Altria Posts Higher Earnings On Fatter Margins

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MO
Altria Group

Altria’s (NYSE:MO) fourth quarter earnings rose on fatter margins due to pricing gains. Its 2013 full-year adjusted diluted earnings per share (EPS) grew 7.7% y-o-y to $2.38. Altria also extended its market share in both cigarettes as well as smokeless categories, riding on the strong performance of its key brands, namely Marlboro, Copenhagen and Skoal. This bolsters our faith in the company’s ability to drive future earnings growth on pricing gains, as cigarette consumption in the U.S. continues to decline. The company guided for its 2014 adjusted diluted EPS to fall in the range of $2.52 to $2.59. [1]

We currently have a $43 price estimate for Altria, which is around 20% above its current market price. We will soon be updating our price estimate based on the recent earnings announcement.

See Our Complete Analysis For Altria

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Pricing Remains The Key Value Driver

Cigarette manufacturers have been able to drive sustained earnings growth despite consistently declining consumption of cigarettes in the U.S. This is primarily due to the low sensitivity of the demand for cigarettes to price increases because of their inherent addictive nature and consumer brand loyalties. This has allowed cigarette manufactures to improve their operating margins through regular price hikes coupled with relatively stable input costs. Altria being the largest player in the U.S. tobacco market has gained the most from this trend. During 2013, its operating income increased by 2.4% despite a 1.6% decline in net revenues, as margins improved by 100 basis points over last year. [1]

Therefore, pricing remains the key growth driver for Altria as well as the U.S. tobacco industry at large. Marlboro, Altria’s flagship cigarette brand, holds more than 43% retail share in the U.S. and has been leading the market for more than 30 years now. Such brand equity allows Altria to lead in pricing measures and increase its value share in the shrinking tobacco industry while maintaining decent volume share growth as well. In 2013, the company was able to grow its revenue per cigarette by ~3% y-o-y, while excise taxes and other costs per cigarette remained largely flat. [1]

Diversification Boosts Earnings Growth

Under the given circumstances, we believe that Altria’s diverse portfolio, which apart from Marlboro and other cigarette brands also includes leading smokeless tobacco brands, Chateau Ste. Michelle and Columbia Crest wine brands, as well as a 26.9% stake in the world’s second largest brewer, SABMiller, which is one of its biggest assets. ((ref:1))

Unlike cigarettes, smokeless tobacco consumption in the U.S. is expected to grow at ~5% CAGR in the long run. This is primarily due to the growing popularity of these products among adults because of lower perceived health risks and fewer regulatory concerns, compared to cigarettes. [2] Altria’s leading position in this category has somewhat insulated it from consumers opting for chewing tobacco and snuff instead of cigarettes, as its Copenhagen and Skoal brands hold more than 50% share of the U.S. smokeless tobacco market. In 2013, the company’s smokeless tobacco sales grew more than 5% y-o-y on growth in the overall market and higher retail share for Copenhagen. [1]

However, Altria has been relatively late to enter the burgeoning e-cigarettes market in the U.S. It has still to announce a national roll out plan for its MarkTen e-cigarettes. On the other hand, Reynolds American (NYSE:RAI), the second largest tobacco company in the U.S., plans to launch its Vuse e-cigarettes nationally this year, while Lorillard (NYSE:LO) already owns the top-selling e-cigarette brand in the country, Blu.

Altria is currently testing its MarkTen e-cigarettes in over 5,000 stores across Indiana and Arizona. During the fourth quarter earnings call, the company officials mentioned that they were impressed with the initial performance of the brand and have made good progress so far in understanding consumers’ preferences in the category.

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Notes:
  1. Altria Reports 2013 Fourth Quarter And Full-Year Results, altria.com [] [] [] []
  2. Altria Group, Inc. 2013 Investor Day, altria.com []