The Best Large-Cap Income Opportunity I Can Recall

David O’Hara, The Motley Fool

LONDON -- Representing about 6% of the FTSE 100 (INDEX: ^FTSE) , Vodafone (NAS: VOD) is one of the biggest and best dividend-payers in the blue-chip index -- and that payout is growing at an impressive rate. Throw in special dividends, and Vodafone could be the best income opportunity in years. For 2011, shareholders received 8.9 pence per share from Vodafone. For the year ending March 2012, this figure rocketed to a massive 13.52 pence.

There are two reasons for this large rise: growth in Vodafone's ordinary dividend and a 4 pence special dividend for 2012.

Dazzling dividend
For 2010, Vodafone's dividend was 8.31 pence per share. Around that time, the company announced its intention to grow the payout by 7% per annum for the next three years. If Vodafone can meet this target for 2013 (Vodafone has a March year-end, so we are in Vodafone's fiscal 2013 now), then the ordinary part of the dividend would hit 10.2 pence per share. At today's share price, that alone is nearly a 6% yield.

The kicker here is the possibility that the additional 4 pence special dividend may be repeated. The special dividend came from Verizon Wireless. Verizon Wireless is a U.S. mobile-network operator formed as a joint venture between Vodafone and Verizon Communications. Vodafone owns 45% of Verizon Wireless, and Verizon Communications owns the rest.

Verizon holds the key
Until recently, Verizon Wireless had been using the cash flows in its business to finance acquisitions and investments. This changed last year when the company announced it would pay its owners a dividend. Vodafone's share of this amounted to 2.8 billion pounds for 2012, which it then used to pay its own shareholders a 2 billion pound special dividend.

Vodafone is the junior partner in Verizon Wireless. Verizon Communications decides whether the joint venture pays a dividend or not. To ascertain the future income stream Vodafone represents, investors must get a measure of the probability and magnitude of dividends from Verizon Wireless.

I spoke with Tom Gidley-Kitchin, the Vodafone analyst at stockbroker Charles Stanley. Tom researches Vodafone and its industry day in, day out. So how does he assess the dividend situation at Vodafone? Tom says:

While Vodafone has committed to increasing its ordinary dividend by 7% per annum next year, there is no such public commitment from VZW to its shareholders. ... VZW is producing more than $1 billion of free cash per month. Unless VZW spends this money on acquisitions, I envisage continued dividend payments to Vodafone.

Verizon Wireless has a net cash position. The company is also enjoying large revenue growth. Consensus estimates of Vodafone's future dividends reveal that a number of analysts are expecting special dividends to be paid during the next two years.

If Verizon Wireless pays Vodafone again in 2012, the dividend to Vodafone shareholders could hit 14.2 pence (10.2 pence in an ordinary dividend and 4 pence in the special). At today's price, that's a massive 8.4% yield. Normally, when a company is paying that level of dividend, there are concerns on its sustainability. Of course, Verizon Wireless might not pay out. Even in this scenario, however, Vodafone could still pay the normal 10.2 pence dividend.

Currently, it seems investors are looking at Vodafone in a "glass half-empty" way. More bullish investors might think that, just as Vodafone has increased its normal dividend to shareholders, it might be possible for Verizon Wireless to increase its dividend to Vodafone as well. No doubt the effect of Verizon Wireless has crossed the mind of City dividend legend Neil Woodford, who counts Vodafone as one his largest income holdings. You can read more about Neil Woodford's market-beating dividend portfolio in this free report: "8 Shares Held By Britain's Super Investor."

Vodafone is a dominant player in its markets. This position brings high visibility of earnings -- something investors usually pay a premium for. With the normal dividend already substantial and more special dividends on the horizon, Vodafone looks the best large-cap income opportunity I can recall.

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At the time thisarticle was published David does not own shares in any of the companies mentioned here.Motley Fool newsletter services have recommended buying shares of Vodafone Group Public. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

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