Altria (NYSE:MO) is set to announce its first quarter earning results on April 25. We expect the company to report a slower rate of decline in cigarette volumes shipped due to higher consumer spending observed in the U.S. over the first three months of this year. Also, the smokeless tobacco products division is expected to post volume gains backed by a persistent trend of consumers shifting towards smokeless products.
Higher Consumer Spending Expected To Slow Down Cigarette Volume Decline
Cigarette volumes in the U.S. have declined at over 3% CAGR since 2009 due to a sharp rise in excise taxes in 2009 (Federal excise tax on cigarettes were increased by 158% in 2009) and sluggish consumer spending amid high unemployment rates. However, increased consumer spending during the first quarter is expected to slow the rate of decline in cigarette volumes seen over the last few years.
We entered 2013 amid looming uncertainties over the huge fiscal deficit of the U.S. government. One of the many measures signed as part of the deal to avert the fiscal cliff was the discontinuation of the payroll tax holiday, which meant 2% higher income tax as the Social Security payroll tax rate was reverted back to 6.2%. 
There were concerns that this could slow down consumer spending, which accounts for almost 70% of economic activity, and in turn reduce the pace of economic recovery. However, according to data reported by the Commerce Department, consumer spending in February increased 0.7% from January – the biggest gain in consumer spending in five months and followed a revised 0.4% rise in January. While details for March are not out yet, there are encouraging views in the media around that data point.  Key factors driving higher consumer spending have been a declining unemployment rate and rising wages. These factors have in effect offset the negative impact of higher taxes. 
Since cigarette prices have remained relatively stable during the period in absence of any significant excise tax hikes, we expect a marginal decline in cigarette volumes caused by consumers shifting away from cigarettes due to perceived health concerns. Also, the fact that Altria ended last year with strong retail share gains in the segment powered by a well-coordinated promotional push to Marlboro’s new brand architecture further improves the company’s outlook for the upcoming earnings release.
For More On Market Share Gains in 2012, Read: Marlboro, Copenhagen Power Altria’s Fourth Quarter
However, we would like to point out that there is a provision for a federal tax hike of $0.94 per pack of cigarettes under the U.S. government budget plan for fiscal 2014. If this hike passes through, there could be another sharp decline in cigarette volumes similar to 2009. So, the long-term prospects of the cigarette industry in the U.S. continue to remain hazy. 
Smokeless Category To Continue Solid Growth
The smokeless products division makes up more than 20% of our $37 price estimate for Altria. The company diversified into the smokeless tobacco category in a big way with the acquisition of UST Inc. in 2009. Its flagship brands Copenhagen and Skoal together hold more than 55% of the market in this segment. The company’s smokeless tobacco products revenue grew by 5.6% y-o-y during 2012.
Growth in smokeless tobacco products is driven by increasing cigarette prices and restrictions on public smoking. These factors have led consumers to the smokeless category as a substitute for their nicotine dosage. There is also growth in the number of dual users (who use products from both categories) in the U.S. 
We expect the total U.S. smokeless product volumes to increase at a 5% CAGR over the forecast period under the current regulatory environment. However, higher indirect taxes on products in this category, which can result in slower volume growth, cannot be ruled out for long as multiple studies have shown smokeless tobacco products to cause health issues. Notes:
- How the Fiscal Cliff Deal Hurts Consumers, www.usnews.com [↩]
- U.S. Consumer Spending Continues Upward Trend in March, www.gallup.com [↩]
- US consumer spending makes biggest gain in five months as incomes rise, www.gaurdian.co.uk, March 29th, 2013 [↩]
- Obama’s Cigarette Tax Hike Proposal – Could It Help Big Tobacco?, www.wsj.com, April 10th 2013 [↩]
- Smokeless Stays Strong and Steady, www.csdecisions.com, April 2nd 2013 [↩]
- Smokeless Tobacco In The United States, www.tobaccofreekids.com [↩]