOD in CAPS ni April 2010 (and probably about the same time in real life). Since that date, including dividends VOD is up 34.87% versus a gain of 24.21% for the S&P 500.  I'll gladly take it, that amounts to outperforming the S&P by several percent per year during a bull market, but as I mentioned I was hoping for more.

As Einhorn mentioned in his letter to investors, I think that there's more gains to come with VOD and I continue to hold my stake.  I don't see how VZ would be able to buy all of VOD, to me that seems as though it would be like a snake trying to eat a goat, but I suppose that anything is possible.  I could certainly se VZ paying VOD a pretty penny for its share of Verizon Wireless. 

Thanks for reading everyone.  Have a great evening!

Deej