Are tobacco companies becoming better investments?

Joss Murphy 23/08/2023 in Equities

Tobacco companies have always courted controversy – but will they make more attractive investments after changing their business models? Many leading manufacturers have pledged to reduce the health impact of their businesses and enable smokers to switch to less risky products.

But does this mean the sector is worth considering? Will it be enough to soften the stance many responsible funds have towards investing in this area?

Here we take a look at the plans unveiled by industry giants, such as Philip Morris International and British American, and which fund managers are buying into these stocks.

The industry

Everyone has known the health risks posed by tobacco for decades but that hasn’t stopped it from becoming a multinational industry. The global tobacco market was estimated at US$867.55bn in 2022, according to an analysis of the industry by Grand View Research*.

The study predicted it would grow at a compound annual growth rate of 2.1% between 2023 and 2030 due to rising tobacco consumption in Asia and Africa. It also highlighted “excessive marketing campaigns” run by major companies as having been a significant factor in sustaining the industry.

Health campaigners

However, the major tobacco players have long come under attack from health campaigners keen to highlight smoking’s dark legacy. Tobacco kills up to half of its users, according to the World Health Organization (WHO), which claims this equates to eight million people every year**. This figure also includes 1.3 million non-smokers exposed to second-hand smoke**. It also noted that around 80% of the 1.3 billion global tobacco users live in low-to middle-income countries**.

WHO has insisted there is a “fundamental and irreconcilable conflict” between the tobacco industry’s interests and public health policy interests. “The tobacco industry produces and promotes a product that has been proven scientifically to be addictive, to cause disease and death and to give rise to a variety of social ills, including increased poverty,” it stated.

While the industry is unlikely to start manufacturing products that are good for your health, it does appear to be taking concerns on board and making changes.

Philip Morris International

Philip Morris International is one of the industry’s most significant players. Its brands include Marlboro and Parliament. PMI is building its future on smoke-free products. While acknowledging they won’t be risk-free, it has insisted they’ll be a “far better choice” than cigarette smoking. “We understand the millions of adult smokers who smoke cigarettes,” it said. “They are looking for less harmful, yet satisfying, alternatives to smoking. We will give them that choice.”

As far as its finances are concerned, net revenues increased by 10.5% on an organic basis during the second quarter of the year, the company revealed in late July 2023***.

Getting exposure to PMI

So, which investment funds can give you exposure to PMI? The company is one of the 10 largest holdings in the JPM US Equity Income fund****. Its stated aim is to achieve an income by investing at least 80% of its assets in US equities operating in any economic sector. It’s also looking for capital growth over five to 10 years. We see this fund as a core equity income holding investing in the world’s largest stock market that benefits from experienced managers and deep resources.

Elsewhere, if you want a portfolio with more of an international outlook, then the Trojan Global Income fund is another that invests in PMI.^ This is a concentrated, quality income fund, managed by the experienced James Harries, that has an emphasis on capital preservation and growing its dividend over time. We believe that this fund must be at the top – or at least very close – of the list for anyone wanting a global income fund.

British American Tobacco

This British multinational, often referred to as BAT, is another giant of the industry that provides tobacco and nicotine products to a global customer base. Its traditional cigarette brands include Dunhill, Kent and Rothmans, while it also has what it terms “reduced risk product brands” such as Vuse and Velo.

BAT has declared it has a clear purpose to build a better tomorrow by reducing the health impact of its business. “Put simply, smokers must have access to better choices,” it stated. The plan is to build a “multi-category portfolio of non-combustible products” that are tailored to meet the preferences of adult consumers.

Getting exposure to BAT

BAT is currently the third largest holding in the GAM UK Equity Income fund with a 3.78% share of assets, according to its most recent factsheet****. This fund, which was launched in October 2017, invests in companies of all sizes, from the smallest listed on the AIM market through to the FTSE 100 giants.

The flexibility its manager, Adrian Gosden, has in running this fund is what makes it stand out in a highly competitive sector.

Imperial Brands

Imperial Brands is another prominent quoted tobacco company. Gauloises, JPS, Rizla and Golden Virginia are among the company’s best known brands. Although the industry is changing fast, the journey towards a healthier future is still at an early stage, according to chief executive Stefan Bomhard.

“No one has yet created a reduced-harm product which perfectly replicates the experience and satisfaction of the traditional cigarette,” he said. “That’s why we are investing in people and technology to get ever closer to our adult consumers.”

Getting exposure to Imperial Brands

Imperial Brands is one of the 10 largest stocks held by the Schroder Income fund and accounts for a 2.7% share of assets, according to a recent factsheet****. This is a value driven portfolio that invests in companies that are valued at less than their true worth and waiting for a correction. It has an emphasis on absolute return and seeks to balance dividend yield with dividend growth and balance sheet safety to achieve a growing income. However, performance can be volatile.

*Source: Grand View Research, Tobacco Market Size, Share & Growth Analysis Report, 2023-2030

**Source: World Health Organisation, 31 July 2023

***Source: Philip Morris International, 20 July 2023

****Source: fund factsheet, 30 June 2023

^Source: fund factsheet, 31 July 2023

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