2023-10-05 05:04:33 ET
Summary
- Imperial Brands has seen net revenue growth resulting from favourable pricing.
- However, tobacco volumes have been declining.
- In particular, the decline in mass market cigar volumes has been impacting overall revenue.
Investment Thesis: Imperial Brands needs to see a rebound in volume growth across both the cigarette and mass market cigar segments before upside can be expected in this stock.
Imperial Brands ( OTCQX:IMBBY ) is the fourth-largest tobacco company in the world, specialising in cigarettes and mass market cigars.
While the company has been growing its next generation products business in an attempt to diversify from tobacco - the latter continues to account for the vast majority of revenue.
When looking at stock price, we can see that Imperial Brands has trading in more or less a stationary manner over the past two years - at a lower level than that last seen in 2019:
The purpose of this article is to assess the potential growth trajectory of Imperial Brands in light of recent performance.
Performance
When looking at the half-year results for Imperial Brands, we can see that on an adjusted basis - revenue growth saw growth of 4.8% as compared to that of the same period last year, while operating profit saw growth of 7.3% over the same period.
When considering net revenue growth across region and segment, we can see that on a percentage basis - North America showed the highest growth for the Tobacco segment - while Europe saw the most growth for NGP (Next Generation Product). However, we also see that NGP saw a significant drop across the North American region. The AAACE region (Africa, Asia, Australasia and Central & Eastern Europe) saw 4.9% growth across the Tobacco segment, with 0% for NGP. Excluding Russia - net revenue growth came in at 8.6% across the Tobacco segment.
Region | Segment | 2022 Net Revenue (£m) | 2023 Net Revenue (£m) | Change (%) |
Europe | Tobacco | 1296 | 1326 | 2.30% |
North America | Tobacco | 1136 | 1203 | 5.90% |
AAACE | Tobacco | 962 | 1009 | 4.90% 8.60%* (Excluding Russia) |
Europe | NGP | 74 | 102 | 37.80% |
North America | NGP | 24 | 20 | -16.70% |
AAACE | NGP | 3 | 3 | 0.00% 0.00%* (Excluding Russia) |
Source: Figures sourced from Imperial Brands PLC Half Year Results Statement 2023.
It is notable that while revenue across the Tobacco segment was lifted by price increases - tobacco volume itself showed significant decline across the three regions, with stick volumes declining across regions as follows:
Region | 2022 | 2023 |
Europe | 46.2 | 42.2 |
North America | 9.7 | 9.4 |
AAACE | 54 | 44.4 |
Source: Figures for stick volumes (in billions) sourced from Imperial Brands PLC Half Year Results Statement 2023.
Moreover, it is worth noting that the decline in mass market cigar volumes is significant - given the pricing differential as compared to the factory made cigarettes segment. Imperial Brands estimates that the revenue per cigar is approximately 2.6 times that of cigarettes. As such, a fall in sales volume across the former segment is going to have a disproportionate impact on overall revenue.
Taking the Americas as an example - we can see that although there was a 1% growth in volume for FMC (factory made cigarettes), there was also a volume drop of 4% for MMC (mass market cigars) - which resulted in a 3% drop in volume for the region overall.
Notably, Imperial Brands used to be in the premium cigar business - before selling this segment of its business in 2020 for €1,225 million. The cigar business has seen significant price rises more generally post-pandemic, owing to both an increase in demand across China, as well as recent supply chain issues - notably the effects of Hurricane Ian having significantly affected production across the Cuban region last year.
Imperial Brands cites the effects of a temporary wholesaler destock as having affected mass market cigar volumes due to an increase in inventories ahead of Hurricane Ian in September 2022.
It was reported that in the aftermath of the hurricane, Cuba's cigar sector saw a very substantial hit to production - which has been reflected across both the mass and premium markets alike. While Imperial Brands has managed to shield itself from this somewhat given the sale of its premium cigar business - it is clear that volumes across the mass cigar market remain affected and this has in turn been responsible for a decline in overall tobacco volumes.
Overall, Imperial Brands has managed to sustain revenue growth owing to price increases, but tobacco volumes have been seeing downward pressure.
Financials
From a financial standpoint, we can see that the quick ratio for Imperial Brands (calculated as current assets less inventories all over current liabilities) has remained at the same level as last year and remains substantially below 1 - indicating that Imperial Brands does not possess sufficient liquid assets to meet its current liabilities.
Mar 2022 | Mar 2023 | |
Current assets | 7867 | 8541 |
Inventories | 4445 | 5025 |
Current liabilities | 11158 | 11523 |
Quick ratio | 0.31 | 0.31 |
Source: Figures (in £ millions except quick ratio) sourced from Imperial Brands plc Half Year Results Statement 2023. Quick ratio calculated by author.
Long-term (or non-current) borrowings relative to total assets have also remained at a steady level over the same period.
Mar 2022 | Mar 2023 | |
Non-current borrowings | 7979 | 8376 |
Total assets | 28111 | 29212 |
Non-current borrowings to total assets ratio | 28.38% | 28.67% |
Source: Figures (in £ millions except ratios) sourced from Imperial Brands plc Half Year Results Statement 2023. Non-current borrowings to total assets ratio calculated by author.
When looking at the 10-year trajectory of the P/E ratio for Imperial Brands, we can see that the ratio remains near a 10-year low. However, we can also see that earnings per share has seen a significant drop from highs reached in 2021:
In this regard, I take the view that in spite of the low P/E ratio - Imperial Brands still needs to see a significant rebound in earnings per share before upside in the stock can be justified. In this regard, I take the view that Imperial Brands is fairly valued at the current price of $19.75.
Risks and Looking Forward
Going forward, I take the view that the main risk for Imperial Brands is a continued decline in sales volume. While inflationary pressures have allowed for temporary growth in net revenue from rising prices - growth will eventually plateau in this regard.
Additionally, while cigarette pricing has been strong - I take the view that we will also need to see a significant improvement in mass market cigar volumes - which will be determine in significant part by the degree to which wholesalers can bolster production once more. As mentioned, given the revenue per stick for cigars is approximately 2.6 times that of cigarettes - low volume growth for the former would be expected to mean low volume growth overall.
While we have been seeing encouraging revenue growth across Europe for the next generation product segment - this has not been the case across North America and tobacco net revenue still accounts for the vast majority of revenue across all regions.
Conclusion
To conclude, I take the view that in spite of price growth, Imperial Brands needs to see a rebound in volume growth across both the cigarette and mass market cigar segments before upside can be expected in this stock.
For further details see:
Imperial Brands: Price Growth Encouraging, But Volume Pressures Remain