The FTSE 100’s Hottest Dividend Picks: British American Tobacco plc

Today I am looking at why I consider British American Tobacco (LSE: BATS) (NYSE: BTI.US) to be a top-class dividend selection.

Dividend growth poised to ignite

British American Tobacco has been a dependable deliverer of dividend growth for donkey’s years. The business has lifted the annual payment at a compound annual growth rate of close to 10% since 2009, underpinned by solid earnings growth during the period — indeed, the addictive nature of tobacco consumption has enabled the firm to hurdle the worst of reduced customer spending power better than many other consumer goods specialists.

The business has not been completely immune to the rising pressure on smokers’ purse strings, however, a scenario that has worsened inbritish american tobacco / imperial tobacco critical emerging markets in recent months, home to the vast majority of the world’s smokers.

It could be argued that changing social attitudes to smoking on health grounds have taken more of a chunk out of sales growth in recent times, however, in turn driving earnings expansion sharply to the downside. Falling demand has undoubtedly been exacerbated rising legislation across the globe, from public smoking bans and advertising curbs through to the introduction of plain packaging.

These pressures are anticipated to result in a 2% earnings decline for 2014, the first dip for many moons. But City brokers still expect the business to lift the annual payout 3% to 146.2p per share. And a solid 9% earnings bounceback next year is looking predicted to underpin a more attractive 7.4% dividend improvement, to 156p.

These projections create appetising yields of 4.1% and 4.4% correspondingly, knocking out a forward average of 3.2% for the complete FTSE 100.

Cash is king

More pessimistic investors may be concerned by British American Tobacco’s less-than-outstanding dividend coverage over the next 24 months. It is true that payouts are covered by 1.5 times forward earnings through to the close of 2015, falling outside the generally-regarded security waterline of 2 times of above.

Still, in my opinion the smoking giant’s formidable cash-generating qualities should assuage any fears over dividend forecasts during the next two years — the firm saw operating cash flow leap 5% last year to £5.32bn, reserves which have also enabled it to keep its mammoth share repurchase programme on course.

And in my opinion British American Tobacco has plenty of irons in the fire to get earnings and dividend growth revving higher. The formidable pricing power of its ‘Global Drive Brands’ like Dunhill and Lucky Strike should enable it to hurdle the problem of declining volumes, while heavy investment in the red-hot e-cigarette segment through its Vype technology — as well as marketing and operational improvements in key geographies — should also light up revenues growth once again.

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Royston Wild has no position in any shares mentioned. The Motley Fool has no position in any of the shares mentioned.