Where Does Vodafone Go for Growth?

New boss Arun Sarin can't gobble rivals like Chris Gent did

In his nearly seven years at the helm of Britain's Vodafone Group PLC, Christopher Gent transformed an unknown wireless startup into the biggest mobile-phone company on the planet, sinking nearly $300 billion into deals in 28 countries. No doubt about it, Sir Christopher was a swashbuckler, perhaps the biggest British business ever produced. But what's a company to do when the swashbuckling stops?

Vodafone and its investors are about to find out. On July 30, Gent retired, leaving Vodafone in the hands of his successor, 48-year-old Arun Sarin, an industry veteran who ran AirTouch Communications Inc. in the U.S. before it was acquired by Vodafone.

By all accounts (he's not giving interviews), Sarin is a skilled integrator of different businesses, while Gent's style was more that of a conqueror. Sarin has a lot to integrate. On one level, Vodafone is possibly the world's strongest mobile operator. It has 122 million customers, $55 billion in sales, and a brand known across Europe. Vodafone live!, a nifty new service that lets subscribers take and swap photos, already has 1.7 million users. Company fundamentals are pretty good, too. Gent paid for his acquisitions with shares, avoiding cash deals that would have wiped out the balance sheet. After spending $23 billion on third-generation licenses, Vodafone is generating some $8 billion in free cash flow annually. Sarin could, if he wanted, pay off the company's $22 billion in debt by 2006.

By other measures, though, Vodafone looks less impressive. Its stock market capitalization has grown twelvefold since Gent became CEO in 1997. Yet the value of each share has not even doubled over the same period -- blame the tech swoon and the dilutive effect of Vodafone's penchant for issuing new shares to pay for deals. Investors have also had to swallow losses related to acquisitions. After writing off nearly $23 billion in goodwill, Vodafone reported a net loss of $14.6 billion for the year ended Mar. 31, 2003. Some investors wonder how productive Vodafone is. "Their return on invested capital is now about 3%. They need to get that up to the high single digits," says Bruno Lippens, portfolio manager with Dutch asset management firm Robeco.

More important, though, is the quest to find the next source of double-digit revenue growth. Mobile ownership in Europe, Vodafone's core market, is approaching saturation: In Britain, it is already close to 80% of the population. Greater efficiencies in purchasing, marketing, and technology among Vodafone's far-flung units could save some money and boost revenue. But how much synergy can you get from a company that must appeal to local tastes in Italy, Britain, and Japan, to name a few? "Pulling together all of Vodafone's operations is a difficult task," says Derek Mitchell, portfolio manager at ISIS Asset Management in London, which owns 1.3% of Vodafone shares.

These constraints may force Sarin back onto the acquisition trail blazed by his old boss. When Gent prowled the globe, big game such as AirTouch in the U.S. and Mannesmann in Germany were still in abundance. Now there are mostly small fry. Sarin will probably boost existing stakes in Omnitel in Italy or Panafon in Greece to tighten his grip. But these are not company-transforming moves.

Sarin actually has only two chances for major deals. One is in the U.S., where Vodafone owns 45% of Verizon Wireless. According to an option agreement, Vodafone can force Verizon to buy out its stake in tranches for as much as $20 billion sometime between next July and August, 2007. Exercising that option would give Vodafone both the capital and the chance to bid for some other U.S. mobile operator, such as AT&T Wireless. But Vodafone would have to invest heavily in any new U.S. acquisition. Besides, Vodafone pocketed a $785 million dividend in the latest fiscal year from its Verizon investment. Sarin may not want to lose that income.

That leaves France, where Vodafone has a minority stake in No. 2 carrier SFR, controlled by Vivendi Universal. Gent tried to wrest control of SFR last year. But now that Vivendi is deconglomerating, Sarin may have another shot. It's worth a try: With a mobile penetration of only 64%, France is the only market left in Western Europe with solid growth prospects. Solid growth is just what Vodafone needs.

By Kerry Capell in London

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