What Are Imperial Tobacco Group plc’s Dividend Prospects Like Beyond 2014?

british american tobacco / imperial tobacco

Today I am looking at tobacco giant Imperial Tobacco Group’s (LSE: IMT) (NASDAQOTH: ITYBY.US) dividend outlook past 2014.

Dividends set to waft higher

I first bought into Imperial Tobacco Group early last year owing to the company’s ultra-generous dividend policy. The cigarette manufacturer has consistently built the dividend over many years, expanding the full-year payout at a compound annual growth rate of 12.4% since 2009.

And City analysts believe that the firm is on track to keep dividends rolling higher in coming years. The business is expected to lift the payment for the year concluding September 2014  by 9.1%, to 127p per share, with an additional 9.2% improvement anticipated for 2015 to 138.7p.

These figures create bumper yields of 5.6% and 6.1% for 2014 and 2015 correspondingly, annihilating a forward average of 3.2% for the FTSE 100 as well as slashing a prospective reading of 4.6% for business rival British American Tobacco.

Imperial Tobacco Group’s earnings record over the past five years has exemplified the tobacco industry’s place as one of the best defensive sectors on offer, the firm boasting compound growth of 6.8% during the period.

However, earnings growth has slowed markedly in recent years, as a confluence of pressure on customers’ wallets; rising awareness over the health implications of smoking; and a ratcheting-up of government measures to deter smokers, from the introduction of plain packaging to advertising constraints, have harmed the bottom line of manufacturers across the industry.

As a result, Imperial Tobacco Group is expected punch a 1%  earnings rise during 2014, although this is expected to accelerate to 5% in 2015. These projections provide dividend coverage of just 1.7 times and 1.6 times forward earnings respectively, far below the widely-regarded security benchmark of 2 times.

However, Imperial Tobacco Group’s ability to generate ample amounts of cash means that investors should take confidence in the firm’s ability to keep dividends rumbling northwards. Cash and cash equivalents rose to £1.81bn in fiscal 2013 versus £631m in 2012, as severe cost-cutting measures helped pushed cash conversion to 86% from 71% from the previous year.

Indeed, the firm’s impressive cash position is also financing the company’s generous share repurchase scheme, with the company reiterating its plan to buy back £500m worth of shares each year.

Although the tobacco industry clearly has myriad obstacles to address, I believe that the effect of rising populations — as well as increasing disposable incomes — in the smoking hotbeds of Asia and Latin America should continue to deliver dependable earnings growth for the likes of Imperial Tobacco Group. Combined with the firm’s ongoing restructuring drive and entry into the promising e-cigarette sub-sector, I fully expect dividends to continue moving solidly higher.

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> Royston owns shares in Imperial Tobacco Group but does not own shares in British American Tobacco.