There may well be a reluctance among some investors to invest in tobacco companies at all on ethical grounds, but this has done little to hamper a strong share price rise, let alone the group’s steady and stable growth as it repositions its offering.
Changing lifestyle habits and tougher regulation perennially overhang this sector, but in the meantime Imperial Brands (LON:) continues to play the cards it has been dealt carefully, while also racing towards Next Generation Products (NGP) as a long-term alternative.
However, even after some years of investment, the NGP unit is still loss-making for Imperial, although there are clear signs of progress. Net revenue growth for this period grew by 13.7% to £368 million, leading to cumulative growth of 83% over five years and now accounts for 11% of total revenues. The adjusted loss of £76 million represented an improvement of 1.3% as this part of the business edges towards profitability, and has lessened by 76% over five years.
Each of the NGP categories are showing signs of traction, with Vapour being strongest in Western Europe, Heated Products in Southern and Eastern Europe and Modern Oral in the US, where its “Zone” brand is increasingly popular. By region, Europe accounts for 42% of group revenue, the Americas 35% and Africa, Australasia, Central and Eastern Europe the balancing 23%.
Within these regions, the group has been tailoring specific brands to specific regions, even within countries, which has had some positive results. The group continues to focus investment in its top five combustible markets, while there have also been a number of NGP launches which have further boosted the longer-term aim of less reliance on traditional combustible products.
Elsewhere, the tobacco majors continue to benefit from the extraordinary cash generation that their sector enables. Tobacco remains a product which has inelastic demand, providing the ability to raise prices without unduly dampening demand and this pricing mix has seen the benefit as a result, with falling volumes more than offset by higher prices. Total group revenues remained relatively stable with a dip of just 0.7% to £32.17 billion, while adjusted operating profit grew by 4.6% to £3.99 billion, in line with estimates.
As such, the group retains its ability to choose between shareholder returns, investment in the business, paying down debt or indeed all of these. At the present time, shareholder returns are in sharp focus, with the previously announced £1.45 billion now commenced and the previous £1.25 billion programme completed. At the same time, a further increase to the dividend lifts the current yield to 5.1%, which adds to what has been a significant boost for shareholders.
In terms of outlook, the group is focused on adding value creation over the next five years. In the meantime, this year the group expects net revenue growth to continue in the low single digits for tobacco, by double-digits for NGP and for adjusted operating profit to increase by between 3% and 5%, while the ongoing shareholder return programme should, all things being equal, continue to underpin the share price.
Indeed, the total return has of late been impressive for Imperial. Apart from the additional dividend bonus, the share price has risen by 33% over the last year, as compared to a gain of 19.3% for the wider , and by 70% over the last two years while the transformation programme has been in full swing. Some strength in the price at the open, against the backdrop of a weak wider market, is also a sign of investor appreciation and the group’s defensive qualities.
Even after the more recent rally, the shares are not obviously expensive in terms of historic valuation. Despite concerns of changing habits, a more immediate drag from some large investors either unwilling or unable to buy tobacco shares, and an imminent Budget which could leave the tobacco companies in the firing line, Imperial is navigating the current environment with aplomb. As such, the market consensus of the shares as a strong buy continues to reflect its ability to generate returns while also undergoing a major repositioning of its business.