Analysts at Morgan Stanley have initiated coverage of British American Tobacco PLC (LON:BATS) and Imperials Brands PLC (LON:IMB) as it highlighted a shift in the global tobacco sector.
The US investment bank initiated BAT at an ‘equal weight’ rating and 3,920p price target, saying the FTSE 100 firm “ticked a lot of boxes”, citing its 6% dividend yield and 65% payout ratio as reasons the stock should be a “long term structural winner”.
READ: RBC burns British American Tobacco and Imperial Brands with downgrades as NGPs set to outgrow cigarette market
However, analysts highlighted that there were three new issues casting “a lingering shadow” over BAT’s performance; new regulation, self-disruption, and new market entrants.
They added that the risk of nicotine being set at non-addictive levels, currently being considered by the US’s Food & Drug Administration (FDA), would be “a real game-changer”, in addition to more traditional risks such as the cost of cigarettes versus disposable incomes and against alternative nicotine products such as vapes.
Overall, Morgan Stanley said while BAT was “well positioned” and likely to deliver 3-5% revenues growth and 7-8% earnings growth, disruption in the market and potential regulation created uncertainty that lowered visibility on long-term forecasting.
For Imperial Brands, analysts initiated with an ‘underweight’ rating and a 2,755p price target, assuming a 1% decline in the group’s terminal growth rate reflecting the lower longer-term margin of vaping products as well as accelerated declines in the cigarette business.
Commenting on the tobacco sector more generally, the bank said that while it expected the combustible cigarette market to remain “broadly flat” in terms of gross revenue pools between 2017 and 2025, sales for alternative products were forecast to quadruple in size over the same period to US$100bn from US$25bn.
“The options for what a smoker can legally inhale, chew or smoke are changing fast, directly disrupting the cash compounding nature of the tobacco industry for investors, companies and governments alike” the bank said.
In late-morning trading, BAT shares were down 2% at 3,593p while Imperial Brands shares were down 1.6% at 2,583.5p.