11.4% dividend yield! Is British American Tobacco the FTSE 100’s greatest dividend stock?

Are the yields on these shares too good to be true? Royston Wild considers whether the FTSE firm is a brilliant dividend stock or a value trap.

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

Young Black man sat in front of laptop while wearing headphones

Image source: Getty Images

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

British American Tobacco (LSE:BATS) shares have been a brilliant source of passive income for decades. Even during the pandemic they continued delivering enormous shareholder payouts, solidifying the company’s reputation as a top dividend stock.

But on balance things haven’t been that cheery for the FTSE 100 firm and its shareholders. In the past five years the British American Tobacco (BAT) share price has slumped 7% in value. On a 10-year basis the tobacco titan is down by an even worse 28%.

While shareholders have seen the value of their investment plummet, steady long-term dividend growth has lessened the blow. And City brokers expect cash rewards to continue chugging higher, as the table below shows.

YearDividend per share (f)Dividend yield
2023238.6p10.5%
2024246p10.8%
2025258.4p11.4%

If those dividends estimates prove accurate — and the British American Tobacco share price recovers — I could make a fantastic return on my cash.

So what are the chances of the company meeting analysts’ payout targets? And should I buy the FTSE business for my UK shares portfolio?

Balance sheet blues

Dividends at the firm have risen by an impressive 62% since 2012. This is thanks to its dependable cash flows, which underpin those bright payout forecasts for the next few years.

Indeed, BAT has said it expects to record £40bn of free cash flow before dividends during the next five years.

But on the downside, the company’s high debt levels mean that its balance sheet isn’t as strong as dividend investors such as me might like. Net debt was £37.3bn as of June. And the firm expects its net-debt-to-EBITDA ratio to come in at 2.7 times at the end of 2023, towards the higher end of its targeted range of 2 to 3 times.

BAT’s growing investment in e-cigarettes and similar products raises even more doubt about future dividends. This strategy may give revenues a big boost over the longer term. But it means debt may remain at elevated levels and erode the companys cash flows.

Should I buy the shares?

I’m also concerned at the weak levels of dividend cover for the next few years. If earnings are blown off course they could make payout forecasts look even more vulnerable.

Those predicted dividends for 2024 and 2025 are covered just 1.5 times by anticipated earnings. Any reading below 2 times means that the chances of estimates missing their mark can be high.

The profits outlook for BAT looks even more grim following early December’s trading update. Then the company said that 2023 revenues growth would be at the lower end of a 3 to 5% target.

In another troubling omen the business also wrote down the value of its US brands (like Camel and Newport) by £25bn. This underlines the steady decline of the cigarette market which threatens the very existence of Big Tobacco firms like this.

On balance I think British American shares are far too risky today. Not only do current dividend forecasts look extremely fragile, but I also expect the company’s share price to continue declining in the years ahead.

I’d rather buy other FTSE 100 shares for passive income.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Royston Wild has no position in any of the shares mentioned. The Motley Fool UK has recommended British American Tobacco P.l.c. 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.

More on Investing Articles

Surprised Black girl holding teddy bear toy on Christmas
Investing Articles

My favourite FTSE 100 passive income stock that keeps the Christmas coffers full

The holiday season is expensive and can leave many consumers struggling to make ends meet. Here’s how I use a…

Read more »

Investing Articles

The latest growth forecasts suggest the Glencore share price will hit 555p!

Harvey Jones has been disappointed by the performance of the Glencore share price since he bought the commodity stock last…

Read more »

Dividend Shares

A closer look at the 11% dividend yield forecast for Phoenix Group shares

Phoenix Group shares have one of the highest dividend yields in the FTSE 100 index today. Could this be a…

Read more »

Investing Articles

If I’d put £25,000 into the FTSE 350 at the start of 2024, here’s how much I’d have today!

Many FTSE shares have rebounded this year as interest rates look set to keep heading lower and market appetite for…

Read more »

Investing Articles

Up 40%, but experts forecast the easyJet share price could soon hit 664p! Time to buy?

The easyJet share price has been flying lately and stock analysts are predicting more fun to come. But there's only…

Read more »

Storytelling image of a multiethnic senior couple in love - Elderly married couple dating outdoors, love emotions and feelings
Investing Articles

Worried about tax raids? Here’s how I’m targeting a £44,526 passive income with shares

Investing in a Self-Invested Personal Pension (SIPP) or Individual Savings Account (ISA) can supercharge one's passive income, says Royston Wild.

Read more »

Young black man looking at phone while on the London Overground
Investing Articles

A FTSE 250 share I’d buy and aim to hold for 20 years!

This FTSE 250 share has soared more than 2,000% during the past decade. Our writer Royston Wild thinks it has…

Read more »

Bournemouth at night with a fireworks display from the pier
Investing Articles

3 heavily discounted UK shares to consider buying in November

These three UK shares have been dragged down and our writer believes they're trading below their true value as we…

Read more »