Imperial for income addicts

While many investors are not happy with the ethics of investing in tobacco shares, they still hold them almost as a matter of necessity. Given the choice between buying fixed-interest bonds that yield next to nothing and high-yielding shares that come with a low 'beta' - indicating that their price should not bounce around much - investors will choose the equities, even if that means owning the likes of Imperial Tobacco. And, with central banks determined to keep interest rates at record lows, these patterns - preference for high-yielding shares over low-yielding bonds - look like persisting.

Certainly, the returns on Imperial's shares have been impressive. Dividends and share buybacks totalled £2.5bn in 2011-12 and the shares offer a yield of 4.8 per cent on the current year's likely payout. Management seems determined to keep that performance going and has signalled that dividends will grow faster than profits over the next few years. The end result may be that Imperial will end up distributing perhaps 80 per cent of its net profits. And, over the medium term, analysts at Berenberg Bank reckon that Imperial's dividend will grow by between 9-11 per cent a year - that's a fair lick for a company in a no-growth industry.

Relying heavily on developed markets, where smoking is in long-term decline, is the chief reason why Imperial's shares are rated lower than British American Tobacco's. Imperial generates over half its revenue from within the EU. And the group could be hit hard by the introduction of controls on smoking and marketing of cigarettes that are starting to be rolled out across eastern Europe. For example, cigarette packs in Russia - Imperial's biggest market - now come with a health warning.

However, regulations have not clipped sales growth yet. That's chiefly because Imperial has introduced still-higher prices in the countries that can most easily afford them. For example, a 25p increase in UK prices in July, along with changes in Russia, will start to feed through next year, keeping the company above the declining curve of tobacco consumption. Plain packaging is clearly a threat, but smokers – being addicted – have irrational loyalty to a particular brand.

There are also signs that the damage that Imperial caused itself through buying Altadis just before the Spanish economy slumped is starting to ease. In the year to end September, the company booked a £1.2bn impairment charge on its Spanish operations to reflect a 40 per cent fall in the carrying value of the assets. That should be the last of the major impairments in Spain as the operation has started to perform better – Spanish profits rose 6 per cent in 2011-12. Besides, investors had already discounted the impairments; City analysts say Imperial's accountants were simply catching up with what everyone else already knew.

Tobacco's addictive qualities are both a boon and a curse for investors - they ensure steady demand, but also ensure the certainty of heavy taxation, law suits and increasingly tough regulation. Yet these risks have been a fact of life for cigarette makers for decades and have not prevented smooth growth in dividends.