Around 87p now, Vodafone’s share price looks cheap to me anywhere under £2.13
Vodafoneâs (LSE: VOD) share price is trading very close to its 28 August one-year traded high of 89p. This follows a 40% gain from its 12-month traded low of 62p seen on 9 April.
Regardless of this, there may may still be enormous value left in the stock. This is because a shareâs price and its value are not the same thing.
The former is whatever the market is willing to pay at any given time. But the latter reflects underlying business fundamentals.
So, my starting point in looking at any growth share is not to focus on its price. Rather, it is to ascertain its fair value.
Whatâs the stockâs fair value?
Many investors try to establish a shareâs value by looking at popular ratios, such as price-to-earnings.
The major flaw I have found with these are that they are comparative measures only. So, a stock could look undervalued compared to its competitors on these measures but still be fundamentally overvalued.
There is a growing awareness among investors that this could be true in the artificial intelligence stock sector, for example. I saw the disastrous effects of comparative valuation methods during the âdotcom bubbleâ in the mid-1990s.
Instead, my experience has shown me that the best way to ascertain any stockâs fair value is the discounted cash flow method.
Crucially, this is a standalone valuation, so not prone to distortions across a sector. Rather, it pinpoints the price where any stock should trade, based on cash flow forecasts for the underlying business.
Within these cash flow forecasts are factored a firmâs earnings (or âprofitsâ) growth. And this is the key driver to any companyâs share price (and dividends, if applicable) over time.
In Vodafoneâs case, the DCF shows its shares are 59% undervalued at their current 87p price.
Therefore, the fair value of the stock is £2.13.
What about projected earnings growth?
A risk to Vodafoneâs earnings is the high degree of competition in the mobile telecommunications sector.
However, analysts forecast that its earnings will increase by a whopping 59% a year to end-fiscal year 2027/28.
Recent results were solid enough, in my view. In Q1 fiscal-year 2025/26, total revenue rose 3.9% year on year to â¬9.4bn (£8.16bn) while service revenue increased 5.3% to â¬7.9bn.
Service revenue is the income from the telecommunications services it provides to its customers. Revenue is the companyâs total income, including from the sale of phones and other devices.
That said, I expect a big boost to earnings to come from Vodafoneâs merger with Three. The new âVodafoneThreeâ entity started operating on 1 June.
A day after, the parent companies (Vodafone and CK Hutchison Group Telecom Holdings) announced a £1.3bn investment in VodafoneThreeâs network in the first year.
The aim is to secure the market leadership position in the UK over EE and O2.
It was also announced that £11bn would be invested over 10 years to create Europeâs most advanced 5G network.
My investment view
I already have shares in BT, so to own another telecoms stock would unbalance my portfolio.
However, I think Vodafone is well worth the attention of other investors who do not have the same problem.
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Simon Watkins has no position in any of the shares mentioned. The Motley Fool UK has recommended Vodafone Group Public. 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.
