British American Tobacco

Business Overview
British American Tobacco Plc is a London based cigarettes manufacturer and distributor, founded in 1902. The company serves millions of adult customers globally and is a leading multi-category provider of tobacco and nicotine products. Capital Research & Management Co., The Vanguard Group, Inc. and Capital Research & Management Co. are the largest shareholders in the company. (Source: Thomson Reuters).

Recent Updates
On last Wednesday, the US Food and Drug Administration announced that they have investigated more than 30 reports that established a link between the consumption of e-cigarettes and chances of epilepsy. The crackdown by the US FDA has done little curb on the popularity of e-cigarettes.

Also, as per data revealed, cigarette packs sold in the United States declined steeply in March. Sale volume declined by 8.8 per cent in March 2019, however, the price increase has partly offset the impact on revenues. The global big tobacco companies like British Tobacco and Marlboro are experiencing pressure, a majority of their revenue comes from traditional cigarettes and help them to support their cash and dividend payouts.

Financial Performance – (FY18, £ mn)

Source: Company filings, LSE

British American Tobacco Plc's revenue grew by 25.2 per cent, led by volume growth from cigarettes and THP by 3.3 per cent, due to the inclusion of RAI as a wholly owned subsidiary of British American Tobacco, and pricing as well. Profit from operations stood at £9,313 million, up by 45 percent against its FY17 profit from the operation. For the financial year 2018, basic and diluted earnings per share plunged by around 86 per cent. In FY18, adjusted diluted earnings per share improved by 11.8 per cent on a constant currency basis on account of growth in operating performance and lower effective tax rates. Dividend per share stood at GBX 203 for FY18, up by 4 per cent against FY17 dividend per share.

Stock Performance – 1 Year

Daily Price Chart as on (April 15, 2019), before the market close. (Source: Thomson Reuters)

At the time of writing (as on April 15, at 10:16 AM GMT), shares of BATS were quoting at GBX 3,124.0 and added 33.0 points or 1.06% against its previous day close. During the past one-year, shares have registered a 52w high of GBX 4,265.0 and a 52w low of GBX 2,336.50 and at the current price, shares were trading 27.5% below its 52w high price level and 32.21% above its 52w low price level. On a yearly basis, the stock has delivered a negative return of 25.99% and on a year-to-date basis, shares were up by 23.56%, which indicates the company has witnessed a sharp rally in 2019. However, the stock is still trading marginally below its 200-day simple moving average, which indicates the stock is bit struggling and can move in some time.
However, the stock has a dividend yield of 6.45 per cent, which is considerably higher than the industry average.

Valuation Methodology


Conclusion
The company has reported strong revenue growth in FY18, driven by a 3.3 percent surge in volume growth, but recent sales figures revealed by the US Food and Drug Administration, which shows volume declined by 8.2% in March 2019, as compared with the previous year is a red flag for the tobacco industry. Recent research reports which were investigated by US Food and Drug Administration on linkage between e-cigarette use and epilepsy has also risked the e-cigarette manufacturer and BATS is one among them. However, the final announcement of the use of e-cigarette and epilepsy is yet to come. Therefore, based on the above rational and valuation done using above methodology, we have given a "Hold" recommendation at the closing price of GBX 3,089 (as on April 12, 2019) based on 9.5x NTM industry Average Price-to-Cash Flow on FY19E Cash Flow Per Share.
 

Vodafone

Vodafone (VOD) is a telecommunication company providing a range of services including mobile communication, fixed communication, unified communication, internet of things (IoT), cloud hosting and security & carrier services. The Vanguard Group, Inc, Norges Bank Investment Management and BlackRock Investment Management (UK) Ltd. are among the top institutional shareholders in the group.

Recent Updates
On February 25, 2019,Vodafone Group Plc and another US telecom giant AT&T have announced their association to encourage Internet of Things (IoT) in Automotive Sector. On February 20, 2019, the group has completed the world's first 5G connection to its network.

Financial Performance – Q3 FY19 (€ mn)


The company reported weak revenue numbers for Q3 FY19, and group revenue stood at 11 billion euros, down by 0.8 billion euro on Y-o-Y basis on account of sale of Qatar and FX headwinds.Revenue from European region was down by 5.6 per cent, and revenue from ROW was down by 11.1 per cent.The Vodafone Group had shown interest to extend its existing UK network sharing agreement with Telefonica O2 so as to include 5G services. The company’s underlying adjusted EBITDA organic growth stood at 3 per cent and Free Cash Flow (pre-spectrum) of 5.4 billion euro.

Gross margin reported was 29.6 per cent in FY 2018, reflecting an increase of 2.2 per cent when compared with last year data. The EBITDA margin of 31.9% for FY18 stood higher than the industry median of 30.5 percent. Return on equity stood at 6.3 per cent which was remarkably higher than the industry median of 4.5 per cent.

Stock Performance – 1 Year

Daily Price Chart (as on April 15, 2019), before the market close. (Source: Thomson Reuters)

At the time of writing (as on April 15, 2019, at 10:28 AM GMT), the share of Vodafone was quoting at GBX 141.04 and added 0.50 points against its previous day close. The stock has reported a 52w high of GBX 214.60 and a 52w low of GBX 131.0. Stock's dividend yield stood at 9.5 percent which was significantly higher than the industry dividend yield and broader index FTSE 100 dividend yield 4.48%.

Valuation Methodology

** EUR/GBP = 0.88 pounds. and GBX =GBP x 100

Conclusion
Vodafone Plc is quickly expanding its reach in the 5G space. Also, the company has become the world's foremost telecommunications company to connect 5G smartphones with its 5G network. In the second half of 2019, the company will significantly increase its 5G reach in the European cities. Also, the strategic collaboration of the group with AT&T will enhance its reach in IoT within the automotive industry as well. Based on the above rationale and valuation done using the above method, we have given a “BUY” recommendation at the closing price of GBX of 140.54 (as on April-12-19) with single-digit upside potential based on 3.8x NTM Industry Median P/CF (approx.) on FY19E Cash flow per share.
 
*The buy recommendation is valid for the current price as covered in the report as on (15^th April 2019).

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