British American Tobacco (BTI -0.30%) is a difficult investment to understand. It isn't that the company's operations are complex, per se, but that the business today has two different outlooks based on the time period over which you want to own it.
Here's why investors looking for a short-term safe haven might appreciate British American Tobacco and what kind of investors might want to be careful with this stock.
The market sell-off is a problem
Geopolitical issues and tariff fights have left Wall Street in an uncertain state. There was a deep market sell-off, which pushed the S&P 500 index (^GSPC -0.56%) into correction territory and the Nasdaq Composite (^IXIC -0.51%) into a bear market. Both indexes have zigged and zagged in dramatic fashion as they recovered from the worst of their pullbacks. So even through the market has recovered somewhat, uncertainty remains high.
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In this environment, investors often look for certainty. One sector that usually gets favored in uncertain times is consumer staples. These are items that tend to be low-cost and that get purchased regardless of the economic environment. Another investment niche that gains favor in uncertain times is dividend stocks, since collecting regular dividends allows investors to focus on something other than the market's gyrations.
British American Tobacco stands out on both fronts.
The company's main product is cigarettes, which are basically a nicotine delivery method. Nicotine is addictive and, thus, cigarette consumers tend to buy their smokes regardless of what is going on around the world. In fact, when stress is high some people even smoke more.
And, on top of that, British American Tobacco has a lofty 6.9% dividend yield backed by a growing dividend. Notably, the company has material pricing power, since customers have long proven willing to pay more as it raised prices.
If you are worried about the market's volatility today you might want to take a closer look at British American Tobacco. But don't buy this tobacco stock and think you can simply forget about it. There's another side to the story.
British American Tobacco is facing long-term headwinds
While there are near-term reasons to like British American Tobacco, the cigarette industry as a whole is facing serious long-term headwinds. That's because smoking cigarettes is currently falling out of favor.
The biggest highlight of this issue comes from 2023, when British American Tobacco changed the way in which it accounts for its U.S. brands. It's a bit arcane, but it shifted from assuming that the brands would always have value to assuming they would be worthless in around 30 years (down to around 28 years, now).
Like its peers, British American Tobacco has been able to offset declining sales volumes with price increases. That touches on one of the company's strengths. But at some point price increases are likely to simply make the volume declines worse. It doesn't appear that this tipping point has been reached, but investors shouldn't ignore this risk.
To management's credit, the company has been working to diversify its business into non-cigarette areas, like vaping and nicotine pouches. It has achieved some success on this front, but not nearly enough to replace the cigarette business.
So there is still material risk that, in the long term, British American Tobacco could have trouble supporting its dividend. That's not a worry right now, however, given a reasonable cash dividend payout ratio of around 55%. But buying the stock and forgetting about it could set you up for a nasty surprise later if you don't keep tabs on the potential dividend risks.
Is British American Tobacco worth buying?
So the real issue with British American Tobacco comes down to an investor's time horizon. If the goal is simply to find a safe haven during a market storm, owning British American Tobacco will likely allow you to collect a large yield for a few years without having too much to worry about. However, if your preferred holding period is "forever" when you buy a dividend stock, well, you might want to tread carefully. British American Tobacco is just not the kind of stock you can set and forget.
