3 reasons I just bought Vodafone shares

One of the first trades in my portfolio this year was a buy into a telecom giant Vodafone (LSE: VOD). The stock price has fallen 24% in a year. It has been trading near 12-month lows in the past few weeks. This may suggest that there is no recovery yet and prices may continue to fall. However, I took advantage of the crash to buy Vodafone shares. Here are three reasons why.

1. underlying business strength

Vodafone clearly has some problems, as suggested by the fall in its share price. One of the things that bothers me the most is the huge debt.

Net debt stood at €46bn at the end of September. The company announced this week that the sale of its Vodafone Hungary business will help reduce debt, although the €1.7bn cash consideration will hardly reduce the debt pile. A bigger solution is needed.

But telecommunications is an expensive business. Building and maintaining a licensed network requires heavy capital expenditure. The advantage is that it creates a high barrier to entry and helps keep competition low. As a consumer, I don’t like it – but from an investment perspective it can be rewarding.

Vodafone operates in dozens of markets across Europe and Africa, serving more than 300 million customers. Digital demand is set to continue to grow. Vodafone’s customer base and strong brand can help it benefit from that.

2. attractive price

Vodafone’s share price currently has room to grow, in my opinion.

A price-to-earnings ratio of 9 seems undesirable. The company has a market capitalization of £24bn. Even considering debt, which seems cheap for a big telco that last year generated a profit of €2.6bn. This is one of the reasons I bought the stock this month, given its value.

3. Juicy dividends

A company’s dividend yield is expressed as a percentage of the current share price. So falling stock prices have an impact on returns.

That means I can now buy Vodafone shares and expect a return of 8.7%. Vodafone isn’t the only telco that produces juice. BT offers 6%, for example. But Vodafone’s results are still very high. Indeed, this is my main reason for buying the stock.

To fund dividends, a company must generate sufficient free cash flow. Vodafone’s balance sheet looks unhealthy to me and there is a risk that it could cut dividends to pay off debt. The company has form in this area, after reducing payments in 2019. But even if it makes the same cut this year – about 40% – the prospective income at current prices can still exceed 5%. That’s still attractive to me, though less exciting than 8.7%.

I think Vodafone’s depressed share price suggests that many investors are expecting a cut. So when it comes, Shares can actually recover some ground as the City refocuses on the underlying investment case. If, as I believe, there is no deduction, as a shareholder, I can benefit from a good dividend.