Investment Column: Defensive attributes make BAT an attractive bet in uncertain times

CSR; Lidco
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The Independent Online

Our view: Buy

Share price: 2,896p (+43.5p)

British American Tobacco, the world's second-biggest maker of cigarettes, yesterday delivered a smoking set of results for the first nine months of this year. The volume of cigarettes sold by the group slipped by 0.4 per cent but BAT's ability to push through hefty price rises enabled it to register a 7 per cent uplift in organic revenues.

It's worth noting that the volume trend actually improved between the first and third quarters. Over the nine months to the end of September, the group's was powered by the four "global drive brands" – Kent, Pall Mall, Dunhill and Lucky Strike – which delivered combined volume growth of 8 per cent.

Of these brands, Pall Mall was the biggest riser, posting a standout 12 per cent leap after "good performances" in Pakistan, Russia, Germany and Romania. Perhaps more importantly, BAT said it continues to improve its operating margin by tackling its cost base through "factory rationalisation, systems standardisation and productivity savings". The comments on margins matter, as the sheer scale of BAT's operations was highlighted by its subsidiaries posting a 0.6 per cent decrease in volumes (the 0.4 per cent decline noted above refers to organic volumes) to a cough-inducing 523 billion cigarettes over the nine months.

That said, BAT did not have it all its own way and said that exceptional sales in Japan in 2011 had failed to offset the "significant" excise-driven price increases in the country introduced last year. The group also said a number of unspecified currencies weakened against the dollar during the quarter.

However, we think these are minor cigarette burns in what remains an outstanding investment case for a defensive stock in a downturn.

For instance, BAT currently trades on a forward earnings multiple of 13.7, which means that it isn't exactly pricey. Moreover, the stock boasts a healthy prospective dividend yield of 4.8 per cent. Income stocks are always worth a punt during times of volatility.

And that isn't all. Not only does the company offer a nice yield, it also resumed its share buy-back in March and bought 23m shares for £622m over the nine months. The business might not be everyone's taste but its shares are worth investing in.


Our view: Sell

Share price: 179.7p (-4.5p)

After an impressive third quarter update from FTSE 100 semiconductor group ARM on Tuesday, Cambridge-based CSR stepped up before investors yesterday, although the results were not so impressive.

Revenues at the company, which specialises in Bluetooth and WiFi chips, dropped almost 6 per cent in the 13 weeks to the end of September to $209.2m, not counting one month of contribution from US group Zoran. The underlying operating profit was down from $35.3m (£22.2m) to $24.3m.

The company bought Zoran earlier in the year. Yesterday, it said the business had missed its revenue guidance, with management putting out a pretty cautious statement.

Alex Jarvis, analyst at Peel Hunt, said that from recent semiconductor reports in the last few days "the fourth quarter is unlikely to be the bottom of the current downgrade cycle". Moreover, much of growth next year is expected to be smartphone- and tablet-related, he pointed out, noting "CSR's falling exposure to handsets".

To be fair, however, the company is seeing cost-cutting benefits, as well as some client wins. But weighing against that is the valuation of 20.3 forward earnings. This, and the lack of obvious catalysts for the shares in the near term, means that we would rather opt for ARM instead.


Our view: Hold

Share price: 14p (+1p)

We bought into Lidco exactly one year ago. Since then, the company, which specialises in heart monitoring equipment, has seen its shares move lower, leading us to wonder whether we should we cut our losses.

To find out, we turned to yesterday's half-yearly results, which were in fact encouraging. Revenues were up by more than 20 per cent, and gross profit margins improved, helping Lidco cut its operating loss by 58 per cent.

The margin improvement was particularly encouraging, as it should underpin performance in these grim economic times. As the analysts at Finncap soon pointed out, the company looks like its on the right trajectory. If it maintains the momentum evidenced in yesterday's release, it should deliver the maiden full-year profits that Finncap is hoping for.

The share price decline has also improved the valuation multiple, which has declined to around 30 times forward earnings, falling to 18.6 times on estimates for the year after. But, given that we are currently sitting on losses, we would not add to our holding. So, we won't sell in light of the recent results; but we will wait until our investment shows a profit before thinking about buying further.