MARKET COMMENT
Cough Up for Tobacco!

By Maynard Paton (TMFMayn)
December 27, 2000

Carburton Street, London -- It's about this time of year that thoughts turn to New Year resolutions, with one of the most frequent promises made being to quit smoking. Apart from the obvious medical aspects, there's also the Foolish benefit of saving money. And if you're looking for a good home for those saved cigarette pennies, the shares of the cigarette manufacturers themselves could very well be an option.

Those having the foresight to switch from buying cigarettes to instead investing in the tobacco sector at the start of 2000 would currently have a very healthy portfolio. And if you can cast aside the ethical issues, those considering a similar switch for 2001 could see a worthwhile return too.

There are just three tobacco companies listed on the UK stock market.

Company                    Share Price    Market Value

British American Tobacco      508p        £11,063m
Imperial Tobacco              705p         £3,673m
Gallaher                      434p         £2,685m

Since the start of 2000, those holding onto British American Tobacco (LSE: BATS), Imperial Tobacco (LSE: IMT) and Gallaher (LSE: GLH) shares would have seen their investments rise in value by 44%, 66% and 37% respectively.

Alongside the general stock market move from technology, media and telecom companies to businesses operating in more traditional industries, tobacco investors during 2000 have also benefited from the slightly improved view of that old industry bugbear -- litigation. Although threats of huge lawsuits continue to shadow the industry, with protracted legal proceedings still ongoing in US courts, the possibilities of industry-bankrupting fines have receded for the time being.

But even with the renewed investor optimism, the valuations of the three sector members still remain undemanding.

Company                Prospective  P/E       Dividend yield

British American Tobacco     9.1                 5.6%
Imperial Tobacco            10.4                 4.8%
Gallaher                    11.7                 5.4%

The cheapest of the three is British American Tobacco, although the relatively low rating for BAT is with good reason. Of the three UK sector players, BAT is by far the most entangled in the legal red tape. However, BAT does have the greater prospects for earnings growth. Analysts expect 44% earnings growth this year and 10% next year at BAT, all fuelled by the company's merger with Rothmans.

But of course, the tobacco sector isn't one normally associated with rapid increases in turnover and profit growth. Without much in the way of ongoing investment either, all three UK tobacco companies are veritable cash cows. Thus, the lowly stock market valuations make them ideally suitable for the "income" investor. All three companies presently exhibit well above average, and well-covered, dividend yields.

And with those high yields, should the tobacco companies continue to drag out the litigation proceedings and keep their existing weaker-willed customers puffing, all three look a safe bet for those turning from tobacco customer to tobacco shareholder for 2001.

Where next?

Sector Dissector: Cough, Cough -- Is Tobacco good for your wealth?

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