Shares in FTSE 100 tobacco companies come with some eye-catching dividend yields. And I think they’re worth considering seriously for investors seeking passive income.
Cigarette volumes might be in more or less terminal decline, but this might not be a problem for British American Tobacco (LSE:BATS) and Imperial Brands (LSE:IMB) given their moves into new product areas. But which is undergoing this transition more successfully?
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Beyond cigarettes
Dividend yields of 8.3% from British American Tobacco and 7% from Imperial Brands are high by anyone’s standards. And this action to keep shareholders happy arguably reflects the declining industry they operate in.
The decline of cigarettes doesn’t have to mean the end of tobacco companies, though. Elsewhere in the industry, Philip Morris (NYSE:PM) is demonstrating this impressively.
The company has been having a lot of success in growing its next-generation products, which now account for 36% of overall sales. The most successful of these has been ZYN – its nicotine pouches.
Philip Morris is expecting 60% annual growth from ZYN going forward. And while some recent issues have opened the door for competitors, the overall growth picture is clear enough.
The future for tobacco companies is about such next-generation of products, especially nicotine pouches. So the issue is which of the UK firms is in the best position to make the most of this.
Market positioning
There are a few reasons I have British American Tobacco firmly ahead on my scorecard. The first is that its own nicotine pouch – called Velo – is the leading product in its category outside of ZYN.
Velo has a strong presence across Europe and the Americas and generated £539m in sales during 2023. That’s more than the entire next-generation products division at Imperial Brands.
British American Tobacco clearly has the bigger market share, but to some extent this reflects the fact it’s a larger company. Even as a proportion of total revenues, though, it’s still ahead.
With Imperial Brands, next-generation products account for around 6.8% of total revenues. At British American Tobacco, that number is 12.26%.
To my mind, this indicates that one company is significantly ahead of the other at the moment. If the future for tobacco companies is smokeless products, I think there’s a clear leader.
Long-term growth
Both British American Tobacco and Imperial Brands are expecting strong growth from their smokeless products. That’s partly because the market for these is expected to grow significantly.
If next-generation products are going to justify the current market cap of either company, there had better be a lot more to come. But the recent performance of Philip Morris gives reason for optimism.
Neither of the UK companies has a product that has been as spectacular as ZYN. But British American Tobacco comes closest with Velo.
More generally, I think the business is further ahead in the race to transition to the new world of non-tobacco products than Imperial Brands. That’s why it’s the stock I’d choose for long-term passive income.
