British American Tobacco has updated on trading as it approaches its half-year end. It's the first trading update for recently appointed CEO Tadeu Morocco and one in which he refers to performance in U.S combustibles as disappointing.
Here the Group's share of market sales was down 0.4 percentage points. In other territories the combustibles have been performing 'well' as a result of pricing actions.
In vaping Vuse's share of market sales up 2.8 percentage points to 38.8% in key markets, but in heated tobacco glo's share of market volume fell from 19.3% to 18.2%.
Full year guidance remains unchanged.
The shares were up 1.2% following the announcement.
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Our view
Global tobacco consumption has been in decline for decades. And there are some signs that this is an accelerating trend for the new CEO, Tadeu Marroco, to contend with. With over 30 years under his belt at the company, including the last three on the Board, he's not planning to make any radical changes to strategy.
BATS is a juggernaut, and despite industry challenges, market forecasts expect revenue to continue to inch towards the £30bn mark over the next couple of years. That scale combined with incredible pricing power has resulted in operating margins other consumer goods companies can only dream of. And, with relatively low capital requirements, the group's delivered prodigious amounts of cash despite falling volumes.
Much of that cash is currently tied up in stabilising the balance sheet, and debt reduction is becoming a bigger priority for management. That's behind the decision to pause the share buyback programme. Should underlying net debt levels come down towards the middle of the 2 to 3 times EBITDA (cash profit) range this year, from 2.9 times in 2022, there may be scope for buybacks to resume.
BATS is notable for its significant emerging market exposure, and has been enjoying top line growth in all markets except its largest the US, where it also has a strong position. However, things are tough here with market share under pressure. That's as consumers down-trade to some of BATS' cheaper brands in the face of economic pressure.
Overall, New Categories like vapes and heated tobacco are growing very quickly. The division is loss making, but those are reining in and profits are expected to start in 2024. One risk to these products' success is the prospect of further regulatory restrictions. This risk and the core business being propped up by a declining industry explains BATS' valuation, which is significantly below its longer-term average.
The ban in California on menthol cigarettes saw BATS remove some 45% of its product range from shelves. Further question marks remain over regulatory authorisation of some of the Group's vaping products in the US. Any rejections of marketing approvals are likely to weigh on sentiment.
The other important thing to consider with tobacco stocks is that many institutional investors can't, or won't, invest in the sector. That can keep a lid on demand, and therefore valuation.
For investors looking for more blue-sky potential, BATS is one of the more exciting names for next-gen tobacco products. But, whilst that part of the business is still loss making, we would urge caution.
The key attraction, for now, is likely to be the 9.8% prospective yield, one of the highest in the FTSE 100. Analyst forecasts suggest this year's dividend payments are in line with the company's 65% target pay-out ratio, providing some comfort that the yield is sustainable. We stress however, that no dividends can ever be guaranteed.
BATS key facts
All ratios are sourced from Refinitiv. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.
This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. It was correct as at the date of publication, and our views may have changed since then. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. 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.
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