British American Tobacco PLC – Continued strong New Category share growth.

British American Tobacco PLC (BATS) is a FTSE-100 listed Consumer Goods Company, which serves consumers with tobacco and nicotine products around the world.

On 17 February 2021, the Company is likely to report preliminary announcement for the year ended 31 December 2020.

Investment Rationale – Buy at GBX 2,788.50

• From a technical standpoint, 50-day SMA (2,719.50) is supporting the upside potential.
• Over the past four years (H1 FY16 to H1 FY20), revenue, gross profit, and net income have grown at a CAGR of ~16.47%, 19.44%, and 6.66%, respectively. Meanwhile, the Company has maintained gross margin, EBITDA margin, and net margin above 71.70%, 41.10%, and 21.10%, respectively, in the last four years.
• As per valuation metrics, Price/Cash Flow, EV/EBITDA, and Price/Book multiples are currently lower against the industry median.
• BATS remained financially robust and reiterated the commitment regarding dividend policy of 65% adjusted diluted EPS, which demonstrated confidence to navigate Covid-19 challenges.
• Furthermore, it is expecting to deleverage its adjusted Net debt/Adjusted EBITDA to 3x by FY21 end and targeting £1 billion of Quantum savings between FY20 to FY22.

Risk Assessments

• BATS’ future performance, solvency, liquidity, and business model is at risk due to the following factors – Covid-19 pandemic impact on supply chain and consumer demand, competition from illicit trade, disputed taxes, market size reduction, and structural changes in the tobacco industry.
• Furthermore, the foreign exchange fluctuations, geopolitical tensions, customer credit risk, unfavourable interest rates movements, and increasing regulations can impact the growth trajectory.

Recent News

11 December 2020: Darrell Thomas was appointed as a Non-Executive Director of the Company with effect from 7 December 2020.

Second Half Pre-Close Trading Update (as on 9 December 2020)

• The Company has been growing New Category business as fast as possible and it now has around 13 million non-combustible product consumers.
• BATS is progressive well for revenue ambition of £5 billion by 2025 for New Category revenue.
• The expected revenue headwind from COVID-19 has reduced from -3% to -2.5%.
• For FY20, the Company is targeting operating cashflow conversion of over 90% of adjusted profit from operations.

One Year Share Price Chart

 (Source: Refinitiv, chart created by Kalkine Group)

Valuation Methodology: Price/Earnings Approach (NTM) (Illustrative)

Conclusion

The Company is working towards a better tomorrow as 10% of H1 FY20 revenues generated from non-combustible categories, and it is targeting 50 million non-combustibles consumers by 2030. Moreover, multi-category consumer acquisition shall drive share growth. Therefore, the Company remained on track to deliver against FY20 guidance. Even S&P/Moody’s are maintaining stable outlook for the Company. Furthermore, it is targeting the carbon neutrality by 2030 and accelerating existing environmental targets to 2025. Stock 52-week High was GBX 3,507.00 and Low of GBX 2,362.50, respectively.

Based on the factors discussed above, we have given a “Buy” recommendation on British American Tobacco PLC at the current market price of GBX 2,788.50 (as on 7 January 2021, before the market close at 10.10 AM GMT) with lower double-digit upside potential based on 9.11x Price/NTM Earnings (approx.) on FY20E Earnings Per Share (approx.).

Imperial Brands PLC – Taking prudent actions to strengthen performance.

Imperial Brands PLC (LON: IMB) is a FTSE 100 listed fast-moving consumer business, with operational interest in a variety of fine cut and smokeless tobaccos, cigarettes, papers, and cigars.

On 27 January 2021, the Company expects to hold its Capital Markets Event.

Investment Rationale – Buy at GBX 1,599.66

• From a technical standpoint, 20-day SMA (1,561.60) is supporting the upside potential.
• During the past four years (FY16 to FY20), revenue and gross profit grew at a CAGR of ~4.19% and 5.21%, respectively.
• Following a difficult FY20, the Company expects to deliver a stronger financial performance in FY21.
• Tobacco prices are expected to remain robust.

Risk Assessments

• The Covid-19 pandemic has placed the supply chain under pressure, which is resulting in increased cost.
• The macroeconomic fluctuations and Covid-19 uncertainties have been impacting consumer confidence.
• The Company can face liquidity risk with insufficient borrowing facilities.

Recent News

4 January 2021: IMB confirmed that Alan Johnson would join the Board as a Non-Executive Director on 1 January 2021.

Full-Year Results Statement for the year ended 30 September 2020 (as on 17 November 2020)

   (Source: Company Website)

• During FY20, the Group revenue surged 0.8%, while the Tobacco volume declined by 2.1%.
• The Company has bolstered its Executive Team to support the growth.
• It has also completed the sale of Premium Cigars business on 29 October 2020; proceeds would be used to reduce debt.
• The annual dividend of 37.7 pence per share reflected rebased payment announced in May 2020.

One Year Share Price Chart

 (Source: Refinitiv, chart created by Kalkine Group)

Valuation Methodology: Price/Earnings Approach (NTM) (Illustrative)

Conclusion

Despite the challenging year, the improvement in NGP operations and resilience of tobacco business reinforced confidence in the future potential of the business. The Company has maintaining a solid cost discipline to generate substantial shareholder value. The balance sheet has also been bolstered with the disposal of Premium Cigar, as it led to net debt reduction. In FY21, the Company expects to deliver low to mid-single digit growth in organic adjusted operating profit at constant currency. Stock 52-week High was GBX 2,072.00 and Low of GBX 1,203.00, respectively.

Considering the outlook prospects, sustained investments and valuation computed above, we have given a “Buy” recommendation on Imperial Brands PLC at the current market price of GBX 1,599.66 (as on 7 January 2021, before the market close at 8:15 AM GMT) with lower double-digit upside potential based 7.31 Price/NTM Earnings (approx.) on FY21E Earnings Per Share (approx.).

*All forecasted figures and Peer/Industry Information have been taken from Refinitiv, Thomson Reuters.

*Dividend Yield may vary as per the stock price movement.

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