US Edition British American Tobacco
£27.30½ -7½p
Questor says BUY
British American Tobacco (BAT) shares are now more than £3 higher than in the first week of January and they recently hit an all-time high.
The high was prompted by the company's investor day, held in the middle of last month.
During the presentation to analysts, the company said it expected margins to be higher than 35pc in the current year, with a medium-term target of raising them a further 50 to 100 basis points a year thereafter.
What Citi appears to have failed to take into account is that although volumes may be set for a fall, sales are not. Prices are likely to increase and there is still plenty of growth in the sector yet in emerging markets.
The dividend stream is the main attraction of the shares. In terms of prospective yield, the shares have the 17th-highest dividend yield in the FTSE 100.
The highest yielder is RSA Insurance Group, followed by Aviva, National Grid, Standard Life, then Scottish & Southern Energy.
BAT's prospective yield this year is 4.53pc, rising to 5pc next year. This is still very attractive. However, investors who bought the shares on the initial recommendation at £21.79 on February 26, 2009 would have locked in a prospective yield of almost 5.7pc this year and 6.3pc next year. This shows just how impressive returns in the sector are, despite many investors not wishing to buy into the sector on moral grounds.
The company also recently made a new acquisition in South America, to shore up declining Western markets.
At the end of May, Nicandro Durante, the new chief executive, unveiled the acquisition of Colombia's second-largest cigarette company Productora Tabacalera de Colombia (Protabaco) in a $452m (£274m) deal. The price appeared reasonable and it will be funded from cash balances. This is unlikely to impact BAT's proposed share buyback this year of £750m.
The deal will propel BAT from third to second position in the Colombian tobacco market, Latin America's fourth largest with total sales of 17bn sticks last year.
One thing that will be bad for the sector would be a price war between the major players. There had been concerns that a price war was brewing after Philip Morris cut the price of its cigarettes in Spain. However, Imperial Tobacco is more exposed to the Spanish market. BAT shares are trading on a December 2010 earnings multiple of 14.3 times, falling to 13 next year.
The shares are up 25pc since the original recommendation compared with a market up 50pc. Buy for the income.