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Investment Overview for Altria Group, Inc. (NYSE:MO)
Altria's Retail Share in Cigarettes: We currently estimate Altria's market share in cigarettes to remain between 49-51% over the course of the Trefis forecast period. If however, Altria manages to increase its market share to 56% by effective marketing of its new Marlboro premium brand architecture and consistently increase volumes of its discount brand sales, it would imply a 10% upside to the Trefis price estimate.
Revenue per Smokable Product: We currently estimate revenue per smokable product unit to increase by 3% over the course of the Trefis forecast period, which would suffice to offset the current cigarettes industry volume decline. However, it is also possible that the annual increase in revenue per cigarette is lower than expected due to lower room for higher pricing. A 0.4% annual rate of increase would imply a 10% downside to the Trefis price estimate.
Altria Group, Inc. (previously named Philip Morris Companies Inc.) is one the largest tobacco corporations of the world and the parent company of Philip Morris USA, John Middleton Inc., United States Smokeless Tobacco Inc., Philip Morris Capital Corporation, and Chateau Ste. Michelle Wine Estates. The company formerly owned Kraft Foods (KFT) and Philip Morris International (PM), which housed its international tobacco business. In January 2009, Altria Group completed the acquisition of UST Inc., a moist smokeless tobacco manufacturer and owner of the Ste Michelle Wine Estates. In addition, Altria has a 27.1% interest in UK based SABMiller, one of the world's largest brewing companies.
The brand portfolios of Altria’s tobacco operating companies include well known names such as Marlboro, Copenhagen, Skoal and Black & Mild. Ste. Michelle produces and markets premium wines sold under various labels, including Chateau Ste. Michelle and Columbia Crest. It exclusively distributes and markets Antinori, Champagne Nicolas Feuillatte and Villa Maria Estate products in the United States.
Cigarettes as the most valuable division with over 60% contribution to Altria's value
Cigarettes is the most valuable division of Altria Group with over 61% contribution to its stock value. Philip Morris USA occupies more than 50% retail share in the US cigarettes market. It sold more the 129 billion cigarettes in 2013, with Marlboro being the most popular cigarette brand occupying a giant retail share of 42% by itself.
Growth in smokeless tobacco products
Smokeless products is a high growth niche segment of tobacco products in the US and is projected to grow at an annual rate of around 5% over the next few years. Altria currently occupies more than 55% of the market share in the US in terms of volume of sales with its leading smokeless tobacco brands which include Copenhagen, Skoal and Red Seal.
Declining tobacco consumption
Volume of tobacco products sales have been declining as a result of growing health consciousness amongst people about the extreme health risks of smoking. Federal and state governments in the U.S. have also been discouraging tobacco consumption through high excise duties and legislative controls like bans on public smoking and strict restrictions on advertising and marketing of tobacco products as well as compulsory health warnings. The volume of cigarette sales is expected to decline by 3-4% each year over the next five years.
High excise duties on tobacco products and anti-tobacco legislation
US federal, state and local governments, tax tobacco products for both revenue and public health purposes. High excise duties lead to increases in cigarette prices which also discourage cigarette smoking. With federal excise tax (FET) increasing from $0.39 to $1.01 per pack of 20 cigarettes in April 2009, the overall volume sales sharply decreased by 9% in 2009. Such excise taxes are as high as 30-40% of the net revenues for cigarettes and any further increases in excise taxes will likely lead to a fall in demand.
Governments also resort to anti-tobacco legislation and anti-smoking laws to discourage tobacco and cigarettes consumption. Legislation such as those banning smoking in public places lead to a reduction in cigarette sales. Family Smoking Prevention and Tobacco Control Act, 2009 also gave the US Food & Drug Administration (FDA) the authority to regulate the tobacco industry, which may lead to greater restrictions on tobacco products. The FDA can limit what goes into tobacco products. For instance ,in 2010 the organization enforced a ban on the use of strawberry, vanilla, chocolate, clove and other such flavors in cigarettes and required the ingredients to be publicized as well as limited marketing, especially to young people. There is also a risk of ban or restrictions on menthol cigarettes that currently comprise almost 30% of cigarette sales.
Most tobacco and cigarette businesses today follow a Price-Profit First Strategy and enjoy significant room for strong net pricing and margin expansion. Despite declining cigarette sales, revenues and profit margins are maintained through higher pricing. For example, despite a 4% decline in the number of cigarettes sold by Philip Morris USA in 2013, its revenues from cigarettes remained flat, and margins improved.
Risks from litigation
The tobacco industry is highly susceptible to adverse litigation. Apart from the likely enormous damage payments, the negative publicity generated by such large and high profile court cases also hurt tobacco products demand. Due to its large size and market share, Altria is more susceptible to such litigation risks.
Trefis Forecast Rationale for Smokeless Tobacco Products EBITDA Margin
Smokeless Tobacco Products Operating Margin is the ratio of smokeless products income, minus its operating expenses and depreciation, to the total revenues (net of excise) of the division. Altria reports it as 'OCI', the operating income before corporate expenses.
Smokeless products operating margin increased from 33% in 2009 to 59% in 2010. In 2013, the margin stood around 58%.
Going forward, we expect margins to increase to around 60% as Altria focuses more on premium smokeless brands such as Copenhagen and Skoal.
Trefis considered the following factors for its forecast
- Pricing strategy
- Since cigarette volumes are declining, Altria is dependent on the smokeless tobacco products to generate bottom line growth. It will resort to strong pricing to maintain or even extend the margins.
- Since cigarettes generally cost more due to higher taxation, tobacco companies can afford to increase the prices of smokeless tobacco products.
- Strong demand
- Unlike cigarettes, smokeless tobacco products are expected to grow at an annual rate of 4%. They are generally perceived to be less harmful than traditional cigarettes. Growing demand will ensure strong pricing.
- Cost cutting program
- Altria has undertaken a new cost cutting initiative that will deliver an annualized saving of $400 million by the end of 2013.
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- Rising input costs
- The input and manufacturing costs are expected to increase in line with inflation and will depend upon tobacco crop yields and prices. Altria enters into direct contracts with tobacco farmers to control input costs.
How Does Trefis Modelling Work?
How do we get the historical numbers for this chart?
Trefis has a team of in-house Analysts who gather historical data from company filings and other verifiable sources. When historicals are available, we explain how we got them at the bottom of the Trefis analysis section below.
Who came up with the Trefis forecast for future years?
The Trefis team of in-house Analysts considers a variety of factors when projecting any forecast. The rationale for our projections is explained in the Trefis analysis section below.
How does my dragging the trendline on the chart impact the stock price?
- We use forecasts for business drivers to calculate forecasted Revenues and Profits for each division of the company.
- We then use forecasted Profits in a Discounted Cash Flow (DCF) model to obtain the Price Estimate for the company.
See more on: DCF Methodology
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