How sustainable is British American Tobacco's 6.39% dividend?

Historically, tobacco companies have generated some of the most impressive long term returns on capital in the world but the industry is rapidly changing. Developed markets are shifting away from smoking, although growth opportunities remain in other products and geographies.

Take British American Tobacco (LON:BATS), for example. The tobacco giant has a market cap of £71bn and annual sales of £24bn, but net profit tumbled in the year to 31 December 2018 to £5.96bn. So, at this time of great change in the industry, how safe is British American Tobacco's 6.39% rolling dividend yield?

One of the best ways to check is with the dividend cover (earnings per share divided by dividend per share). Dividend cover of two times or above is strong. Anything below one and a half times - as is the case for British American Tobacco - should be stirring us to investigate in more detail.

Calculating British American Tobacco’s dividend cover ratio 

A low level of dividend cover means that a small decline in earnings could consign your dividend payment to the scrap heap. It happens all the time. With that in mind, let’s take a look at British American Tobacco’s dividend cover.

We can get all the information we need to see if British American Tobacco has an adequate level of dividend cover from the group’s StockReport. The group’s trailing twelve-month earnings per share is £2.60 and its trailing twelve-month dividend per share is £1.95. 

Divide the former by the latter and we get a trailing twelve-month dividend cover for British American Tobacco of 1.33. This is below the 1.5 times cover limit that marks the point at which we should do some further digging on dividend sustainability and safety.

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