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3 Tobacco Stocks Hogging in the Limelight on Favorable Industry Trends

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The Zacks Tobacco industry participants have been benefiting from pricing power. Strength in the smoke-free product arena as a response to consumers’ changing preferences has also been working well for players in the industry.

However, players are grappling with the impacts of the inflationary environment on Adult Tobacco Consumers’ (“ATC”) spending patterns and the elevated cost of some direct materials. However, a focus on smoke-free transformation presents solid growth prospects for companies like Philip Morris International Inc. (PM - Free Report) , Altria Group, Inc. (MO - Free Report) and British American Tobacco p.l.c. (BTI - Free Report) .

About the Industry

The Zacks Tobacco industry includes companies that manufacture and sell cigarettes as well as tobacco and nicotine-based products, such as cigars, snuffs and oral tobacco. Some companies also offer RRPs, such as e-cigarettes, vaping and heat-not-burn variants. A few of the firms are engaged in making devices and attachments needed in vaping and heat-not-burn products. Most products manufactured by the tobacco industry participants fall under the strict vigilance of the U.S. Food and Drug Administration (“FDA”) and are required to follow the permissible levels of nicotine in manufacturing. Players in this space sell products mostly through large retailers, distributors, convenience stores, drugstores, wholesalers and grocery chains. Additionally, some international tobacco firms operate in the country through subsidiaries.

4 Trends Shaping the Future of the Tobacco Industry

Pricing Power: Players in the tobacco industry have been leveraging the strong pricing influence of tobacco products, which also helps them make up for high taxes and soft cigarette sales volumes. Since smokers tend to be less responsive to price hikes due to their addiction, this approach is anticipated to continue benefiting companies within the tobacco sector. Prudent pricing of cigarettes has been supporting revenues of players in the tobacco industry in the face of declining volumes.

Smoke-Free Products Gain Prominence: Rising health consciousness and stringent government regulations aimed at reducing cigarette smoking have driven many consumers toward reduced-risk products (RRPs) or smoke-free alternatives. These products are promoted as having a less adverse impact on health due to their scientific composition and way of consumption. An increasing number of consumers are turning to these alternatives as a means to quit smoking traditional cigarettes. Major players in the tobacco industry have been allocating resources to expand their presence in this category, including investing in innovations to make these products more user-friendly and energy-efficient. Companies have been experiencing significant revenue growth in the RRP or smoke-free product space. Notably, Philip Morris and British American Tobacco have been proactively working towards transitioning into predominantly smoke-free companies in the coming years. The resilience of these products is likely to continue delivering favorable outcomes for industry participants as they undergo business transformations.

Cigarette Volume Trends: The cigarette industry is grappling with the challenges posed by the inflationary environment, which has influenced consumer spending habits. Given the ever-changing external landscape, economic factors like inflation, increased interest rates, global supply-chain hurdles and ATC dynamics, such as purchasing patterns, the adoption of smoke-free products and disposable income, are likely to impact cigarette sales volumes. Further, cigarette volumes have been affected by strict government regulations pertaining to sales, marketing and manufacturing. Such regulatory norms are imposed due to health hazards caused by the consumption of nicotine. Some guidelines issued by the FDA include the mandatory use of precautionary labels on cigarette packets and self-critical advertisements. As cigarette sales constitute a significant portion of revenue for tobacco industry companies, the decrease in sales volumes within this category raises concerns.

Inflationary Cost Pressures: The performance of numerous industry participants has been adversely affected by cost inflation. Global inflationary challenges linked to essential materials such as tobacco leaf, energy, and labor costs have been a worry. Elevated expenses related to the research, development, and marketplace activities of smoke-free products further present risks to profit margins.

Zacks Industry Rank Indicates Solid Prospects

The Zacks Tobacco industry is housed within the broader Zacks Consumer Staples sector. The industry currently carries a Zacks Industry Rank #92, which places it in the top 37% of more than 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates bright near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperform the bottom 50% by a factor of more than 2 to 1.

Let’s take a look at the industry’s performance and current valuation.

Industry vs. Broader Market

The Zacks Tobacco industry has underperformed the Zacks S&P 500 composite as well as the broader Zacks Consumer Staple sector over the past year.

The industry has declined 8.5% over this period compared with the broader sector’s drop of 8.4%. Meanwhile, the S&P 500 has risen 17.1% in the said time frame.

One-Year Price Performance

Industry's Current Valuation

On the basis of forward 12-month price-to-earnings (P/E), which is commonly used for valuing consumer staple stocks, the industry is currently trading at 9.47X compared with the S&P 500’s 19.09X and the sector’s 16.97X.

Over the past five years, the industry has traded as high as 13.18X, as low as 9.14X and at the median of 10.84X, as the chart below shows.

Price-to-Earnings Ratio (Past 5 Years)

3 Tobacco Stocks to Keep a Close Eye On

Philip Morris International: The Zacks Rank #3 (Hold) company has fortified its position through a strategic pricing approach and a focus on smoke-free products, aligning with changing consumer preferences. Philip Morris is on track to achieve its goal of transitioning into a primarily smoke-free entity by 2025. At its last earnings call, management remained encouraged about the company’s ongoing success attributed to its smoke-free portfolio, led by the outstanding performance of flagship premium brands, IQOS and ZYN. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

The Zacks Consensus Estimate for PM’s 2023 EPS has dropped from $6.16 to $6.08 in the past 30 days. Shares of Philip Morris have slipped 1% in the past six months.

Price and Consensus: PM

Altria Group: The company has been strengthening its position in the tobacco space with its pricing power. Altria’s focus on its journey toward a smoke-free future remains another major upside. The company's investment in on! is proving to be fruitful in this regard. The acquisition of NJOY Holdings marks another significant development in the e-vapor category. MO highlighted its 2028 Enterprise Goals at its 2023 Investor Day, as part of which it targets generating mid-single-digit adjusted EPS growth through 2028 (on a compounded annual basis). This manufacturer, marketer, and distributor of smokeable and oral tobacco products currently carries a Zacks Rank #3.

Altria shares have dipped 5.4% in the past six months. The Zacks Consensus Estimate for MO’s 2023 EPS has risen by a penny to $4.96 over the past 30 days.

Price and Consensus: MO

British American Tobacco: This consumer goods company offers five main product categories – including Vapour, Heated Tobacco, Modern Oral, Traditional Oral and combustible cigarettes. The Zacks Rank #3 company is advancing successfully in its transformation journey and remains dedicated to the vision of 'Building a Smokeless World.' British American Tobacco aims to become a predominantly smokeless entity with half of its revenues coming from non-combustibles by 2035.

The Zacks Consensus Estimate for British American Tobacco’s 2023 bottom line has increased by 0.6% to $4.66 over the past 30 days. Shares of BTI have declined 16% in the past six months.

Price and Consensus: BTI

See More Zacks Research for These Tickers

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Altria Group, Inc. (MO) - free report >>

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British American Tobacco p.l.c. (BTI) - free report >>

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