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Why British American Tobacco plc could be the buy of 2018

The subject of tax rarely brings cheer to the tobacco industry. But whatever you think about Donald Trump’s policies, the new Federal taxation reform looks set to boost the prospects for a number of UK firms.

British American Tobacco (LSE: BATS) is one of them, and though the new rules shouldn’t make any difference to the company’s effective tax rate for its 2017 results (which are due on 22 February), there are going to be some definite benefits in 2018.

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We heard Tuesday that British American is anticipating a non-cash exceptional tax credit on deferred taxation relating to its acquisition of Reynolds American. But the bigger anticipated boost will come from a fall in the firm’s effective tax rate from a previously estimated 30% to something in the high 20s.

Earnings boost

That should result in a 6% rise in EPS — and there’s already a 10% boost pencilled in by City analysts. At approximately 200p per share, the currently forecast dividend yield for 2018 would yield 4%, so we might even see something better than that too.

The shares picked up a modest 1.4% to 4,992p, but I reckon they could go a fair bit higher in 2018. 

In mid-December, British American Tobacco told us it is “confident of another year of good earnings growth at constant currency,” with market share growing as the firm pushes its Global Drive Brands. Those are higher-margin premium products aimed at smokers in increasingly affluent countries, and that’s surely going to be a growing market for decades to come.

With progressive dividends nicely covered by earnings, I see a very attractive long-term cash cow here, and a planned move to quarterly dividends from 2018 should provide a little extra attraction for those seeking regular income.

Bigger benefit

If you want a stock that looks set to profit even more from US tax cuts, look no further than 4imprint Group (LSE: FOUR). Approximately 97% of the direct marketing firm’s revenues come from its American business, and tax reductions are expected to make a big difference to the bottom line.

The shares spiked up 9% to 2,040p in response to the firm’s update on Tuesday. As with British American Tobacco, there will be no effect on 2017 results, with a previously estimated effective tax rate set to remain at around 30%. But 4imprint reckons that from 2018 onwards its effective percentage tax rate should drop as far as the low 20s, and that will lead through to a boost in the firm’s cash generation.

Growth plus dividends

Although we have no predictions of the effect on EPS, forecast P/E ratios must surely be revised downwards now — we’re currently looking at a predicted multiple for 2018 of 22, and any reduction could boost 4imprint’s attraction as a growth candidate. The shares are up 450% over the past five years, which easily justifies a premium rating in my opinion.

On top of that, I’m actually seeing it as another long-term cash cow that dividend hunters should take a close look at. We’re only expecting a yield of around 2.3% for the year just ended, but the firm’s progressive dividend policy would see that lifted to 2.5% in 2018 (and maybe further after the tax cut?)

That’s a boost of 10%, which is way ahead of inflation, and with cover being strong, I fully expect the yield to grow steadily ahead of inflation in the coming decade and more.

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Alan Oscroft has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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