Shares in British American Tobacco (BATS) puff 4.5% higher to £41.52 on Thursday, as the Dunhill, Lucky Strike and Pall Mall cigarettes maker reports a surge in half year sales and taxable profits.
News that the world’s second biggest global tobacco company’s cigarettes and tobacco heating products (THP) portfolio outperformed a structurally-evolving industry, with its less harmful next generation products (NGP) portfolio growing strongly, is well-received and ‘BAT’ is ‘on track for another good year’.
In the new issue of Shares, we explain why tobacco stocks, long-prized for their brands, pricing power, copious cash generation and plump dividend payouts, have de-rated and present the bull and bear case for the sector. For a more in-depth look at the investment case for BAT and smaller rival Imperial Brands (IMB), subscribers should click here.
BAT’s sales were up 57% to £11.64bn in the half year to 30 June, driven by 11% growth in volume from cigarettes and THP, boosted by price increases and the inclusion of £41.8bn acquisition Reynolds American as a wholly-owned subsidiary. Profit before tax wafted more than 30% higher to £3.97bn and cash generated from operations shot up 126% to almost £3.86bn.
Cigarette ‘stick’ volumes are declining in developed markets amid increased health awareness, decreasing social acceptance of smoking and legal and regulatory changes, including the introduction of plain packaging in numerous countries.
Yet BAT benefits from being highly diversified with a presence in 200-plus markets and an attractive emerging markets footprint. The half’s revenue haul included 8.5% growth from BAT’s winning strategic portfolio, with 5% growth from strategic combustible brands (Dunhill, Lucky Strike, Pall Mall, Rothmans).
NGPs - A GLIMPSE OF THE FUTURE
But today’s real excitement centres on the 167% growth of the NGP portfolio to £427m. Albeit still a small part of BAT’s business, THP revenues were up over 750% to £305m, driven by the glo heatstick in Japan, vapour chipped in £122m of sales and there was 11.3% growth in oral tobacco products (moist snuff brands).
‘Our strategy is to continue to grow our combustible business while investing in the exciting potentially reduced risk categories of THP, vapour and oral,’ says CEO Nicandro Durante. ‘As the group expands its portfolio in these categories, we will continue to drive sustainable growth.
‘Despite the recent slowdown in the THP category in some markets, including Japan and South Korea, we remain confident of exceeding £1bn of reported revenue in NGP in 2018 as we expect a range of new launches to re-energise growth in THP in the second half of the year,’ enthuses Durante, anticipating ‘another good year of adjusted earnings growth at constant rates of exchange.’
While foreign exchange rates were an 8% headwind for first half results, BAT now estimates a more benign 5%-to-6 % hit from currency for the full year.
‘Despite intensely competitive and busy activities in new products - notably vape - set against constant negative volume pressures in traditional cigarettes, BAT delivered 10% comparable net profit growth, which is at the upper end of its target range,’ says Chris Wickham consumer goods analyst at Equity Development.
‘Moreover, investors should seek some comfort for the company's next generation products that BAT has not lost the ability to gain market share in its old products. Smoke or vapour, the company knows marketing well.'
