FTSE 100 heavyweight Imperial Brands (LSE: IMB) is paying a total dividend for full-year 2024 of 153.42p.
This is a 4.5% increase on 2023’s payment and gives a yield on its current £22.65 share price of 6.8%. By comparison, the average FTSE 100 yield right now is 3.5% and the FTSE 250’s is 3.3%.
That said, consensus analysts’ expectations are for the payout to increase to 161.8p in 2025, 171.1p in 2026, and 182.6p in 2027.
These dividends would produce respective yields in those years of 7.1%, 7.6%, and 8.1% based on the present share price.
How much passive income could be made?
Shares delivering yields over the index average are ideal for generating money with minimal effort – ‘passive income’.
The only real effort involved is picking the right ones in the first instance and then periodically monitoring their progress.
In Imperial Brands’ case, £9,000 (the same I started investing with 30 years ago) would currently buy me 397 shares.
On the present 6.8% yield, I would make £612 in dividends in the first year. This would rise to £6,120 after 10 years on the same average yield and to £18,360 after 30 years.
This is a lot more than can be made from a standard UK savings account. But it could be vastly greater if the dividends paid were used to buy more Imperial Brands shares.
The dividend compounding miracle
By doing this on the same 6.8% average yield, I would make £8,731 after 10 years instead of £6,120. And after 30 years on the same basis, my Imperial Brands investment would have generated £59,818, not £18,360.
My initial £9,000 investment by then would have grown to £68,818. This would pay an annual passive income of £4,680, or £390 each month!
The buying power of the money would have been somewhat reduced by that point, of course. However, it accurately shows how a relatively modest investment can grow into a substantial additional income over time.
How does the core business look?
A firm’s dividend (and its share price) are powered by increased earnings over time.
Imperial Brands has been growing its earnings at an average 10.2% a year for the past five years. Its return on equity over the period has been 43.4%.
A risk to such high-level earnings growth continuing is any stalling in the firm’s ongoing business strategy switch. This involves gradually moving away from tobacco products and towards nicotine substitutes (‘Next Generation Products’ or NGP).
Nonetheless, in its 8 October trading update, it said it expects further growth in both its tobacco and NGP businesses. It also sees operating profit growth in the mid-single digits when its full-year results are announced on 19 November.
Are the shares undervalued as well?
Imperial Brands currently trades at just 9 on the key price-to-earnings (P/E) stock valuation measure. This looks very cheap compared to its competitors’ average of 14.9.
A discounted cash flow analysis shows the stock to be around 68% undervalued right now at £22.65.
Therefore, a ‘fair’ value for the share would be £70.78, although it could go lower or higher than that.
I already hold the stock, but if I did not I would buy it today for its strong earnings prospects, high yield and extreme undervaluation.
