What should investors in Vodafone (LSE: VOD) be worried about?
With 404 million customers in more than 30 countries worldwide, Vodafone (LSE: VOD) (NASDAQ: VOD.US) is a business with very definite attractions. A £78bn FTSE 100 (UKX) constituent, last year the company earned a pre-tax profit of £9.6bn on revenues of £46bn.
And with margins like that, no wonder this defensively positioned business is popular with many investors. Better still, with its shares changing hands today at virtually a 12-month low of 158p, the company is rated on a modest P/E of 9.8, and offers income investors a very tempting forecast dividend yield of 7.6%.
But how safe is that share price? And -- of vital importance to income investors -- how safe is that dividend? In short, how could an investment in Vodafone adversely impact investors' wealth?
In this series, I set out to answer just these questions. My starting point: Vodafone's latest annual report, where the company's directors are obliged to address the issue of risk.
Risk management
One immediate thing that I'm looking for is an acknowledgement that risks do exist, and that they need managing.
The good news? As you'd expect from a business of Vodafone's size and calibre, the company has in place a risk management policy, a system of regular reviews, and a number of high-level committees tasked with monitoring the risks that the business has identified.
But what, precisely, are those risks that the company faces?
Read the small print, and Vodafone identifies no fewer than 14 risks as having a significant prospective impact on the company's financial performance. They range from malicious attacks on its network to emergent technologies, and from a loss of consumer confidence to the eurozone exit of a major market.
So let's take a look at three of the biggest.
Regulatory environment
Simply put, with its broad geographic reach, Vodafone must comply with an extensive range of requirements that regulate and supervise the licensing, construction and operation of its telecommunications networks and services.
And pressures on political and regulatory institutions to protect consumer interests, particularly in recessionary periods, can lead to adverse impacts on Vodafone's business -- for proof, look no further than the latest European Union 'roaming' regulations, which have cut phone bills for travellers. Or, as Vodafone itself puts it:
"We have ventures in both emerging and mature markets, spanning a broad geographical area including Europe, Africa, Middle East, Asia Pacific and the United States. Regulatory decisions and changes in the regulatory environment could adversely affect our business."
To counter this risk, Vodafone closely monitors political developments in its existing and potential markets, identifying risks in its current and proposed commercial propositions. Regular reports are made to the executive committee on current political and regulatory risks, which are then considered in the company's business planning processes, including those to do with competitive pricing and product strategies.
Risks to health from mobile phones
On an ongoing basis, concerns are expressed about health risks posed by the electromagnetic signals emitted by mobile telephone handsets and base stations.
Fairly obviously, as Vodafone readily concedes, in the event of a major scientific finding supporting this view, prohibitive legislation might result in a major reduction in mobile phone usage (especially by children), and/or a requirement to move base station sites. As the company puts it:
"Our business may be impaired by actual or perceived health risks associated with the transmission of radio waves from mobile telephones, transmitters and associated equipment."
To mitigate against such risks, Vodafone works closely with European Union institutions, in co-ordination with an international policy team in Brussels, to ensure early warning and advocacy related to possible precautionary legislation. In addition, a group-wide board, devoted to the issues around electromagnetic fields, manages potential risks through cross sector initiatives, and oversees a coordinated global programme to address and reduce public concern.
Network 'hacks' and outages
You only have to look at the consumer anger following outages in the Blackberry network operated by Research In Motion (NASDAQ: RIMM.US) to see that people like their mobile phones to keep working. Throw in the possibility that disgruntled individuals or groups could bring about such outages deliberately, as the risk is obvious. As Vodafone puts it:
"There is a risk that an attack by a malicious individual or group could be successful on our networks. This could lead to a loss of confidential customer data or availability of critical systems. [In addition,] major failures in the network may result in serious damage to our reputation and consequential customer and revenue loss."
How are these risks dealt with? Vodafone's critical infrastructure has been designed to prevent unauthorised access to reduce the likelihood and impact of a successful attack, explains the company. What's more, business continuity and disaster recovery plans are in place to cover residual risk that cannot be mitigated, with specific back-up and resilience requirements being built into the company's networks.
In addition, Vodafone monitors its ability to replace strategic equipment quickly in event of failure, and for components deemed 'high risk', it maintains dedicated back‑up equipment ready for use, pre-installed on trucks ready to be moved to site if required.
Risk vs reward
Two superstar investors who are well-used to weighing risks are Neil Woodford and Warren Buffett.
On a dividend re‑invested basis over the 15 years to 31 December 2011, Neil Woodford delivered a return of 347%, versus the FTSE All-Share's distinctly more modest 42% performance. Warren Buffett, for his part, has delivered returns of over 20% per annum since 1965, transforming himself into the world's third-wealthiest person.
Each, as it happens, are the subject of two special reports prepared by Motley Fool analysts. And they're yours to freely download, without any obligation.
So click here to download this free special report profiling the investment logic behind eight of Mr Woodford's largest and most successful current picks.
And click here to discover which beaten-down British share Warren Buffett has been buying of late -- and why he bought it, and the price he paid.
> Malcolm does not own shares in any company mentioned here. The Motley Fool has recommended shares in Vodafone.
