Why Vodafone's EUR5bn loss shouldn't worry you

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The EUR5bn loss posted by Vodafone (LSE: VOD) in the six months to October has rightly led headlines in the financial press, but should this dramatic splash of red ink scare away current investors?

I don't think so. The main reason is where this loss came from: a writedown of Indian operations. Now, management believing Indian assets are worth significantly less is a major worry, but it doesn't mean the company truly bled EUR5bn worth of cash in H1.

On the topic of Indian operations there are three things investors need to keep in mind. First, the writedown of Indian assets occurred because a new competitor began giving away free mobile services in order to attract customers. This is obviously an unsustainable business plan and some analysts are expecting the subsequent price war amongst telcos to end within 12-18 months and fees to return to normal.

Second, even unsustainable business practices from competitors only decreased Indian EBITDA from EUR917m to EUR892m year-on-year and operations remain solidly profitable.

Finally, Vodafone is still planning to spin off its Indian operations sometime in the near future. Management said this is unlikely to happen in the next six months, but once the company resolves a tax dispute with Indian authorities and the market returns to normal expect to hear more concrete details about the planned sale, and what this cash will be used for.

And it shouldn't be forgotten that the most critical region for Vodafone remains Europe. This is particularly true as operations begin to benefit from the recently ended EUR20bn Project Spring infrastructure investment, which greatly expanded 4G and broadband access across the Continent.

Money well spent

That these investments are paying off is evident in H1 as the company added 15m new 4G customers to take the total number to 58.9m. And there's still substantial room for this to grow as only 32% of European customers currently pay for 4G service. Why is this important? Because 4G customers on average use twice as much data, which means they buy larger data packages and provide Vodafone with greater high margin recurring revenue.

Likewise, broadband customer numbers increased by 525k in Europe alone and the company now boasts 14m sign-ups. Increasing broadband and 4G offerings means greater numbers of customers are signing up for more than one Vodafone service, further lowering churn rates and raising margins.

All these new customers helped boost organic service revenue 2.3% and EBITDA 4.3% in H1. Equally important was the company recording EUR15m in free cash flow during the period. This isn't much but it's a significant improvement on the negative EUR756m recorded last year and further solidified management's guidance for EUR4bn of underlying free cash flow for the full year.

Free cash flow ramping up and increased customer demand for broadband and 4G services points to the several years of major investment finally paying off. Hiccups in India are worrying, but investors should concentrate on the fact that these results show core European operations are turning the corner and earnings are finally forecast to resume positive growth.

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Ian Pierce has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.