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British American Tobacco and Imperial Brands: which one would I buy?

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It’s not a good day for nicotine stocks. Major FTSE 100 cigarette manufacturers like British American Tobacco (LSE: BATS) and Imperial Brands (LSE: IMB) are some of the biggest losers today. Their share prices have tumbled more than 6% so far, as the Biden administration mulls capping nicotine content in cigarettes. 

This can be yet another blow to the tobacco industry, which has been facing tighter regulations for a long time now. In that sense, both the tobacco stocks mentioned above are in the same boat.

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But there are ways to distinguish between them.

Comparing performance

The most obvious is performance. Both companies did well as far as operating profits go last year. While British American Tobacco saw a 10.5% increase in 2020, Imperial Brands showed a huge 24% rise for the year ending September 30 2020. 

I think because there’s a difference of a quarter in reporting periods, Imperial Brands had some advantage over British American Tobacco, whose performance showed a fuller impact of coronavirus. 

Forays into new products

Another way I compared them was in terms of the performance of their new products, like vapes. With the increasing clampdown on nicotine, alternative products have seen rising popularity and tobacco companies are pivoting in that direction too. 

British American Tobacco is hopeful of growth in these new categories. So far it’s a small-but-revenue-generating segment. By 2025, it hopes that the segment will contribute £5bn to revenues. Imperial Brands, on the other hand, is struggling. It has pulled back investments from its next-generation products and appears to be restrategising its approach to them.

The all-important dividend

A third distinguishing feature for these FTSE 100 giants is their dividends. Both boast high yields. British American Tobacco has a dividend yield of 7.4% right now, and Imperial Brands is at a huge 12.4%. 

These are a saving grace at a time when both stocks’ prices are falling. In fact, they may even more than make up for the fall in share prices. According to my rough estimates, the share price fall on average in 2021 for Imperial Brands is less than the dividends paid. As a result, I end up with around an 8% net gain.

The same isn’t true for British American Tobacco, however. If I had bought its shares at the average price in 2020, chances are I would be sitting on a 5.6% decline on my investment, even after accounting for its hefty dividend. 

Weighing up

In sum, performance-wise there’s not much difference between the two tobacco companies. British American Tobacco, at least for now, appears to have a better handle on future growth through increased revenues from new categories. And Imperial Brands offers far better returns on capital. 

Which of the two I’d buy in this case,depends on my projections for my investing time horizon as much as it does on past performance. Today, however, I’m not tempted by the share price fall in either. 

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Manika Premsingh has no position in any of the shares mentioned. The Motley Fool UK has recommended Imperial Brands. 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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