‘Rich’ returns fire up interest in discounted FTSE 100 stalwarts

Chunky discounts on the valuations of British American Tobacco (LSE:BATS) and Imperial Brands (LSE:IMB) have been backed to close after a City bank flagged their “rich” cash returns and smoke-free progress.

Jefferies initiated coverage on the FTSE 100 income stocks via buy recommendations, with its price targets pointing to upsides of 26% for Imperial and 35% for “top pick” BAT.

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The bank notes that BAT, whose brands include Vuse, Dunhill and Lucky Strike, is trading at 9.6 times forecast 2026 earnings - some 35% below the global tobacco sector.

Its sum-of-the-parts analysis suggests BAT’s smoke-free business is valued at 12.4 times compared with 35.3 times for the equivalent business of Philip Morris International (NYSE:PM).

Jefferies believes that as BAT’s modern oral brand Velo expands in the US and cash returns accumulate, the valuation disconnect should narrow. It has a price target of 4,800p, which is the equivalent of 13.1 times 2026 earnings.

The bank said a long but steady path towards a healthier balance sheet meant the business is now nearing its target debt-to-earnings ratio corridor of 2-2.5 times.

It added: “Given the strengthened balance sheet and the high free cash flow generation, we see ample scope for increased shareholder cash returns via dividends and a potential increase in share buybacks.”

This week’s report said BAT's exposure to a wide array of attractive emerging markets and strength of its global brands have helped the business mitigate increasingly sharp volume declines in some developed markets. 

This has driven cash flow generation and supported the transition to next generation products, where Jefferies sees solid growth runways for Velo and heated tobacco offering glo.

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Jefferies said: “The steadily improving profitability in combustibles is underpinning the company's increasingly successful transition towards smoke-free products.

“Despite the strong smoke-free foothold with potential for further expansion, a stronger balance sheet and rich cash returns, BAT is trading at a 35% discount to wider tobacco that we believe should narrow going forward.”

Imperial Brands is valued at 8.5 times 2026 earnings, some 43% below the sector and a disconnect that Jefferies believes is excessive and failed to take into account a “fortress” balance sheet and “rich” cash returns. Its 3,600p target equates to 10.9 times.

The bank said: “Following a management overhaul in 2020, the combustibles business has steadily gained share in key markets, and the company's smoke-free products strategy is starting to show signs of success, particularly in US modern oral.”

The shares yield dividend income of more than 5% but Jefferies believes that shareholder cash returns are likely to further expand in the near term via a consistent dividend payout ratio and an evergreen share buyback programme.

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Imperial’s next generation products (NGP) portfolio is built around vaping brand blu, heated tobacco offer Pulze and modern oral’s Zone.

Jefferies said: “Although NGP revenues remain a small portion of group sales, the launch of Zone has proved very successful in the key US market, and we see ample room for further growth.

“Additionally, we detect green shoots for Pulze, which could mitigate future volume declines in combustibles. Given this improved brand portfolio, we think NGP revenues could double in the next five years.”