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Does it make sense for a company's sales to decline and its stock price to skyrocket? One FTSE 100 The company has been in that position lately.
Its share price has grown by 41% in 2024, however, in its most recent annual results (through the end of September), sales were actually down slightly compared to the prior-year period.
This is a stock I used to own but sold a few years ago, which means I've missed out on that more than two-fifths jump in share price this year. Furthermore, by not owning the stock I am missing out on a juicy dividend yield, which currently stands at 6%.
Should I add it back to my portfolio? I don't think so and below I will explain some pros and cons that support my choice.
Recognized company in a mature industry.
The company in question is imperial marks (LSE: IMB).
Its old name, Imperial Tobacco, made it clearer how the company makes money. It manufactures and sells cigarettes under various brands throughout the world. It also offers non-cigarette formats, although it has been making less aggressive inroads into that market than some rivals, focusing instead on growing its market share in the declining but still huge cigarette space.
Make money in declining markets
I mentioned earlier that sales revenue fell in the company's last financial year, but to be fair, it was only 0.2%. They still amounted to £32 billion, which I consider substantial.
However, that was the third consecutive period of declining sales, reflecting Imperial's focus on a market that is shrinking over time.
The bottom line was better: earnings per share increased 19% year over year.
That reflects the pricing power of companies that sell addictive products under premium brands. They can raise the price to compensate for falling sales.
Profit problems
In fact, that's exactly what appears to be happening with this particular FTSE 100 business. Prices rose 7.8%, but sales revenue still fell slightly, meaning sales volumes fell more than revenue. . At least in the case of cigarettes, I see it as indicative of the likely long-term trend.
At some point, pricing power reaches its limits as rising cost increases put further downward pressure on demand, while manufacturing and marketing economies of scale become harder to maintain.
That's where I think rivals like British American Tobacco may have an advantage. For now, Imperial's less ambitious push into products other than cigarettes has allowed it to save money it could otherwise spend trying to generate demand. However, in the longer term, the strategy could mean profits fall sharply as volumes decline.
Potentially a good value for money, or a value trap?
Even though the stock has soared this year, it still trades at a price-to-earnings ratio of less than 9.
With Imperial's powerful portfolio of brands, strong cash flow generation and generous dividend yield, this could prove to be a good value.
But the dividend was cut just four years ago and I fear that the share price rise this year may put too much emphasis on short-term profitability rather than what I see as long-term challenges to Imperial's business model. .
So I have no plans to buy shares in the company again.
