NEW POSITION: bought British American Tobacco Plc @ 2,570p (LSE:BATS / NYSE:BTI) (FREE MODEL)
Key metrics: FV est. 3,846p (c.34% undervalued, based on ex-growth valuation @ 13% cost of equity), 9.4% FY23 dividend yield, 10x EV/FCFF, 10x EV/EBIT, 8.5x P/E. Position size: 10% of portfolio value.
Dear readers, today I’m trying out a new format. It’s my view that sharp short bullets are more easily digestible, and therefore ultimately more valuable to you all. If you prefer this format to my long-form posts, please give this a like.
Thanks for reading
Eddie.
Thesis in short
Consumer staples risk profile, recession resilient, highly cash-generative
Continued EPS growth through 2007 – 2010 recessionary period
EPS 2018-2022 (vs 2,570p price): 263p, 249p, 279p, 296p, 292p
FCF conversion 2018-2022: 113%, 85%, 92%, 95%, 93%
c.9% dividend yield, dividends 2018-2022: 203p, 210p, 216p, 218p, 231p
Strong balance sheet
Debt profile is weighted towards fixed-rate long dates facilities
Cashflow generation allows flexibility to deleverage where appropriate
4% cost of debt FY22, expected to be 5% FY23, >7x interest cover
Adapting business model
Combustible products (e.g. cigarettes) – stable revenue & earnings but in long-term decline (5% volume decline in FY22)
Non-combustible products (e.g. vapes) – market leading & fast growing, on track for profitability in 2024, long-term vision is for this segment to replace combustibles (already c.14.9% of sales)
‘Sin stock’ status
Discount for sin status already baked into pricing & higher cost of equity
In my view, avoiding sin stocks is a luxury many investors will ignore in crisis periods, providing a natural recessionary hedge
Geographically diversified
Undervalued c.30% assuming zero inflation-adjusted growth & 13% cost of equity (see financial model)
Historical low P/E (c.9x vs 10x-13x typical range since 2019)
Low ROIC (below cost of equity) not a concern due to high pay-out ratio & valuation
Management
outgoing CEO (Jack Bowles) has holdings worth c.£10m
new CEO was previously CFO & Transformational Director (Tadeu Marroco), has holdings worth c.£3m and has been with BATS since 1992, sufficient buy-in
Key risk
political / regulatory risk – e.g. banning of products & rapid change in market dynamics
partially mitigated by geographic diversification
ultimately the long-term future of BATS depends on the successful redistribution of products from combustible to non-combustible
high product mix already achieved in higher regulatory risk countries (e.g. 74% Sweden, 20% total EU)
Financial model
Valuation summary
Valued assuming no inflation-adjusted growth
Discount rate: c.13% cost of equity, c.9.5% WACC (consistent with discount rates disclosed in the accounts)
33.6% undervalued on this basis
Multiples:
EV/EBIT Current / FY+1 / FY+2: 10.5x / 10.0x / 9.7x
EV/EBITDA Current / FY+1 / FY+2: 9.4x / 9.0x / 8.7x
P/E Current / FY+1 / FY+2: 8.7x / 8.5x / 8.2x