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Now more than ever, a comfortable retirement depends on secure, stable investments. Unfortunately, the right stocks for retirement won't just fall into your lap. Let's figure out what makes a great retirement-oriented stock, then examine whether British American Tobacco (AMEX: BTI ) has what we're looking for.
The right stocks for retirees
With decades to go before you need to tap your investments, you can take greater risks, weighing the chance of big losses against the potential for mind-blowing returns. But as retirement approaches, you no longer have the luxury of waiting out a downturn.
Sure, you still want good returns, but you also need to manage your risk and protect yourself against bear markets, which can maul your finances at the worst possible time. The right stocks combine both of these elements in a single investment.
When scrutinizing a stock, retirees should look for:
- Size. Most retirees would rather not take a flyer on unproven businesses. Bigger companies may lack their smaller counterparts' growth potential, but they do offer greater security.
- Consistency. While many investors look for fast-growing companies, conservative investors want to see steady, consistent gains in revenue, free cash flow, and other key metrics. Slow growth won't make headlines, but it will help prevent the kind of ugly surprises that suddenly torpedo a stock's share price.
- Stock stability. Conservative retirement investors prefer investments that move less dramatically than typical stocks, and they particularly want to avoid big losses. These investments will give up some gains during bull markets, but they won't fall as far or as fast during bear markets. Beta measures volatility, but we also want a track record of solid performance as well.
- Valuation. No one can afford to pay too much for a stock, even if its prospects are good. Using normalized earnings multiples helps smooth out one-time effects, giving you a longer-term context.
- Dividends. Most of all, retirees look for stocks that can provide income through dividends. Retirees want healthy payouts now and consistent dividend growth over time -- as long as it doesn't jeopardize the company's financial health.
With those factors in mind, let's take a closer look at British American Tobacco.
What We Want to See
Pass or Fail?
|Size||Market cap > $10 billion||$80.5 billion||Pass|
|Consistency||Revenue growth > 0% in at least four of five past years||5 years||Pass|
|Free cash flow growth > 0% in at least four of past five years||5 years||Pass|
|Stock stability||Beta < 0.9||0.31||Pass|
|Worst loss in past five years no greater than 20%||(30.3%)||Fail|
|Valuation||Normalized P/E < 18||15.88||Pass|
|Dividends||Current yield > 2%||4.6%||Pass|
|5-year dividend growth > 10%||19.4%||Pass|
|Streak of dividend increases >= 10 years||13 years*||Pass|
|Payout ratio < 75%||72.7%||Pass|
|Total score||9 out of 10|
Source: Capital IQ, a division of Standard and Poor's. Total score = number of passes. *As measured in British pounds.
British American does a good job of delivering the goods for retirement investors, meeting every criterion except for its 30% share loss in 2008. The tobacco industry is full of stalwart companies, and British American, which makes brands including Dunhill, Kent, Pall Mall, and Lucky Strike, has the second-largest market share in the global tobacco industry outside China, so it is no exception.
Most U.S. investors are quite familiar with the strong, growing dividends and reasonable valuations that domestic players Altria (NYSE: MO ) and Lorillard (NYSE: LO ) bring to the table. But with less litigious environments, foreign markets can actually be even more lucrative for tobacco companies with less risk. That was one of the motivators behind Altria's decision to spin off Philip Morris International (NYSE: PM ) a few years ago, unlocking the value of the foreign brand while walling off U.S. liabilities inside Altria's now-smaller domestically focused entity.
Despite trailing Philip Morris in revenue and market share, no other company has a greater reach than British American. It has factories in 41 countries and serves more than 180 markets, being the dominant brand in more than 50 of those.
As a foreign company, British American Tobacco flies under the radar of many investors. But for retirees and other conservative investors looking for solid income, growth potential, and some international diversification to boot, British American should definitely go on your watch list.
Finding exactly the right stock to retire with is a tough task, but it's not impossible. Searching for the best candidates will help improve your investing skills, and teach you how to separate the right stocks from the risky ones.
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If you want to retire rich, you need to be confident that you've got the basics of your investment strategy down pat. See if you're on track by following the 13 Steps to Investing Foolishly.