U.S. tobacco stocks had a killer 2011 with an average gain of 30 percent. Although they’re off to a wheezing start this year, companies including Altria Group and Reynolds Americanstill represent good value as they’re using their huge cash flows to buy back shares and lift already hefty dividends.
U.S. tobacco stocks are up an average of 3.2 percent this year, while the S&P 500 has risen 8.8 percent, according to S&P.
While big share-price appreciation is great, just as important is the dividend rate and share-buyback programs, and tobacco companies are among the leaders in this mode of boosting shareholder value, which they fund with their huge cash flows.
S&P Capital IQ says that the four U.S. tobacco makers it follows have an average dividend yield of almost 5 percent, and they each raised their dividends at a healthy pace in 2011, ranging from 8 percent to 38 percent.
“The tobacco companies also executed billions of dollars in share repurchases in 2011, and we believe they are likely to continue this strong pace in 2012 and beyond,” the firm said in a recent research note.
And although they’re seeing shrinking unit sales in the U.S., on orders of 4 percent to 5 percent annually, the tobacco companies’ sales are growing internationally and they still have plenty of pricing power to keep profits growing, which serves as an inflation hedge.
The same goes for their international competitors because, despite governments’ efforts to curb the habit, the number of smokers worldwide is expected to continue to grow. Morningstar analysts estimate that “there will be 1.4 billion smokers globally by 2020, up from 1.3 billion today, even if the percentage of the population that smokes declines 1 percent annually.”
Although tobacco companies will likely continue to face challenges in the form of new government regulations and litigation over health issues, it’s important to keep in mind that they are still money machines as each has a record of steady profit growth and increasing cash flow.
What follows is a summary of the prospects of the six largest publicly traded tobacco companies in the world, four from the U.S. and two from the U.K., in order of their domestic market share:
6. Altria Group
Company profile: Altria, with a market value of $61 billion, is the leading seller of cigarettes and smokeless tobacco in the U.S., and the number two seller of cigars. Its businesses include: Philip Morris USA, U.S. Smokeless Tobacco Co., John Middleton, Ste. Michelle Wine Estates, and Philip Morris Capital. It also owns a 27 percent interest in SABMiller, the world’s second-largest brewer.
Investor takeaway: Its shares are up 0.2 percent this year and have a three-year annualized return of 31 percent. They carry a whopping 5.53 percent dividend yield. Altria repurchased $1.3 billion of its shares and has $673 million remaining under its current buyback program, which it intends to complete in 2012. Morningstar analysts say “Altria is well-positioned to generate steady medium-term earnings growth. The addictive nature of cigarettes and Altria’s dominance of the U.S. market are the reasons behind our wide economic moat rating.”
S&P has its shares rated “buy,” and its survey of analysts found three “buys,” three “buy/holds,” 10 “holds,” and one “weak hold.”
5. Reynolds American
Company profile: Reynolds American, with a $24 billion market value, is the second-largest domestic cigarette manufacturer in the U.S. Its brands include Camel, Kool, and Pall Mall and the smokeless tobacco company Conwood.
Investor takeaway: Its shares are down 1.9 percent this year, but have a three-year annualized return of 38 percent and, over 10 years, an annual return of 13 percent. The stock has a 5.51 percent dividend yield. Reynolds launched a 2 1/2 year, $2.5 billion buyback program in November 2011 and subsequently bought $276 million in stock last year. S&P gives its shares a “buy” rating, and in a survey of analysts found two “buy” ratings, two “buy/holds,” seven “holds,” and three “weak holds.”
Reynolds American is expected to earn $2.96 per share in 2012 and earnings will grow 8 percent next year. The company had almost $2 billion in cash on the books at year-end.
Company profile: Lorillard, with a market value of $17 billion, is the third-largest cigarette manufacturer in the U.S. and its flagship brand, Newport, claims a 13 percent share of the domestic market and a 36 percent share of the menthol category.
Investor takeaway: Lorillard's shares are up 13 percent this year and have a three-year annualized return of 32 percent. Over 10 years, the annual return is 17.4 percent. The stock has a 4.81 percent dividend yield. S&P has its shares rated “buy” and its survey of analysts found two “buy” ratings, one “buy/hold,” and nine “holds.”
Lorillard had $1.6 billion in cash at year-end. Lorillard repurchased about $1.6 billion of its shares in 2011 and has $187 million remaining in its current, $750 million program.
3. Philip Morris International
Company profile: Philip Morris International, with a $143 billion market value, is the world’s second-largest tobacco company, behind only state-owned China National Tobacco, with a 16 percent market share. It owns seven of the leading 15 international brands, including Marlboro, its flagship.
Investor takeaway: Its shares are up 4.7 percent this year and have a three-year annualized return of 37 percent. The stock carries a 3.75 percent dividend yield, and it had $2.5 billion in cash on the books at year-end.
Philip Morris spent $1 billion to repurchase 14.5 million shares in the fourth quarter and plans to acquire $6 billion in shares this year. Capital Research Global Investors, parent of American Funds, owns 6.6 percent of the company, the biggest stake of any institutional investor.
Last week, a Florida appeals court overturned an almost $2 million judgment against Philip Morris in a wrongful death suit filed by a smoker’s husband. The 4th Circuit Court of Appeal ruled Wednesday that the smoker, who died of lung cancer at age 73, knew years before the suit was filed that smoking endangered her health.
S&P gives it a “strong buy” rating and a $91 price target, a 10 percent premium to the current price. Analysts give its shares seven “buy” ratings, four “buy holds,” eight “holds,” and one “weak hold.” Its expected to earn $5.29 this year and that that will grow by 11 percent in 2013.
2. British American Tobacco
Company profile: British American Tobacco, with a market value of $99 billion, is the world’s third-biggest tobacco company, selling more than 300 tobacco brands, including Dunhill and Lucky Strike, in 180 countries and is market leader in many with a 19 percent market share worldwide, excluding China. It has the largest emerging-market exposure of any cigarette seller, a big plus, but it’s not a big player in the U.S.
Investor takeaway: British American Tobacco’s shares are up 4 percent this year and have a three-year annualized return of 31 percent. Over 10 years it has a 20 percent annualized return. The stock carries a 2.4 percent dividend yield. Analysts give its shares four “buy” ratings and one “weak hold,” according to S&P. It’s expected to earn $4.80 per share in 2012.
1. Imperial Tobacco
Company profile: Imperial Tobacco, with a market value of $40 billion, is the world’s fourth-largest international tobacco company, excluding privately held China National Tobacco. The U.K.-based company has sales operations in more than 160 countries and is the world leader in the fine-cut tobacco and hand-rolling paper categories, and is also a leading seller of cigars.
Investor takeaway: Imperial Tobacco’s shares are up 7 percent this year, have a three-year annualized return of 22 percent and a 10-year return of 14 percent. Its shares have a dividend yield of 5.4 percent.
U.S. investment house analysts don’t follow the stock. Morningstar analysts say that due to the wide price range of its products, “Imperial is well-positioned to exploit the emerging trends of trading up in Eastern Europe and trading down in more mature markets. Along with Lorillard, the stock remains one of the most attractively valued tobacco names in our coverage list.”
Economic austerity measures in Europe may hurt sales. Morningstar says “there could be further upside to the stock if it comes into play as an acquisition target,” as it would be a good fit with Philip Morris.
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