Every portfolio, whether it is retirement or individual, needs to incorporate an income component. By having a few companies in your portfolio that have great yields, you are essentially locking in gains equal to the dividend yield. The best way to accumulate wealth is to simply reinvest the dividends of some of these income stocks and let them run. Tobacco companies in particular offer great yield. Let us take a look at three tobacco companies and see if they deserve a spot in your portfolio.
Lucky Strike, Pall Mall and Kool
British American Tobacco PLC (ADR) (NYSEMKT:BTI) engages in the manufacturing, distribution, and sale of tobacco and nicotine products. Its products include the three brands above as well as Dunhill, Kent, and Captain Blacks, to name a few more. The brands have been around for over 100 years and their products can be found all over the world.
Fundamentally, British American Tobacco PLC (ADR) (NYSEMKT:BTI) could be considered undervalued as it trades at just 14.76 times forward earnings. The company also has a very favorable free cash flow yield (percentage of free cash flow yield in relation to revenue) of 17%. This percentage shows that British American Tobacco PLC (ADR) (NYSEMKT:BTI) manages operations very efficiently and has excess cash to return to shareholders in terms of dividend hikes and share buybacks. The company’s forward dividend yield is 5%, with a manageable 76% payout ratio. One area of concern for British American Tobacco PLC (ADR) (NYSEMKT:BTI) is debt. With over $17 billion in debt with a debt-to-equity of 137, this could be troublesome if not managed properly.
Our next two companies are sort of one in the same as they manufacture, distribute, and sell tobacco products primarily under the Marlboro brand. These companies are Altria Group Inc (NYSE:MO) and Philip Morris International Inc. (NYSE:PM). Altria Group Inc (NYSE:MO) operates within the United States while Philip Morris’s focus is international markets. First let’s look at Altria.
Altria Group Inc (NYSE:MO) currently trades at just 14.37 times forward earnings with a tremendous operating profit margin of 43.29% and an attractive return-on-equity of 119%. The company also sports a free-cash-flow yield of 27%. Once again the more free cash – cash available after meeting expense and liability obligations – the greater potential for dividend increases and share buybacks. Altria Group Inc (NYSE:MO)’s forward dividend yield is 4.7% with a slightly elevated payout ratio of 80%. Similar to British American Tobacco, Altria Group Inc (NYSE:MO) has a fairly significant amount of debt (debt-to-equity of 385) that it will have to manage tightly going forward.
Philip Morris International Inc. (NYSE:PM) currently trades at 15.03 times forward earnings with a 23% free-cash-flow yield. The company’s forward dividend yield is 3.6% with a payout ratio of 64%. Philip Morris International Inc. (NYSE:PM) very much trades at a discount considered its future growth potential. The company is strategically positioned in many of the world’s emerging markets and stands to capitalize substantially on these countries’ expansions. One example in particular is Philip Morris International Inc. (NYSE:PM)’s strategic partnerships with China National Tobacco. The arrangement allows China National Tobacco to produce Marlboro products under license in China.
Dividends are a crucial aspect of any investor’s approach to developing a portfolio. It is important to identify companies with great yields and with a great business to back it up. The three tobacco companies above all meet that criteria. These companies are extremely efficient at generating cash and are diligent in returning that cash to shareholders. I would also look from some capital appreciation out of the tobacco industry as these companies – excluding Altria Group Inc (NYSE:MO), as it primarily operates in the US – are positioned well to capitalize on the growth of emerging markets.
The article Turn To Tobacco Companies for Great Yield originally appeared on Fool.com and is written by Daniel Paterson.
Daniel Paterson has no position in any stocks mentioned. The Motley Fool owns shares of Philip Morris International. Daniel is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.
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