British American Tobacco to Buy Out Brazilian Asset

British American Tobacco is gaining full control over its part-owned Brazilian cigarette company, adding further support to analysts'  wide economic moat rating

Philip Gorham 3 March, 2015 | 3:01PM
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British American Tobacco (BATS) confirmed today that it has made an offer to acquire the 24.7% of Brazilian cigarette maker Souza Cruz that it does not already own. This is not a surprise, as the firm disclosed last month that it was considering making an offer, and the deal is too small to materially affect our £35 fair value estimates for the ordinary shares and ADRs, respectively. Gaining full control over this fairly strong business adds further support to our wide economic moat and stable moat trend ratings for BATS.

The offer price of BRL 26.75 implies a cash investment of £2.3 billion and values the firm at 23 times 2014 earnings, six times sales, and 15 times EBITDA. These multiples are in line with current tobacco valuations globally, but above historical multiples in the space. Nevertheless, we like this transaction because Souza Cruz is a strong business.

Between 2010 and 2013, it increased revenue at a 4.4% compound annual rate, faster than the 1.0% of BATS, and its earnings before tax margins of 40% are slightly above that of the group. The firm is the dominant player in Brazil; it held a volume share of 78.4% in 2014 and owns six of the top 10 brands in the country, including Derby, Free and Hollywood. The outright acquisition of Souza Cruz will allow BATS to consolidate one of the key long-term drivers of its business.

Even assuming the U.S. tobacco deals are given regulatory approval and BATS makes a $4.7 billion investment to maintain its 42% economic interest in Reynolds American, this deal for Souza Cruz puts BATS on course to increase leverage to a debt/EBITDA level of 2.2 times, in line with competitor Philip Morris International (PM) and below the post-transaction four times of Imperial Tobacco (IMT).

While few transformative deals remain in global tobacco, we believe this deal still allows BATS some room for bolt-on acquisitions, particularly like this one for dominant players in emerging markets.


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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
British American Tobacco PLC3,033.00 GBX1.95Rating
Imperial Brands PLC1,709.50 GBX0.83Rating
Philip Morris International Inc103.38 USD1.25Rating

About Author

Philip Gorham