The Motley Fool

Why I think the BT share price is a better buy than Vodafone on 7.9% dividends

The BT (LSE:BT.A) share price has bounced back from the doldrums, and despite some shock news recently, I think it still makes a good investment case for income investors.

Virgin announced on 6 November its was moving its mobile operations over to rival Vodafone (LSE:VOD).

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Cable broadband specialist Virgin doesn’t have its own mobile infrastructure and so must piggyback on a network; first on EE and now Vodafone. The £200m contract switch was apparently made on cost grounds, taking 3 million Virgin customers off BT’s books.

Still, I say BT is attractive because its share price is at multi-year lows. A headline dividend of 7.9%, and a trailing price-to-earnings ratio of 7.5 means it is super cheap, too. But is Vodafone the better bargain?

5G all the way

Since BT’s £12.5bn buyout of EE in 2016 the mobile network has dominated every category in data speed, coverage, and reliability with 4G and 4G+.

But since the UK regulator Ofcom’s 5G spectrum auction, Vodafone has come into its own. In the second half of 2019 data analyst Rootmetrics, which charts speed and reliability city-to-city, found Vodafone 5G faster and more reliable than long-time king of the hill EE.

Vodafone debt hangs heavy

There’s been talk of a takeover or merger between Virgin and Vodafone’s UK businesses for years. They certainly have close ties in Europe. Virgin’s owner Liberty Global owns half of Vodafone’s Dutch mobile and broadband service and in 2019 sold almost a third of its assets to Vodafone in a €18.4bn deal, giving it 25 million new customers across Germany, Hungary, Romania, and the Czech Republic.

But Vodafone financed the deal with massive amounts of debt. And that’s what led bosses to dismiss 20 years of history with a 40% dividend cut in May 2019.

I think investors should be concerned about the forward pressure this puts on Vodafone’s balance sheet even as group CEO Nick Read says his focus is on “reducing our financial leverage towards the lower end of our targeted 2.5–3.0 times range“.

Vodafone’s price-to-earnings ratio is now in minus numbers. It swung to a €2.61bn loss in 31 March 2019 results, from €43bn in revenue. Half-year results are out on 12 November.

BT free

The telecoms behemoth is a classic recovery bid. Buying an out-of-favour stock when the herd is heading in the opposite direction takes some gumption and fortitude but you will be smiling if it pays off.

Both bargain hunters and income investors have something to gain from BT, in my opinion. The share price rebounded 15% from 160p in August and now hovers around the mid-190p mark. I think there’s more upside in the BT share price than Vodafone, simply because prices are so low.

And losing Virgin’s £200m contract after 20 years – as much as it stings and makes headlines – is still a drop in the ocean on half-year revenues of £11.4bn, reported on 31 October.

As income investors, more than anything we want more our dividends every year like clockwork. BT have said that investing in their network will take precedence over sky-high dividends. I think that’s the right strategy.

The contract loss will make BT’s dividend coverage tighter, City analysts say, which means that money may not come back to shareholders. I would price in a possible dividend cut from BT if you’re looking to load up on the shares.

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Tom has no position in the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.