A multitude of macroeconomic and geopolitical worries led the S&P 500 index to a 19% decline in 2022. This was the first yearly drop in the index since 2018.
But not all stocks fared as poorly as the index: Shares of the tobacco company known as British American Tobacco (BTI +0.02%) surged 14% higher in 2022. And this impressive outperformance appears to be poised to continue in 2023, which puts the stock at the very top of my buy list for the new year. Here are three reasons why income investors would be wise to consider buying the consumer staple stock for 2023 and beyond.
NYSE: BTI
Key Data Points
1. Brands that can fuel future earnings growth
British American Tobacco itself may not be a household name to most people. But with operations in more than 175 markets, its brands are well-known around the world. These include U.S.-specific cigarette brands known as Camel and Newport, worldwide cigarette brands like Lucky Strike and Kent, and new category products such as the vape brand dubbed Vuse, the heated tobacco brand termed Glo, and Velo nicotine pouches.
As it stands, the vast majority of British American Tobacco's revenue (85.4%) was still derived from combustible products (i.e., cigarettes) in the first half of 2022. For context, this was down 2.2% year over year. The new category, the non-combustible portion of British American Tobacco's business, will grow more important as the years pass, and it works toward a long-term goal of 50 million consumers by 2030. As of Sept. 30, the non-combustible product franchise reached 21.5 million consumers -- up 3.2 million over the year-ago period.
This is why analysts are anticipating 11.8% annual earnings growth from British American Tobacco over the next five years. For perspective, this is double the average tobacco industry earnings growth outlook of 5.7%.
Image source: Getty Images.
2. The dividend is safe and generous
British American Tobacco's 7.4% dividend yield is more than four times the S&P 500 index's 1.7% yield. Yet, this income stock's whopping income doesn't look too good to be true.
This is because it is projected that British American Tobacco's dividend payout ratio will be 56.8% over the next 12 months. Given that tobacco companies often need very little funds for capital expenditures, that is an exceptionally low payout ratio. Such a manageable payout ratio builds a great deal of sustainability into the dividend. That's why I believe British American Tobacco's dividend has room to grow moving forward.
3. A dirt-cheap valuation
British American Tobacco is a fundamentally strong tobacco company. And even after trouncing the S&P 500 index, the stock is still incredibly undervalued.
British American Tobacco's forward price-to-earnings (P/E) ratio of 9.2 is well below the tobacco industry average forward P/E ratio of 13.4. Considering that the company's growth potential is superior to the tobacco industry average, this makes the stock a no-brainer buy for income investors. And if that wasn't convincing enough, British American Tobacco's trailing-12-month (TTM) price-to-sales (P/S) ratio of 2.7 is far less than the 10-year median TTM P/S ratio of 4.1. Since the company's fundamentals appear to be just as strong now as they have been in recent years, the current valuation is arguably a deeply discounted one.
