An 8% yield but down 13%! This FTSE dividend superstar looks a bargain to me

This FTSE 100 stock looks undervalued against its peers, appears to be managing its business transition well, and pays an 8% dividend.

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FTSE 100 tobacco and nicotine products manufacturer Imperial Brands (LSE: IMB) is down 13% from its 27 February 12-month high.

This is in line with several other major companies in now-unpopular industries undergoing transition, including oil and gas.

The key point here to me is that many investors miss a critical factor in their appraisal of these firms. This is that such companies must make an extra effort to encourage people to buy their shares.

They do this because a high share price discourages hostile takeovers. It is also good for credit ratings, which in turn reduces borrowing costs.

The common methods used to encourage people to buy and hold their shares are high dividends and/or share buybacks.

Business transition seems to be going well

Imperial Brands’ 2023 results highlighted a successful business transition so far, in my view.

‘Next Generation Product’ (NGP) nicotine replacement goods (such as vapes and patches) saw net revenue up 26% over 2022. In Europe, NGP revenue increased 40%.

Key to this was the launch of several new products. This included the blu-2.0 vaping device in nine markets and the disposable blu bar in 11.

June saw it acquire nicotine pouch product rights from TJP Labs to facilitate its entry into this market in the US.  

Overall, reported operating profit grew 26.8% in the year – to £3.4bn. Earnings per share rose 52.1% — to 252.4p.

One risk in the stock is the £10.1bn of debt on the books. Against this, it has about £1.38bn in cash, giving a net debt of £8.72bn.

Two factors mitigate this risk for me. First, its net debt has not increased from a year ago. And second, the company has a healthy EBITDA ratio of around 2.3.

Another risk remains future legal action for health problems caused by its products in the past.

Undervalued share price against its peers

Imperial Brands currently trades on the key price-to-earnings (P/E) measurement at just 6.8, against a peer group average of 11.8.

This comprises British American Tobacco at 6.1, Altria Group at 8.7, Japan Tobacco International at 14.4, and Philip Morris International at 17.9.

discounted cash flow analysis shows Imperial Brands stock to be around 55% undervalued at the present price of £18.21. Therefore, a fair value would be around £40.47.

This does not necessarily mean the shares will ever reach that point, But it underlines that they appear to be very good value.

Positively for the share price in the coming year is a £1.1bn share buyback announced on 5 October. This will run until 30 September 2024.

High dividend payer

For 2023, the total dividend was 146.82p, giving a yield of 8% based on the present £18.21 share price. This is more than double the current average FTSE 100 yield of 3.9%.

The company has a long history of paying high dividends. Over the past four years, working back from 2022, it paid dividends yielding 7.6%, 8.9%, 10.1%, and 11.3%, respectively.

I already have a holding in the sector, so do not want to unbalance my portfolio. If I did not have this holding, I would buy Imperial Brands shares for three reasons.

First, the high yield. Second, the strong core business, even in transition. And third, relative undervaluation of the shares, in my view.

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.

Simon Watkins has positions in British American Tobacco P.l.c. The Motley Fool UK has recommended British American Tobacco P.l.c. and Imperial Brands Plc. 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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