Which High-Yielder Should You Own: Vodafone Group plc Or Centrica PLC?

Piggy Bank

The last six months has been something of a surprise for investors in Centrica (LSE: CNA) and Vodafone (LSE: VOD) (NASDAQ: VOD.US). That’s because their share prices have been flat and fallen by 14% respectively.

In the case of Centrica, a flat performance is surprising because the company is set to change its management team and is also subject to significant political risk from the result of next year’s General Election. In the case of Vodafone, a large fall is surprising because the company seems to have a sound strategy and is making slow but steady progress. Which one, then, could perform best moving forward?

Super Yields

Both companies offer very impressive dividend yields, with Centrica currently having a yield of 5.4% and Vodafone’s yield being slightly higher at 5.5%. Clearly, both stocks are going to be of interest to income-seeking investors.

However, where the two companies differ markedly is in terms of their dividend coverage. In Centrica’s case, its dividends are adequately covered by earnings, with profit being 1.2 times the current dividend. Vodafone, though, currently pays out more in dividends than it generates in profit, with its dividend coverage being 0.59. In the short run, a company with the financial firepower of Vodafone is able to withstand such a situation, but in the long run, paying out more in dividends than generated by profit is clearly unsustainable.

Challenging Markets

Both companies are currently finding their respective markets highly challenging places to be. In Centrica’s case, the constant spotlight on the domestic energy sector is putting pressure on its pricing, with the company seemingly being partly blamed for a ‘cost of living crisis’. Furthermore, if Labour were to win next year’s General Election it could hurt Centrica’s bottom line, since the party is promising a two-year price freeze on electricity and gas prices.

Similarly, Vodafone’s focus on Europe after the sale of its stake in Verizon Wireless is causing it some short-term pain. While its strategy of buying undervalued assets in the Eurozone could turn out to be a great idea in the long run, anaemic growth in the Eurozone is causing profitability to improve at a slightly disappointing pace.

Looking Ahead

Although shares in Centrica come with a generous helping of political risk, the current share price seems to adequately price this in. For instance, shares in the company trade on a price to earnings (P/E) ratio of 12.1, which is far lower than other utility companies that are not subject to the same degree of political risk. As a result, its shares seem to offer good value at their current price.

Indeed, while Vodafone’s strategy looks sound and very logical, it may struggle to deliver strong earnings growth in the short run as the Eurozone continues to offer only anaemic levels of growth. For this reason, as well as the fact that dividends currently exceed profit, Centrica looks to be the better buy right now.

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Peter Stephens owns shares of Centrica. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.