The company:
(Swedish Match was acquired at a huge premium by Philip Morris after the article was published.)
Based in Stockholm, Sweden, and listed on the Stockholm Exchange with the ticker SWMA, Swedish Match is a company that makes snuff, snus, chewing tobacco, cigars, matches and lighters. It was originally a matchstick company (merged with tobacco producer in 1992 under the Procordia Group), thus the name, but has over the years evolved into a tobacco company, but without producing the traditional cigarettes, which it stopped selling over a decade ago (except cigars).
The number of smokers in Scandinavia has fallen to somewhere between 10-15%, and Swedish Match positioned itself for a smokeless future, much like Philip Morris is aiming for. Harm reduction is gaining traction worldwide. When cigarette smokers switch to safer nicotine-containing products, they reduce their individual health risk (presumably). Swedish Match is most famous for making “snus”, a common tobacco in Scandinavia for decades where you put a patch of nicotine under the upper lip. There are more snus users than cigarette smokers in Sweden.
It’s no small feat that Sweden has managed to produce one of the world’s biggest “tobacco” companies, but I guess it all comes down to the long-term vision of Swedish entrepreneurs and management teams. The Nordics have been, and continues to be, a superb place to invest.
The matchstick/lights segment is pretty small compared to the tobacco segments:
- Snus and moist snuff: 52% of sales and 60% of operating margin.
- Other tobacco products: 40% of sales and 36% of operating margin. (This is mainly chewing tobacco and cigars).
- Lights: 8% of sales and 4% of operating margin. (Matches, lighters and complementary products.)
What makes tobacco such a great business:
In a previous article, I wrote about why tobacco has been, and most likely continue to be, a great investment. This article is highly relevant for Swedish Match and I recommend clicking for that quick read.
What makes Swedish Match a great business?
- The best and most proven alternative to cigarettes lies in smoke-free nicotine products that do not require inhalation.
- Snus is not harmless, but science-based regulatory frameworks will most likely continue to permit Swedish Match to responsibly market their products to adult consumers as a safer alternative to combustible cigarettes. The US FDA found that snus products significantly reduce the risk of tobacco-related disease to individual tobacco users, and snus products benefit the health of the population as a whole taking into account both users of tobacco products and persons who do not currently use tobacco products.
- Currently, snus is prohibited in the EU, a potentially significant upside if this is revoked. Snus is banned in the EU since 1992, but Sweden got an exemption (Norway as well, but they are not part of the EU, only EEA).
- The regulation builds a moat around the business. Just a few players dominate the market. Getting approval is very difficult, and thus leads to lesser competition.
- The company could be an acquisition target – rumors have been circulating for years. Swedish Match is small compared to Altria, Philip Morris, Imperial Brands, Japan Tobacco and British American Tobacco.
- ZYN, nicotine pouches, has created a nice tailwind. Growth has been phenomenal for this product, and it seems likely to expand further.
- “Harm reduction” likely to continue (cigarette smokers switching to safer nicotine-containing products).
The share:
Since its listing in 1996, the share performance has been spectacular:
Since 2000 the CAGR has been a spectacular 19%, much better than any stock index. Perhaps even better, over the whole period it showed a negative three-year return only once in 2015.
EPS has grown, but less than the share price at 12.5% annually. This means a substantial part of the share performance has come from multiple expansion:
Valuation:
The trailing P/E ratio has most of the time been between 15 and 20. Today it’s above 25. Can we justify this multiple when for example Altria is at 10 and Philip Morris at 16? Philip Morris is just as much a play in “harm reduction”.
ZYN (nicotine pouches):
Swedish Match has become the market leader in the US in nicotine pouches. The introduction of ZYN in the US has been a great success, and ZYN is now available on a limited scale in several European countries as well. Shipments of ZYN in the US amounted to 50.4 million cans for the year, up from 12.7 million cans in the prior year. Because of the success, the rollout of further production capacity of 200 million cans has started.
On the 20th of August 2020, the state authorities of California issued a press release where they claim Swedish Match has given false information to FDA about ZYN, and require ZYN to be withdrawn from the US market. It’s hard to judge if this has any merit. However, the daily life of any tobacco company is to deal with issues like this. This is exactly what makes them very immune to new competitors.
Capital allocation:
Swedish Match is highly profitable in an asset-light industry. Growth is mainly organic, and almost all cash is handed back to shareholders. Since the IPO in 1996, the dividend has increased from 1.07 SEK to the current 12.5 SEK, a CAGR of 10%. The dividend is still well covered by earnings. Furthermore, there have been several “bonus” dividends.
Buybacks have been ongoing and outstanding shares are reduced from 463,5 million to 167.8 at the end of 2019, a CAGR of minus 4% annually:
| Bonus | ||||
| DPS | Dividend | EPS | #shares 1 000 | |
| 1996 | 1.07 | 2.28 | 463558 | |
| 1997 | 1.07 | 2.15 | 463558 | |
| 1998 | 1.08 | 1.56 | 450134 | |
| 1999 | 1.22 | 10.56 | 431340 | |
| 2000 | 1.35 | 2.76 | 410177 | |
| 2001 | 1.45 | 3.4 | 361506 | |
| 2002 | 1.6 | 4.1 | 348295 | |
| 2003 | 1.7 | 4.68 | 332679 | |
| 2004 | 1.9 | 5.61 | 325709 | |
| 2005 | 2.1 | 4.97 | 315328 | |
| 2006 | 2.5 | 7.47 | 287062 | |
| 2007 | 3.5 | 7.22 | 262604 | |
| 2008 | 4.1 | 8.3 | 251867 | |
| 2009 | 4.75 | 9.67 | 244259 | |
| 2010 | 5.5 | 13.12 | 225969 | |
| 2011 | 6.5 | 12.14 | 209001 | |
| 2012 | 7.3 | 14.33 | 202889 | |
| 2013 | 7.3 | 13.63 | 198930 | |
| 2014 | 7.5 | 13.23 | 198583 | |
| 2015 | 8 | 21.5 | 14.48 | 193530 |
| 2016 | 8.5 | 7.5 | 27.38 | 187116 |
| 2017 | 9.2 | 7.4 | 18.88 | 180097 |
| 2018 | 10.5 | 20.63 | 173446 | |
| 2019 | 12.5 | 23.22 | 167780 |
(Source: Annual reports.)
Conclusion:
I’m not a shareholder (yet) but opted for Philip Morris (PM). So far this was a mistake as the share price of Swedish Match by far outperformed PM’s during my holding period. But looking some more years into the future I believe PM is the best choice, mainly due to valuation difference, but also because I believe PM is the most conservative bet.
If you have read so far, you might be interested in other related articles:
Disclosure: I’m long Swedish Match, Altria, and Philip Morris. I am not a financial advisor. Please do your own due diligence and investment research or consult a financial professional. All articles are my opinion – they are not suggestions to buy or sell any securities.
(This article was published on the 17th of September 2020.)
