Vodafone has spent recent years heavily focused on constraining cost – despite fiber and 5G expansion – and preserving cashflow. Its priorities have been to streamline and centralize its processes and procurement, to leverage its international scale better; to unlock value buried in infrastructure assets, notably with the creation and IPO of Vantage Towers; and to try to align 5G capex with the potential of each market, rather than taking the old build-and-they-will-come approach of Vodafone’s heyday in the 3G era.
Following the announcement of its full year results, Vodafone surprised investors by talking about an increase in capex, though almost entirely focused on its largest market, Germany, and on further developing centralized group functions and platforms.
In fiscal 20/21, the operator’s sales fell by 2.6% to €43.8bn, blamed on a pandemic-driven slump in roaming revenues and the impact of exchange rate changes. Full year service revenues fell by 1.9% to €37.1bn. However, Vodafone increased its operating profit by more than 24% to €5.1bn and reduced its debt slightly, though this remained at €40.5bn – but investors were more worried about plans to increase capex and eat into free cashflow, reversing the central points of Vodafone strategy under CEO Nick Read, which have been to boost free cashflow and keep capex on a tight leash.
Vodafone aims to invest about €8bn ($9.8bn) in capex this fiscal year (to end of March 2022), up from €7.85bn ($9.6bn) for the one just ended and €7.41bn ($9.1bn) in FY 2019. An analyst at Jefferies spoke for many investors when he said the “capex creep overshadows relatively solid 4Q results and promise of consistent margin expansion into the mid-term.”
Thanks to four years of Read’s cost efficiency and centralization measures, free cashflow of €5.2bn ($6.4bn) is expected this year, up from €5bn ($6.1bn) previously, and Vodafone is predicting earnings of between €15bn ($18.3bn) and €15.4bn ($18.8bn), compared with €14.4bn ($17.6bn) last year.
Germany is increasingly critical to the operator’s performance, and the country where it has invested the most money in recent years, starting with the acquisition of Kabel Deutschland, which turned Vodafone into a fully fixed/mobile operator on a scale it has not achieved in most other markets. This was followed by the acquisition of Unitymedia in 2019, and Vodafone Germany says it is eight months ahead of target for achieving the synergies expected from that merger, and has currently managed 70%.
For the full fiscal year (FY20-21), Vodafone Germany was the only major European operating company that delivered growth, with a 0.5% increase in service revenue, to €11.5bn, despite consumer and enterprise spending caution in the midst of the pandemic.
The opco’s adjusted EBITDA jumped by 1.8% to €5.6bn, accounting for 39% of the earnings of the whole group. By contrast, Vodafone’s other big European opcos – the UK, Italy and Spain – delivered €4bn in EBITDA between them.
These figures illustrate that Vodafone’s old structure of basing its European business around the four pillars of its major countries is now irrelevant as Germany becomes more dominant. After Brexit, it is even in doubt whether the company will keep its global headquarters in the UK in the medium term. In its home market, it is in third place in the mobile space and has far less wireline reach than its main rivals, and will now face a new integrated competitor, the merged O2/Virgin Media (see separate item).
Certainly, Germany will get the richest pickings from Vodafone’s capex pot, though the company remains cautious about sharp spending increases, and wants to offset the cost of 5G expansion with cost cutting, and with increased centralization of procurement, to support efficiencies, scale and improved negotiating power.
However, Vodafone was more willing than usual to talk about medium term expansion plans, including new digital services strategies, rather than just about short term financials. And it is looking a little more ready than usual to spend some capex dollars, even if mainly in Germany. By comparison with US operators like AT&T – which announced significantly increased capex plans following the sale of media assets – Vodafone remains very tight-fisted, but its comments were still enough to worry its ultra-conservative investors, and the telco’s shares fell by 7% after its results announcement. The markets no doubt have an eye on Vodafone’s net debt mountain, which was still over €40bn at the end of the fiscal year.
CEO Read and CFO Margherita Della Valle set out some medium term growth plans, acknowledging these would require some targeted capex increases, but not quantifying how far they might push their capex intensity level beyond the “mid-teens” in which they live. They argued that the company needs to concentrate its launches, and its spending, more than expected because there is a “window of opportunity” associated with the hoped-for bounceback in consumer and enterprise confidence after the pandemic. Read said he wanted to increase capex in order to accelerate the momentum that Vodafone believes it is gathering from the Covid-inspired focus on connectivity, and to exploit a one‑off post-Covid window to monetize this more permanently.
“The world has changed around us in many, many ways — positively, negatively. But for us, I think this is a really unique moment of time,” Read said in his comments on the results. “The pandemic has effectively accelerated digitalization by five years, and, in addition to that, you have the EU Recovery Funds that are going directly to digital, further accelerating these trends. I feel the hard work and the focus that we have had as a management team over the last three years has really positioned us to grab that opportunity and advance to the next phase of our strategy.”
Read said in his statement: “We have delivered on the first phase of our strategy to reshape Vodafone as a stronger connectivity provider – including the simplification of the group to Europe and Africa, the successful IPO of Vantage Towers (€13.2bn market capitalization), the fast roll-out of our next generation mobile and fixed networks, share gain in broadband subscriptions and continued reduction in customer churn.”
He added: “Our digital transformation initiatives have generated savings of €0.5bn over the year and the integration of the assets acquired from Liberty Global is well ahead of plan. The world has changed. The pandemic has shown how critical connectivity and digital services are to society. Vodafone is strongly positioned and through increased investment, we are taking action now to ensure we play a leadership role and capture the opportunities that these changes create.”
While India remained problematic, Vodafone did see growth in its African region, and is looking to markets such as Kenya for future expansion. It hinted that, in the period to 2025, it would consider expanding its footprint – as it is hoping to do in buying an operating licence in Ethiopia via a consortium led by its South African affiliate, Vodacom. Also in Africa, potential strategies include joining consortia to invest in fiber networks; and separating out the highly successful mobile finance operation, M-Pesa, which is a crown jewel in Vodafone’s African business, in order to make it easier to attract strategic investment partners.
So, growth in Africa is all about finding new partners to share the investment burden, but in Europe, Vodafone is prepared to boost spending in its own right in two areas – in Germany, and in centralized group functions. Read is a great believer in driving cost and process efficiency by centralizing more decisions and operations and adopting standard platforms and procedures across all its opcos. Its main central functions are Group Technology, Group Shared Services, Vodafone Business, and the new infrastructure arm, German-based Vantage Towers.
Della Valle said increased investment will be focused where Vodafone believes it can gain a return-on-capital over and above the weighted average cost of capital, which does not leave a European telco with much room to move. “Our capital allocation is clearly a process driven forensically by returns. The majority of the additional investment is essentially going to two areas. One is Germany, as it should, of course, and then the other (for platforms and for Vantage) is central activities,” she said.
Within those two areas, specific areas for investment will include network performance improvement, which will receive about one-third of the planned extra capex. Other targets will be “new growth areas”, with projects such as rolling Vantage Towers’ commercial growth strategy and digital platforms into the Group’s TechCo vision.
All this means there is less autonomy for the opcos, especially those whose results are flagging. In Spain, service revenue fell by 2.8% in the year, and Della Valle was clear there will be no relaxation of capex ceilings in such markets. However, Vodafone Spain is probably the opco that will be in line for the largest European Recovery Fund allocations, and Read expects to use that to develop Vodafone Business offerings to support economic stimulus programmes in the country.
While Vodafone does not please its shareholders when it talks of investing in networks, especially at the expense of dividends, that is where it is on solid ground in terms of its own expertise and the current mood of infrastructure-centric markets. Where it is on far shakier ground is talking about investment in building digital businesses. Vodafone has periodically taken an aggressive position on building web, content and applications businesses, but these have rarely contributed significantly to growth – and the company should take a look at the warning signs from Telefónica Digital (see separate item).
Some of Vodafone’s digital activities are actually about cost reduction, particularly its development of AI assistants to support customer service. The firm said: “In the new decade, our ambition is for customers to primarily interact with us in a ‘digital first’ manner. Our investments in this area have already resulted in our artificial intelligence-enabled assistant (‘TOBi’) resolving 63% of customer support interactions with no human interaction and an approximate 5% reduction in the frequency of customer contacts per year to 1.4.”
Vodafone also aims to operate on a “Telco as a Service” (TaaS) model, which is based on two existing layers of digital technology – a suite of customer-facing interfaces called OnePlatform, and a Digital eXperience Layer (‘DXL’), which separates customer-facing microservices, requiring frequent and rapid adjustment, from back end systems such as billing and CRM.
The digital strategy will also rely on increased cloud migration for the core and eventually the RAN. The company said it had already moved more than half its core network functions to the cloud in Europe, supporting voice core, data core and service platforms on over 1,300 virtual network functions (VNFs).