Altria (NYSE:MO) posted a strong set of first quarter numbers on April 25. Its adjusted diluted earnings per share (EPS) grew 10.2% y-o-y to $0.54 per share. The company also reaffirmed its full year adjusted diluted EPS guidance in the range of $2.35 to $2.41. It should be noted that Altria grew its earnings despite the faster than expected decline in cigarette volumes during the quarter.
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While it continues to leverage the rapid growth in the smokeless tobacco segment led by its leading brands Copenhagen and Skoal, the company also announced its intentions to enter the e-cigarettes market later this year.
Cigarette Volumes Decline At A much Faster Rate
Rising health concerns, slower consumption growth and higher payroll taxes all contributed to a faster decline in cigarette consumption in the U.S. during the first quarter. Altria’s cigarette shipment volume declined by 5.2% y-o-y led by the industry’s rate of decline at 6.2% and one less shipping day.
However, retail share gains made by the company’s cigarette brands helped it reduce the potential impact of these factors. Altria’s total market share in the category by volume increased by 0.5% to 50.5% led by its flagship Marlboro brand which held more than 43.5% of the market. Despite lower volumes, adjusted operating income from the cigarettes and cigars division grew by 1.3%, primarily driven by higher prices.
These figures clearly suggest that Altria continues to do well in terms of creating value for its shareholders amid declining cigarette consumption in the U.S., helped by calibrated pricing measures and effective promotional strategies for its brands. However, the company should be concerned about the accelerated rate of decline in cigarette volumes observed during the first quarter.
Since 2009, cigarette consumption volume in the U.S. has declined at a 3% CAGR to reach around 271 billion sticks in 2012. The fact that this rate of decline accelerated to more than 5% in the last quarter, when total consumer spending in the U.S. actually increased, is worrisome. It reflects a faster than expected shift in consumer preferences away from the category. Moreover, the provision for a federal tax hike of $0.94 per pack of cigarettes under the U.S. government’s budget plan for fiscal 2014, if implemented, could make matters worse for the industry very quickly. All of these concerns potentially drove the company’s decision to start dealing in another category of products, i.e. e-cigarettes, which have been witnessing rapid growth at the expense of their traditional counterparts. 
Altria’s E-Cigarette Announcement Catching Up With The Industry
Along with its first quarter results, Altria announced its plans to introduce e-cigarettes into a lead market through one of its subsidiaries, Nu Mark, during the second half of the year. As suggested earlier, we think this is a positive move and reflects the management’s focus on sustainable long-term value creation for its shareholders amid a rapidly declining market for cigarettes.
Other players in the industry, such as Lorillard and Reynold’s, have already embraced e-cigarettes and entered the market through the acquisition of Blu cigs and the development of a computer chip based “digital” cigarette, respectively. Lorillard’s e-cigarette sales soared more than 46% sequentially to $57 million during the first quarter, reflecting rising demand for these products. The company now holds more than 40% of the e-cigarettes market in the U.S. 
As it would suggest, Altria has been a bit late to jump into the category and might have some catching up to do with its competitors initially. However, it should be noted that unlike traditional cigarettes which have been around for years and have consumers that are characterized by huge brand loyalty, e-cigarettes is a relatively new category and the company is not expected to face a lot of problems in attracting consumers towards its new product for a trial.Notes: