Vodafone Trading Below Fair Value?… Einhorn Thinks So

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David Einhorn of Greenlight Capital recently increased his investment in Vodafone (NASDAQ: VOD).  The company’s European centric mobile phone business negatively weighed on the share price, but Einhorn believes too much so.  Most recently, the company was negatively impacted by a potential acquisition in the cable arena, which would mean Vodafone is no longer a pure play mobile company.   However, Vodafone’s partial ownership of Verizon Wireless and attractive valuation should support the share price at current levels and leave upside.

Einhorn’s Buy Argument

Vodafone owns 45% of Verizon Wireless and Einhorn believes the market is not accounting for this in its valuation.  Vodafone is slated to receive an $8.5 billion dividend from Verizon Wireless which management has said it will use for share repurchase.  In a recent letter, Einhorn lays out his case to own the stock:

“We have also increased our Vodafone holdings, as the stock fell sharply on news that just doesn’t seem that bad.  After achieving an August peak of £1.92, the shares ended the year at £1.54.  At this valuation, it appears that the market is placing no value on Vodafone’s 45% stake in Verizon Wireless.  And the Verizon Wireless stake is clearly quite valuable”

In the letter he later said, “Excluding any contribution from Verizon Wireless, Vodafone stock pays a 7% dividend and trades at less than 12x cash earnings – roughly in line with other large European telecom companies.  Meanwhile, Vodafone has never become dependent on Verizon Wireless distributions.”

The argument further states that Verizon (NYSE: VZ) derives almost all of its value from its 55% stake in Verizon Wireless.  While the market is attributing around a few billion in value to Verizon for its Verizon Wireless holding, it is giving Vodafone almost nothing for its 45% ownership of Verizon Wireless.  The idea is Vodafone could spin off non-core assets to help unlock value for the shareholders.

Verizon vs Vodafone

In an interview with the WSJ in early January 2013, Verizon’s CEO Lowell McAdam stated he would “love” to own all of Verizon Wireless. Verizon Wireless was created by joint venture in 1999 between Vodafone and Bell Atlantic which following a merger with GTE became Verizon.  In 2005, Verizon Wireless, 55% owned/controlled by Verizon, stopped paying dividends to the dismay of Vodafone.  Since the start of 2006, Vodafone shares are up just 16% compared to Verizon which is up 47%.  Following recent comments by the CEO of Verizon and comments from Einhorn noted earlier, investors are again speculating that Vodafone will sell its stake in Verizon Wireless.  That said, given the reinstatement of a dividend, Vodafone would not likely sell unless the offer was at a significant premium.

Vodafone making a play for a European Cable Company

Vodafone is also making a play to acquire European cable company, Kabel Deutschland (KSG - Ticker: KD8 - ETR) which has not been well received.  Vodafone would no longer be a pure play mobile company if it acquires Kabel Deutschland but the case for the acquisition is to allow for more bundling of services in their core European market.  Shareholders would like to see better use of the close to £7 billion needed to merge with Kabel Deutschland.   Instead, Vodafone could increase capex on its wireless network and be the best of breed wireless provider in Europe.

Vodafone’s Core Business

Vodafone should benefit from its emerging market presence compared to competitors while Europe remains weak.    Also, smartphone’s account for less than 50% of their subscriber base, a number that clearly has room to grow.  As Vodafone further rolls out 3G and upgrades to 4G in South Africa and parts of Western Europe, the share of customers using smartphones should expand.

Conclusion

As Einhorn notes, Vodafone is attractive when looked at on a sum of the parts basis.  It’s valuation has diverged from competitors when taking Verizon Wireless into account and even more so from Verizon.  Pressure from shareholders to unlock value, improvements in smartphone penetration, and share repurchases could act as positive catalysts for the company.  That said, the acquisition of KSG could counter this and weigh negatively on the shares.

 


mthiessen has no position in any stocks mentioned. The Motley Fool recommends Vodafone. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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