Anyone who bought Vodafone (LSE:VOD) shares 12 months ago is laughing. That’s because the telecommunications giant has been busy executing a remarkable turnaround and has, so far, generated 69.1% total return since April last year.
That means anyone who bought £5,000 worth of shares is now sitting pretty on £8,455. But if Vodafone keeps up its current pace, this might be just a tiny slice of the profits yet to come.
So what needs to happen for Vodafone shares to keep on climbing? And what are the key risks that investors need to keep a careful eye on?
Can the recovery momentum continue?
After a near-decade of near-continuous decline, CEO Margherita Della Valle is delivering the operational turnaround that a host of previous leaders failed to achieve.
With non-core operations divested to raise funds, Vodafone’s balance sheet is slowly being deleveraged, with underlying free cash flow incrementally improving. And just a couple of months ago, management began selling off its stake in VodafoneZiggo Group to raise another €1bn.
But while these divestments provide some short-term financial flexibility, it’s the company’s operations in Germany that are the critical turnaround factor. Due to fierce competition and its own complacency, Vodafone’s core German operations have been in steep decline for years.
However, as per the group’s latest results, this part of the business has finally returned to growth. In fact, it’s now sitting on its second consecutive quarter of improvement, marking a potential inflexion point.
At the same time, its recent merger with Three UK is currently moving ahead of schedule, while its novel fintech payments business in Africa continues to grow at an impressive pace.
With more free cash flow at hand, the balance sheet’s getting steadily repaired and operations are taking back market share, so Vodafone shares seem to have exciting potential.
What could go wrong?
While the group’s progress made so far is encouraging, it’s critical for investors not to get too excited too quickly.
The company still has €51.5bn of debts & equivalents on its books – not something divestments alone will be able to clear. And with Vodafone promising regulators to spend £11bn in infrastructure upgrades within the UK to receive the green light for its Three UK merger, free cash flow flexibility remains constrained.
As for Germany, once again, the business seems to be moving in the right direction. But it’s important to note that the ‘inflexion point’ is so far not guaranteed. Service revenues have indeed returned to growth, but only by a tiny margin. And the competitive pressures that historically chipped away at its market share are still present today.
So where does that leave investors today?
The bottom line
For now, Vodafone’s recovery remains fragile. Sentiment’s rightfully improving, but there are still plenty of weak spots that could derail progress, with Germany being what most institutional analysts are watching closely. Investing early in a recovery story is a risky endeavour. But if management’s strategy continues to succeed, it could prove to be a lucrative move.
Personally, I think there’s enough potential here to merit a closer look at Vodafone shares for long-term (and patient) investors.
