Fat Dividends in the New Age of Nicotine Use
I was just in Boston enjoying the sights and spending time with a friend. I don’t want to say that he was vaping all the time… but he was always vaping. And that got me thinking about how “smokers” are switching to alternative ways to consume nicotine.
[I’m going to talk about the tobacco industry this week. If you are opposed to investing in the vice industry for ethical or other reasons, you may want to skip this issue and join me again next week.]
Most everyone knows about vaping. It’s where users inhale nicotine-infused vapor produced when e-liquid is heated and vaporized. There is no tobacco involved, just nicotine. This differs from heated tobacco or heat-not-burn devices which heat real tobacco without burning it.
Oral nicotine products are another smoke-free alternative gaining popularity. ZYN is one of the most talked-about products right now and is a nicotine pouch. It is placed in the mouth to release nicotine and flavors. This category also includes snus, which is similar to ZYN but made from tobacco.
These aren’t generally thought of as smoking cessation devices like nicotine gum or patches. They are alternative ways to consume nicotine as opposed to traditional combustible cigarettes.
New Game, Same Players
As investors, we know that the only thing constant is change. Markets evolve and adapt, both “with the times” and with consumer preferences. All industries are subject to innovation—even one as old as tobacco.
The tobacco industry has been changing at a rapid clip. In 2000, about 1 in 3 adults used tobacco worldwide. That number dropped to 1 in 5 by 2022. But whether we’re talking about smoke-free alternatives or traditional combustibles, the same companies are dominating the market.
Let’s take a look:
British American Tobacco (BTI) is the giant behind Lucky Strike, Pall Mall, Camel, American Spirit, and Newport. Its smokeless brands account for 17.9% of revenue and include Vuse (vapor), glo (heated tobacco), and Velo (oral).
In its latest half-year earnings release, revenue was down 8.2% and organic revenue fell 0.8% from the same period last year.
Although BAT’s share price has been flat over the past five years, Yahoo Finance and similar sites show its dividend payments have been all over the place. That’s because the company is based in the UK and dividends are paid in pence (British pound). The dividend amount in dollars will vary as the exchange rate between pounds and dollars fluctuates. The stability is not there for us to consider this a Bedrock Income, long-term holding.
Imperial Brands (IMBBY) is the company behind the brands Kool, Winston, and Backwoods. Its smoke-free brands account for less than 1% of total net revenues. These include the Blu (vapor), Pulze (heated tobacco), iD (heated tobacco), and Zone X (oral) brands.
In its latest half-year earnings report, revenues came in 2.3% lower than last year.
The company also pays its dividend in pence, and makes two smaller payments in May and August, and two larger payments in November and February. Because of the currency exchange, and the pattern of the payments, this wouldn’t be my top choice for a dividend payer. On top of that, the share price has climbed just 11.5% over the past 5 years.
In the end, I think smoke-free is the future of nicotine, and Imperial is just too far behind to catch up.
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Altria Group (MO) is the parent company of Black & Mild, Virginia Slims, Marlboro, and Parliament here in the US. Just 11% of revenues are from its smoke-free portfolio, which is currently all oral products.
MO has struggled to gain a foothold in the smoke-free space. Its recent partnership with JUUL Labs, an electronic cigarette maker, was a failure. It then sold the distribution rights for its IQOS heated tobacco products to Philip Morris in 2022.
The tide might start changing for Altria with its NJOY e-vapor product. NJOY received FDA endorsements for both its tobacco and menthol variants. And it’s the only menthol e-vapor product approved in the US.
Net revenues for Q2 were down 4.6% year over year. And the share price is up just 11% over the past 5 years.
All of these companies pay a dividend. And all of them are working hard to pivot with shifting consumer preferences.
But my favorite tobacco play isn’t any of the companies above…
The Smoke-Free Leader You Can “Set and Forget”
With over $35.7 billion in sales for 2023, Philip Morris International (PM) is the world leader in tobacco sales. The company can boast about:
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Clear leader in transitioning its revenues to reflect the shift in the market to smoke-free products
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Only company among its peers to grow revenues every year for the past three years
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Best share price return over the past 5 years
PM is the company behind the Marlboro, Parliament, and Virginia Slims brands everywhere in the world except the US. Although combustibles still make up the majority of its revenues, PM is successfully working to flip the script. Its goal is to earn 50% of net revenues from smoke-free products in 2025, and 66% by 2030. Its smoke-free products are currently sold in 90 markets and account for 38.1% of total revenues.
The company’s smoke-free portfolio includes IQOS (heated tobacco and e-cigarettes), VEEV (vapor), and ZYN (oral). ZYN volumes are currently running 50% higher year over year, proving the brand has immense growth potential. And the company just raised its full-year 2024 EPS guidance.
I continue to believe we’ll see good growth from PM for at least the next decade. That’s why PM is my top tobacco pick for the Bedrock Income portfolio. It has the lowest dividend yield of the lot, but has a history of regular dividend increases and better potential for share price growth over time.
The company currently pays $1.30 per share quarterly, and has raised its payment every year for the past 16 years.
Ideally, we want to lock in a 5% yield. To hit that target we need to grab shares for no more than $104. Shares have been on a tear and currently trade for around $118. The stock is up 32% over the past six months, and 45% over the past 5 years.
I think PM will raise its dividend with the next payment in September. If that happens, I’ll adjust my recommended buy-up-to price based on the new rate. Until then, I recommend you use a long-term limit order to grab shares on any dips under $104.
Owning another tobacco company with a higher dividend might be okay if we planned to hold it for a short time. But this is a consumer staple that belongs in the Bedrock section of the portfolio. PM is the company we can set and forget for many years to come.
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For more income, now and in the future,
Kelly Green
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