Why I would invest in this unloved dividend hero

Tobacco stocks are certainly not that appealing to investors at the moment, but I wouldn’t turn my nose up at this one just yet.

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Many investors think that tobacco stocks are set to crash and burn as smoking levels continue to drop, governments take more action and e-cigarettes take centre stage. However, one company in particular stands out to me as a way to make a lot of money from its dividends in the short term, but also potentially offering further long-term growth opportunities.

Before you turn your back on tobacco stocks altogether, I think it’s really worth you checking out what this share could do for your portfolio.

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A hopeful future

British American Tobacco (LSE: BATS) is a somewhat controversial stock when it comes to investing. However, consumers will continue to smoke for years ahead so it has clear investment appeal. But I believe that there’s still life in the company due to its move into products that could help people to stop smoking.

That’s the interesting point, British American is also investing in developing next-generation products as alternatives to harmful cigarettes, which could mean that the company ends up benefiting from the decline in cigarette use. In fact, in response to e-cigarette competitors, the company said that this “presents significant opportunities for future growth.” In fact, it has the widest collection of cigarette alternatives compared to its competitors, which spells out a bright future to me.

It’s not over yet

Whilst sales of cigarettes are in slight decline, anti-smoking sentiment isn’t making a hugely significant impact yet. British American still sold 708bn cigarettes last year, which was a drop of 3.5%, but I think that it’s worth keeping things in perspective. It seems unlikely that the demand for cigarettes is going to instantly dry up and with the investments in next-generation products, the group has plenty of life in it yet.

Mouth-watering dividend

British American boasts a very tempting dividend yield of around 7.6%, which is higher than the industry average of 6%. Furthermore, the P/E ratio for the company is around 9, which is lower than other major tobacco producers that range up to 16. I believe that this presents the best deal for investors if you’re looking into tobacco shares.

Moreover, the company has dividend cover of 1.4, which looks adequate, and has increased its dividend payout eight times in the last 10 years. The fact that the yield isn’t outrageously high (it’s not in the 10% territory that suggests an imminent cut) but can still give you a healthy ROI. I believe that it’s sustainable, especially as the company has consistently increased its dividend payouts over the years.

What does the future hold?

As British American works on developing a large selection of less harmful alternatives to cigarettes and with the tobacco market still making billions, I believe that the future could still be bright for the company. The movement away from tobacco could present further growth opportunities and the sustainable dividend will give investors their money’s worth.

I believe that the risk/reward ratio is very attractive with this share and we could see some significant growth in the future.

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fional has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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