British American Tobacco plc (BATS) Ordinary 25p

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British American Tobacco expects full-year revenue growth of around 2%, before currency impacts and in-line with previous guidance. There’s been mid-single digit revenue growth from New Categories, reflecting an acceleration in the second half.

Underlying operating profit is expected to grow at a similar pace to revenue.

The company is anticipating an improvement in 2026, with both sales and underlying operating profit growth to land at the bottom end of their respective 3-5% and 4-6% medium-term goals. Net debt is expected to fall back to within its target range.

A £1.3bn share buyback for 2026 was also announced.

The shares fell 3.9% in early trading.

Our view

British American Tobacco’s (BATS) year-end update contained no major surprises. However, with sentiment much improved over the last twelve months it felt like markets were wanting more, and a new buyback wasn’t enough to keep investors happy on the day.

Commercial initiatives in the important US tobacco market are helping to offset volume declines but strict regulation and higher taxes on cigarettes are still weighing on performance elsewhere.

The group was early to recognise changes in consumer behaviour and is increasingly pinning its hopes for the future on its portfolio of 'smokeless' products, namely vapes, heated tobacco and oral pouches. Strong momentum in modern oral, and the emerging benefits of a clampdown by the US authorities on competition from illegal vapes have helped revenue growth in New Categories return to double-digits in the second half.

There is some evidence to suggest that these products pose a reduced health risk compared to cigarettes, but they are coming under increasing scrutiny, with some products already banned in the US. While the Trump administration could see the products in a more favourable light, this still remains a risk, particularly in other territories.

It's too early to call how the long-term profitability of these products will compare to traditional products. This could undermine BATS' attractive operating margins, which have remained over 40% despite market challenges and higher inflation rates seen in recent years.

Consistently high cash flows do mean that the company is well-placed to make the investments necessary to keep pivoting away from cigarettes. That also supports a dividend yield of nearly 6%. The group also remains committed to ‘sustainable’ share buybacks.

However, it’s struggling to keep pace with distribution levels amongst some of its better-capitalised rivals. With net debt levels on the wrong side of the 2-2.5x underlying cash profit (EBITDA) target range, there’s a risk that pay-outs to shareholders get sidelined if balance sheet improvements aren’t delivered within the promised timelines. There can never be any guarantees.

The improving outlook for BATS over the course of this year has been reflected in an uplift to investor sentiment. That’s left the valuation looking a little stretched, adding extra pressure for growth to rise towards the upper end of the company’s targets. Macroeconomic uncertainty and persistently high regulatory risk in the sector means that this is by no means a given.

Environmental, social and governance (ESG) risk

The food and beverage industry tends to be medium-risk in terms of ESG though some segments like agriculture, tobacco and spirits fall into the high-risk category. Product governance is a key risk industry wide especially in areas with strict quality and safety requirements. Labour relations and supply chain management are also industry wide risks, with other issues varying by sub-sector.

According to Sustainalytics, BATS' overall management of ESG issues is strong. But we do have some concerns. Recent controversies include accusations of using corporate social responsibility activities to influence government officials and bypass tobacco policies. With tobacco being on the exclusion list of certain institutional investors, product impact is key and the company's commitment to public health.

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 LSEG. 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.

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