External factors, most notably a relentless international regulatory assault, dictate that tobacco companies cannot afford to stand still. Some investors may be transfixed by the hefty dividend yields on offer through the sector, perhaps assuming the cash-generative nature of the tobacco industry will underpin distributions for the foreseeable future.
At the end of last month, the dividend yield for the MSCI World Tobacco index stood at 6.46 per cent, surely a pointer to uncertainties over the ability of the index constituents to maintain dividend growth rates when they’re investing heavily to gain market share in non-traditional tobacco products.
It appears as if Imperial Brands (IMB) has used the general disruption over the past year to engage in some long overdue housekeeping. The group’s half-year figures show that it repaid more money than it borrowed through the period, helped along by a reduction in interest payments and shareholder returns. Net debt has been cut by 22 per cent to £11bn, with the adjusted figure representing 2.6 times cash profits, against a multiple of 3.5 at the 2020 half year.
Net capital expenditure was slashed though the period as liquidity issues continue to exert influence over near-term spending plans, although management has also committed to a “more disciplined approach to NGP (Next Generation Products)”. Even under its worst-case scenario, Imperial has adequate resources to meet operational needs through to November 2022.
Reported profits were flattered by a £281m profit on disposal of the Premium Cigar Division and a £225m reduction in amortisation and impairment of acquired intangibles. You get a better steer through the modest 3 per cent increase in gross profits, achieved despite a 49 basis point reduction in the underlying margin to 18.37 per cent. If you discount the impact of the cigar business, adjusted earnings increased by 6.9 per cent at constant currencies.
These are certainly not bad numbers, even leaving aside one-off effects. But shareholders will probably be more encouraged by the stabilisation of aggregate market share in Imperial’s top five priority combustible markets, with an improved showing in the US, UK, and Spain partially offset by declines in Germany and Australia. This reflects a clearer management focus on those parts of the business with the promise of sustained returns, and is also mirrored by a more favourable price mix for its products, with tobacco pricing 5.3 per cent to the good.
The lockdowns have had mixed effects. Overall tobacco volumes were down, part of a secular trend. And regulators in some countries, most notably in the US and New Zealand, have decided to take another tilt at Big Tobacco. The benefits accruing from short-term changes in domestic consumption were partially offset by falling volumes in the duty-free space. Unfortunately, the NGP segment has been far from impressive, delivering 16 per cent net revenue growth against a weak prior-year comparator.
On the plus side of the ledger, the improved product mix and the sizeable contraction in net debt will be welcomed by shareholders, along with a 42.12p half-year payout, and the group remains on track to deliver new trials for vapour and heated tobacco products. Ultimately, however, potential investors will need to decide whether the balance of risks is accurately reflected in a dividend yield of 8.66 per cent. Lest we forget in the age of bitcoin, if something seems too good to be true, it probably is.
