I Don't Like Smoking but I Like Money

I grew up in a family were both parents smoked.  My grandparents smoked and so did my aunts and uncles.  I remember at holiday gatherings the smoke being so thick you could not see from one end of the living room to the other.  Slight exaggeration but it was pretty foggy.  I did not enjoy any part of it and have never tried a cigarette in my life.  It is very addictive though so I don't see tobacco products going away any time soon.  It is a personal preference and I am fine with that so long as it doesn't affect my family. 

There is money in tobacco though so I thought I would take a look in my rankings to see if any stood out.  There is only one that made the top 100, Universal Corp.  The others all have high yields but looking at their other numbers who knows if they can pay that yield long term.   Of the six we are looking at today only UVV and MO are dividend champions.  That is a good indicator that dividend will continue to increase over the next few decades but that doesn't tell the whole story.  Let's take a look and see how they stack up against each other using the DFG ranking system.

The numbers are from the October edition of the U.S Dividend Champions spreadsheet.  If I were to look at purchases any of these companies I would reevaluate based on more current numbers.

Value

Several of the companies do offer some value at this time (under 20 PE).  What gives UVV the edge is the low price-to-sales ratio.  Companies with a ratio of less than one are generating more in sales than what the stock is costing me.  If kept up long term and managed properly that will create lots of cash that could be returned via dividends.  If that were the only metric I looked at I would buy them right away.  However we have to look at some other metrics to determine if this value will provide us with long term income.

Company Name	Symbol	Industry	P/E	P/S
Universal Corp.	UVV	Tobacco	14.46	0.43
Philip Morris International	PM	Tobacco	16.58	4.28
Lorillard Inc.	LO	Tobacco	19.71	3.10
Reynolds American Inc.	RAI	Tobacco	20.27	3.79
Altria Group Inc.	MO	Tobacco	21.17	3.73
Vector Group Ltd.	VGR	Tobacco	61.61	1.77

Growth

Only Lorillard stands out with double digit growth over the past five years.  PM still takes the top spot here with close to double digit growth but a higher earnings per share over the past twelve months than LO.

Company Name	Symbol	Industry	Past 5yr Growth	TTM EPS
Philip Morris International	PM	Tobacco	9.7	5.03
Lorillard Inc.	LO	Tobacco	12.9	3.04
Reynolds American Inc.	RAI	Tobacco	6.6	2.91
Universal Corp.	UVV	Tobacco	4.0	3.07
Altria Group Inc.	MO	Tobacco	8.8	2.17
Vector Group Ltd.	VGR	Tobacco	(8.3)	0.36

The picture below is a little more interesting when you look at the stability of the EPS over time.  Normally you want to see it grow steadily over time.  Upon closer inspection of the mess of lines below you can see that LO and PM are not as jagged as the others and have grown over the past ten years. Even between the 2, PM had some early dips 10 years ago while LO is slow and steady.  Earnings may not be as high but the trend is the best. UVV had a dip in 2011 and the TTM show another dip as well.  This instability has probably led to some of the value we saw earlier.  If management can stabilize things than the value presents an opportunity for us.  RAI also had some moderate growth with a few minor dips.

Quality

UVV is 2 for 3 at this point.  Wow look at how well they are managing debt.  Way under the 1 mark for quality debt management.  Also the price-to-book value is under 1 telling us Universal Corp. has plenty on the books to justify the price this past quarter.  The last 3 were n/a in the spreadsheet.  Usually I don't consider companies that don't have metrics available.  Looking on Morningstar LO had a book value per share  TTM of -5.99.   PM had -6.51 and VGR had a book value per share of -0.82.

The definition of book value per share from www.investopedia.com is this:

In simple terms it would be the amount of money that a holder of a common share would get if a company were to liquidate.

That puts things in perspective.  Who would want to hold a company that much in the red?

Company Name	Symbol	Industry	MRQ P/Book	Debt/Equity
Universal Corp.	UVV	Tobacco	0.90	0.49
Reynolds American Inc.	RAI	Tobacco	6.43	1.20
Altria Group Inc.	MO	Tobacco	20.69	3.18
Lorillard Inc.	LO	Tobacco	-	-
Philip Morris International	PM	Tobacco	-	-
Vector Group Ltd.	VGR	Tobacco	-	-

Yield

PM takes the lead on yield.  With the second highest yield and a mega dividend growth rate I can see why it may be appealing to some investors.

Company Name	Symbol	Industry	Dividend Yield	DGR 5 Year
Philip Morris International	PM	Tobacco	4.80	28.4
Lorillard Inc.	LO	Tobacco	4.11	29.1
Altria Group Inc.	MO	Tobacco	4.53	9.2
Reynolds American Inc.	RAI	Tobacco	4.54	7.5
Vector Group Ltd.	VGR	Tobacco	6.87	5.0
Universal Corp.	UVV	Tobacco	4.60	2.1

However looking at free cash flow and the payout ratio gives a better picture of the sustainability of these yields and the ability for the dividend growth rate to continue.  None of the metrics over the past twelve months paint a pretty picture for the dividend investor.  Sure the top 3 have plenty of cash to burn but for how long?  That surely isn't sustainable over decades that a dividend investor looks at.  Would they be worth buying now to collect the dividends until they are cut?  Tough call and would depend on the entry price and the potential capital loss when you sell them.

Metric/Company	PM	LO	MO	RAI	VGR	UVV
Free Cash Flow TTM (Mil)	7,522	1,119	4,419	1,528	71	-107
Payout Ratio %	76.6	76	89.9	89.2	173.70	79.60

News

It is black Friday and there are deals to be had in the energy sector (again).  The news for tobacco shows cigarette volume down for PM and LO loses a lawsuit over the summer worth 23.6 BILLION dollars.  E-cigarettes are on the rise for high school students and over the past ten years cigarette consumption has risen 13%.  The rise is mostly in other counties and not the U.S.A.  This is a lot of mixed news and hard to interpret where the industry will be in 10-20 years.  Back in July Reynolds American had announced plans to buyout Lorillard for 27.4 billion dollars.  This may be to your advantage if you can obtain LO at a deep discount.  To close to 20 PE for me to be interested in it.  After that merger is complete RAI will control 42% of the U.S cigarette market but Altria will retain the top position with 51%.

Conclusion

Overall UVV comes out on top with quality and value that stands out in this industry.  The yield is not too shabby either but it compares to the dismal growth rate of utility companies that have been paying a dividend for a long time.  On the flip side they have been paying an increasing dividend for a long time.  So for current income this would be a good company to own.  I am not sure what to do about the merger.  LO has a lot of debt but the combined companies will dominate the market.  Tough call so I will keep an eye on it for now.  Happy Thanksgiving!

 

Company Name	Symbol	Industry	Dividend Yield
Universal Corp.	UVV	Tobacco	4.60
Philip Morris International	PM	Tobacco	4.80
Lorillard Inc.	LO	Tobacco	4.11
Reynolds American Inc.	RAI	Tobacco	4.54
Altria Group Inc.	MO	Tobacco	4.53
Vector Group Ltd.	VGR	Tobacco	6.87