VODAFONE makes the case against index-tracking funds better than any other single share. As one of the fastest-growing big companies in Britain, the mobile telephony group grew from 1 per cent of the market value of the FTSE 100 index at the start of 1997 to 3 per cent by early 1999 as its price soared.
In the next few months, however, its market value jumped to 16 per cent of the capitalisation of the UK’s top 100. This happened because the group was virtually doubling its size by buying the German Mannesmann. This occurred during the final leg of the internet/telecoms boom. So tracker funds, as well as the larger number of fund managers who informally mimic indices, bid Vodafone shares up to 384p, a level not glimpsed in the six years since.
After Vodafone revealed a far from niggardly 7 per cent growth in revenue for its third quarter, its shares sank below 120p. In effect, they have registered no net gain since the market bottomed in March 2003. Along with the top oil and drugs groups, and HSBC bank, Vodafone remains one of the leviathans that distort the FTSE 100, but it is down to 5 per cent of the index.
Not surprisingly, fund managers are restless, especially those who gave themselves no option but to buy Vodafone at inflated prices and hold it come what may. Small investors are not crazy about things either. Many were persuaded to switch from boring old UK-shackled BT to dynamic, globally-expanding Vodafone in the heady days. Most would have been better off switching out of telecoms altogether or into something much smaller than these utility-sized groups.
O2 and Virgin have been the telecoms shares to own recently. Eighteen months ago, these were regarded by many analysts as no-hopers. As Vodafone demonstrated in the winter of 1999-00, however, the demand for shares matters more than best estimates of long-term market position, profits or dividends. O2 and Virgin found bidders for 100 per cent of their stock. The Spanish Telefónica wanted to fulfil its pan-European dreams at one swoop in the open London market. NTL, revitalised after a restructuring that left its old shareholders virtually nothing, wanted to swap its negative brand name for Virgin’s to promote a TV/communications package to consumers.
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Much as fund managers wish otherwise, Vodafone is as yet no more of a takeover candidate than BT. It is an immensely strong, successful UK multinational. But institutions that want Vodafone stock probably already have plenty of it, mostly bought at higher prices. So they just hate the company.
From 1998 to 2001 fund managers and analysts valued Vodafone at between 50 and almost 100 times earnings. If market forecasts are right, the shares now rate 11.8 times earnings for the year to April, well below the market average. Like other big telecoms groups, Vodafone is in transition between exciting growth stock to steady utility. These descriptions appeal to very different kinds of investor.
Disappointed growth investors are knocking on the door demanding their money back. They have pushed Vodafone into extravagant buybacks to cut its share capital. Utility investors want regular income. Vodafone is raising its traditionally small dividend rapidly but this has not impressed US funds, which apply blinkered local tests unsuited to much of the rest of the world. So Vodafone shares yield a prospective 3.9 per cent income, which is heartwarmingly above the market average as well as being securely covered.
Vodafone and integrated groups such as France Telecom, Deutsche Telekom and Telefónica are not the same as traditional utilities. Like the big continental power companies, they face competition and pressure on fat profit margins. They also still have chances of exciting growth rates.
Vodafone has invested billions in its third-generation mobile telephony network, as well as paying over the odds for some licences. It has yet to earn the revenue to match, but this is beginning to build up.
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Yet the City really wants to see Vodafone sold to a foreign group, such as O2, T-Mobile or Orange. Having stopped Vodafone making a US acquisition, investment bankers now plan to push the board into selling out of Verizon, its quarrelsome but lucrative US joint venture, to fund another return of capital. It would then be left as an unsurpassed rest-of-world network suitable for acquisition by one of several US groups. That is the way they think.
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