Why Is Vodafone Group plc So Expensive?

Shares in Vodafone (LSE: VOD) (NASDAQ: VOD.US) used to be highly valued based on the company’s potential for earnings growth and its commitment to rising dividends.

Earnings falling

VodafoneBut with earnings per share (EPS) having fallen in the year ended March 2014 and with a massive 60% slump forecast for 2015, on today’s price of 195p the shares are on a forward price to earnings (P/E) ratio of more than 27!

That’s one of the highest in the FTSE 100, and isn’t far behind the valuation of ARM Holdings — and ARM has far higher growth predictions.

So why are Vodafone shares valued at almost twice the FTSE’s long-term average P/E rating of 14?

It can’t be because of great growth forecasts, because there aren’t any — that fall in EPS on the cards for the coming year follows on from a 13% drop last year — and 2015’s EPS looks like it will be less than half what it was back in 2010.

Dividends stretched

The predicted dividend yield of 5.5% might justify a higher-than-average rating for the shares, but at 11.4p per share it won’t be anywhere near covered by earnings of just 7.2p.

And what’s more, from its historical commitment to keep dividends growing each year, Vodafone has famously backtracked and now only aims to at least match the previous year’s payout.

Today’s high valuation comes after a bit of a share price slide too. After climbing steadily for the whole of 2013 on the back of the Verizon sale and various bid rumours, it has fallen back from a peak of more than 250p.

After the Verizon deal we had talk of an attempt by AT&T, followed by speculation that Vodafone itself might be set to launch a bid for BSkyB.

And so the speculation continues, with Japan’s SoftBank the latest lined up by the rumour-mongers as the one to try to buy out the UK mobile phone giant.

And AT&T, allegedly, is still waiting in the wings for Vodafone’s share price to fall far enough to be worth a punt.

Who will buy Vodafone?

I have no idea what will happen, but while this takeover speculation is hot, Vodafone’s shares will continue to look overvalued on fundamentals — and that’s no basis for a long-term investment decision.

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Alan does not own any shares in Vodafone. The Motley Fool has recommended shares in BSkyB.