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Imperial Brands - Currency boosts results as dividend grows

Nicholas Hyett | 7 November 2017 | A A A
Imperial Brands - Currency boosts results as dividend grows

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Imperial Brands Group Ordinary 10p

Sell: 1,844.50 | Buy: 1,845.00 | Change -37.50 (-1.99%)
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Imperial saw profits climb 6.2% to £3.8bn, as the group benefitted from weaker sterling. However, on a constant exchange rate (CER) basis profits fell 3.2%, reflecting increased investment and the continued decline in tobacco volumes.

The group has increased the full year dividend by 10% (for the ninth consecutive year) to 170.7p per share. Full year earnings per share were 267p.

The shares were broadly flat following the announcement.

Our View

Any conversation about Imperial has to address two contradictory issues.

On the one hand the company, and indeed the industry, is seeing a steady decline in tobacco volumes. On the other, CEO Alison Cooper continues to promise annual dividend increases of at least 10% "over the medium term".

Over the last decade Imperial has been able to pay out more, despite selling less, by steadily increasing prices and incessantly trimming operating costs. Clearly that can't continue forever.

Although we're generally supportive of the focus on margins over volumes, the group's decision to invest an extra £300m a year in protecting and developing its portfolio of brands makes sense. Scale is the key to success in the tobacco industry, and as the smallest of the big-four tobacco giants Imperial can ill-afford to lose ground to rivals.

Investment will be particularly important for the recently acquired US brands, including Winston and Kool. They played second fiddle under Reynolds' ownership, so turning them into powerful national players requires investment. It's encouraging to see early signs of progress here.

However, investment will slow rather than reverse volume declines. That leads to the inevitable question - how far ahead does Imperial's medium-term guidance for dividend growth stretch?

The balance sheet is carrying a considerable amount of debt, and the associated interest costs have to be paid. Ever changing regulations also have the potential to throw a spanner in the works.

Nonetheless, the fact is Imperial generates bucket loads of cash, with cash flow around twice the size of dividend payments at present. The likely sale of Logista would deliver a steady flow of cash and Imperial's customers are sticky, to say the least.

The group still has plenty of opportunity for cost cutting as well. Imperial has various local and regional brands with limited wider appeal, migrating consumers off those to a select number of stronger Growth Brands significantly reduces cost and complexity.

In our view, Imperial's prospective yield of 6% means the shares look like an attractive income option. But what is one of the most generous dividend policies in the market cannot continue forever.

Full Year Results

Growth and specialist brands now account for a combined 62.7% of group revenue, which stands at £30.2bn.

A £310m investment in marketing and portfolio simplification has helped grow market share across most of Imperial's key geographies, with growth brand volumes up 5.5% to 159.6bn cigarette equivalents. However, the continued decline in the Portfolio Brands segment meant cigarette volumes declined 4.1% overall to 265.2bn cigarette equivalents.

In the US, the recently acquired Winston and Kool brands continued to gain market share, however Imperial's market share fell 0.3 percentage points overall as defocussed brands lost ground.

The group has continued to invest in its e-vapour brand blu, with new product formats expected for launch in the new financial year.

Imperial completed the sale of a 10% stake in European distribution business Logista in September, raising £220m, with the proceeds used to buy back shares and reduce net debt. Adjusted Net debt now stands at £12.1bn (2016: 12.9bn), between three and four times earnings before interest, tax, depreciation and amortisation (EBITDA).

Cash conversion remain strong, at 91% and, the group continues to target dividend growth of 10% per annum into the medium term.

Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.