Owning blue-chip FTSE 100 shares like Imperial Brands (LSE: IMB) can be a lucrative way to earn passive income. The Imperial Brands dividend yield already stands at 7.8%. This means that for every £100 I put in it today I would hopefully earn £7.80 each year in future.
Not only is that yield close to twice the FTSE 100 average, but it is set to rise.
The tobacco manufacturer today (15 May) announced that it plans to increase its interim dividend by 4%. That follows a 4% increase in the annual dividend last year.
So, with a high dividend yield and a growing payout per share, could Imperial Brands be a passive income bargain for my portfolio?
Unfavourable long-term market trends
In a word, my answer is no. But why?
Cigarette sales are in decline in many markets and that long-term pattern looks set to continue. Indeed, revenue in the first half fell 2.3% year on year.
That is despite the pricing power offered by the company’s brand portfolio. That means it can raise its selling prices to try and counteract falling volumes. Indeed, in the latest six months, Imperial’s tobacco volumes fell 6.3% compared to the same period last year.
But wait. Exactly the same risk stalks British American Tobacco (LSE: BATS) – and I have a large shareholding in it. So why do I remain bullish on British American, yet have no plans to invest in Imperial?
Short-term strategy belies long-term challenge.
In a word: strategy. British American has been scrambling to diversify away from cigarettes in recent years. They remain the lion’s share of its business for now, but the company has been focused on growing its non-cigarette business at speed.
By contrast, Imperial has doubled down on cigarettes in recent years.
It sold its premium cigars business and reined in its non-cigarette ambitions in areas like vaping, instead focusing on gaining market share in key cigarette markets.
That might work for now (although falling revenues and earnings per share in the first half could suggest otherwise). But I think it sets the company up poorly for the long run.
No dividend is ever guaranteed
Why does that matter?
It may help explain why the share price has fallen 9% over the past five years. Then again, the British American share price has done even worse in that period, falling 16%.
But it also raises the question of whether the Imperial Brands dividend can be maintained in years to come.
British American has raised its payout per share annually for decades. But the Imperial Brands dividend was slashed by a third in 2020.
The latest results show declines in revenue, sales volume, operating profit and earnings per share. Net debt grew 3% to £10.6bn. That does not look like the performance of a business in strong shape to me.
Imperial does continue to be solidly profitable and owns an attractive portfolio of brands. Cigarette sales are falling but remain substantial.
But I am uncomfortable with the risk that the Imperial Brands dividend will be cut again in the future, as it was four years ago. I have no plans to buy.
