3 High Yield Tobacco Companies to Buy

Shweta is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Declining cigarette sales in the US is a rising concern for the US tobacco makers. However, the below mentioned 3 companies were still able to outpace the market and post good revenue figures in 3Q12 results. These giants jointly dominate the US tobacco market with their rich brands & product portfolio and also because of their continuous innovations.

Amid various growing concerns, these companies have generated good returns for their shareholders and their forward annual dividend yield figures make them a good option for long term value investors.

<table> <tbody> <tr> <td> <p><strong><span>Company Name</span></strong><span></span></p> </td> <td> <p><strong><span>Forward Annual Dividend Yield</span></strong><span></span></p> </td> </tr> <tr> <td> <p><span><strong>Lorillard, </strong> <span class="ticker" data-id="210627">(NYSE: <a href="http://caps.fool.com/Ticker/LO.aspx">LO</a>)</span></span></p> </td> <td> <p><span>5.50%</span></p> </td> </tr> <tr> <td> <p><span><strong>Altria Group</strong> <span class="ticker" data-id="204556">(NYSE: <a href="http://caps.fool.com/Ticker/MO.aspx">MO</a>)</span></span></p> </td> <td> <p><span>5.60%</span></p> </td> </tr> <tr> <td> <p><span><strong>Reynolds American</strong> <span class="ticker" data-id="205182">(NYSE: <a href="http://caps.fool.com/Ticker/RAI.aspx">RAI</a>)</span></span></p> </td> <td> <p><span>5.70%</span></p> </td> </tr> </tbody> </table>

 Here's a quick look at these stocks in detail:

1. Lorillard -

The No. 3 U.S. cigarette producer Lorillard posted 3Q12 results with its earnings up by 6% to $283 million q/q. Its dominance in the menthol cigarette market and its leading Newport brand franchise places it in a better position among its industry peers.

I anticipate continued growth in its stock  in the upcoming time looking at the incremental opportunities mentioned below:

·         A major initiative started by the company  to expand its retail base in the USis the investments in blu eCigs. Lorillard acquired the e-cigarette maker blu eCigs in April'12 for $135M to diversify its product portfolio beyond the traditional cigarette business. The company also started its national advertising campaign in 3Q12 to boost up its sales. I remain extremely positive about this strategic move as I see  e-tobacco taking over the traditional in the next ~10 years. This deal is expected to result in EPS growth of ~2% in  2013.

Despite a tough competitive environment, Lorillard increased its market share by 20bps to 14.4% with its Newport brand contributing mostly to this gain. Newport, the company's biggest brand further provides a strong growth opportunity, as it is looking to launch a Non-Menthol Gold version of this product. This is currently under FDA review and is expected to be launched next year, which would lead to an increment of ~10% in sales in the coming quarters.

With Lorillard focusing more on promotional activities in 4Q12 and looking at the growing e-cigarette & menthol market, I see a huge potential upside for the company's stock in the future. Additionally, the company has observed EPS growth of ~53% over past three years (2008-2011) and is expected to have good growth based on its new launches. Also the lowest P/E of 13.48 (last 12 months) against industry average of 17.27 makes it an attractive buying option

2. Altria Group -

Altria's overall cigarette market share was up by 120 bps in 3Q12 to 49.9% majorly driven by its US top selling brand Marlboro and its evolving discount brand L&M. The company can always leverage Marlboro's brand name and larger customer reach which has provided an edge to the company over its competitors for decades. To enhance this further, the company launched various new products (Marlboro Black and Mild) including a mix of menthol & non-menthol cigarettes under its flagship brand with improved pricing policies. It also announced the launch of Marlboro NXT – the first cigarette offering two different flavors targeting the adult smokers. This product is launched in 27 states to further enhance its brand presence and capture more market share.

The smokeless segment for the company was up by 2.6% in 3Q12 y/y to $437 million. This segment should keep on growing as more and more customers are expected to shift to low risk smokeless products. In order to tap this growing market, Altria is focusing on various cigarette alternatives such as cigars, snuff and chewing tobacco. Its recent venture with Okono A/S, a pharma research company is proving beneficial to Altria to cater to the changing customer demands in a better way. Under this agreement the company will develop noncombustible nicotine products for adult smokers.

Another positive point to look forward to is the company's efficient cost management. It started a cost saving program in 2006 which is still on its right track with ~$400 million expected annualized savings in 2013 by reducing its "cigarette-related infrastructure costs."

Along with the above mentioned factors, its continuous growth in dividends since 2008 and a dividend payout ratio of ~92% makes this stock more attractive for regular income seeking investors. I would rate this stock a buy.

3. Reynolds American -

Reynolds American's stock is currently trading at ~$41 (the same level from the year ago). But it has seen a lot of movement after reaching the level of $46 in August and then declining to the current level due to rising competitive pressure. However its strong brand portfolio, increased cigarette share gains and focus on cost reduction should drive operating profit growth and act as potential upside factors for the company.

The company has taken various steps to increase its brand portfolio.

Below mentioned are the various steps taken by the company to enhance its earnings:

·         To leverage on its best-selling brand 'Pall Mall' and boost its sales further, the company launched new menthol versions such as Pall Mall Black and Pall Mall White in September. The product is priced economically as it aims to target the price sensitive smokers.

·         Following its competitors’ move, Reynolds is also launching products such as Vuse e-cigarette and Zonnic nicotine gum for alternative markets. With a competitive pricing of these products I see the company gaining a bigger market share due to this new product.

·         To further benefit from its other core brand 'Camel', the company introduced a nationwide expansion of its innovative product Camel SNUS Mint which was earlier available in only 27 states across the US. These products give a blend of various mint flavors to its customers giving an opportunity to increase its sales in the smokeless tobacco category.

·         Grizzly, its brand in the moist snuff segment outperformed the industry gains with its market share up by 1.2% to leading 28.6% Y/Y. Grizzly will also come handy for the company as its competitors continue to refine their smokeless segment.

Along with improving its topline, the company is also looking to restructure its workforce, which is expected to generate ~$70 million annually by 2015. Adding this with its product innovations and brand enhancement, I see marked improvement in its margins in the upcoming quarters. Therefore, I would rate this stock a buy.


ShwetaDubey has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.

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