Altria: Opportunity In The Market For Marijuana?

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While traditional tobacco volumes have been facing declines, U.S. number one Altria (NYSE:MO) may be presented with a big opportunity in the budding marijuana market, especially as the drug is increasingly getting a legal status across the U.S. In spite of a prominent presence in the American tobacco industry, the maker of Marlboro continues to face tough circumstances as cigarette volumes continue to decline against increasing health awareness and anti-smoking regulations. Even against this, Altria has managed to sustain revenues, predominantly aided by price hikes. However, this strategy may be constrained beyond a point, since further price hikes could exacerbate the volume decline in a way that revenues actually start falling. In such a situation, the company could look at new avenues to boost revenues — one of which, could be the growing marijuana market.

net rev

Marijuana Use And Associated Effects

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Marijuana is a drug extracted from the Cannabis plant. It contains a compound called tetrahydrocannabinol (THC), which is absorbed into the bloodstream on use. This chemical is then carried to the brain, where it reacts with brain cell receptors to produce a high. Marijuana is usually smoked as hand-rolled cigarettes (joints) or through pipes (bongs). Some users also use vaporizers to inhale the THC content in the product or consume it in edibles such as brownies or tea.

According to the National Institute On Drug Abuse, marijuana is the “most commonly used illicit drug” in the U.S., with approximately 81% of illicit drug users resorting to it. [1] Moreover, it is fairly popular among adolescents, as evidenced by a recent University of Michigan study, which revealed that usage among teens has remained more or less stable over the past few years even as tobacco and alcohol consumption continued to decline. Furthermore, the study shows a major shift in attitudes among U.S. teens, where less than 40% of students perceived smoking marijuana to be harmful in 2014, as opposed to over 80% in 1991. [2]

Marijuana is commonly used for recreational purposes based on the high that it generates. In the short term, the user experiences an altered sense of time, mood, and body movement. However, over the long term, cannabis use can distort the brain’s ability to think, retain information, form associations, and learn. According to one study, teens using marijuana lost eight points on the IQ test in comparison to those who did not use it. [3] In some cases, it is also associated with breathing problems, increased heart rate, hallucinations, paranoia, anxiety, schizophrenia, and depression. [4]

In spite of these factors, marijuana is not entirely written off, primarily because of its wide applications in the field of medicine. For instance, the product is often used to reduce nausea in chemotherapy, to increase appetite among patients with HIV, reduce pain and inflammation, controlling epileptic seizures, and even in treating mental illnesses. Furthermore, recent studies have also found that marijuana extracts could kill or curtail the growth of cancer cells. ((DrugFacts: Marijuana))

Regulations Surrounding The Use 

Currently, the U.S. federal government classifies the product as a Schedule 1 substance under the Controlled Substances Act, deeming it to have high abusive potential and no medical use. However, there has been an ongoing battle to reschedule the product on grounds of its medicinal properties, among other factors. Furthermore, research indicates that marijuana is less addictive and safer than alcohol or tobacco, both of which are currently legal. [5]

Although a downgrade may take a while before implementation, the Controlled Substances Act does provide a process of rescheduling with permission from the Drug Enforcement Administration (DEA). Against this, 22 states and Washington D.C. have legalized medical marijuana, of which four states (Alaska, Colorado, Oregon, and Washington) have legalized the drug for recreational purposes as well.  Given the continued pressure from proponents, the drug may be legalized in the U.S. at some point. In fact, in June 2014, the FDA indicated that they will be conducting an analysis to possibly sanction a downgraded rating on marijuana. Clearly, if the U.S. is headed in this direction, it opens doors to a very lucrative industry for Altria to leverage.

Estimated Size Of This Industry And Altria’s Potential

At a time when cigarette sales are consistently on the decline, the market for marijuana could present much opportunity for players like Altria. According to the first year sales data from Colorado, cannabis sales were estimated at approximately $700 million in 2014, of which close to $313.2 million came from recreational sales. Given that Colorado has a population of approximately 5.356 million, we get an estimated $130.7 in per capita sales in the year. Now, if marijuana is legalized in the U.S., using the per capita sales figure along with a U.S. population size of 318.9 million, we get estimated sales of a little over $40 billion for the country. This figure fares extremely well even in comparison to the U.S. cigarette market, which was valued at about $66 billion last year. [6] Furthermore, unlike cigarette sales, marijuana sales have been continuously rising, as evidenced by figures in Colorado. In this case, sales from this avenue is likely to overtake cigarette sales at some point.

Last year, Altria made close to $24.52 billion in revenues. Now, even if the tobacco manufacturer secures a 10% market share ($4 billion) in the marijuana realm, it could see an approximate 16% increase in revenues, which have otherwise remained more or less flat. In fact, Altria could actually capture a larger share since it would have a major competitive advantage in terms of distribution and branding. If this is true and it captures almost 50% of the market, as it has in tobacco, Altria could almost double its revenues going forward.

In conclusion, the market for marijuana presents tremendous opportunity for tobacco players, who are otherwise grappling with a declining market size. However, it may be a while before marijuana is actually legalized. Even against this, the simple fact that four states in the U.S. have taken a step towards this definitely makes it a possibility. Furthermore, citizens favoring this development are constantly on the rise, from about 12% favoring legalization in 1969, to over 50% in 2014. [7] Against these factors, it may only be a matter of time before legalization comes through, in which case there could be significant opportunity for Altria to tap. However, the opportunity even in this market, remains vulnerable to the same kind of regulation that has been responsible for a declining cigarette market, which could hamper prospects, to an extent.

We have a price estimate of roughly $46 for the Altria Group, which is almost in line with the current market price.

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Notes:
  1. What is the scope of marijuana use in the United States? []
  2. High School and Youth Trends []
  3. Persistent cannabis users show neuropsychological decline from childhood to midlife []
  4. DrugFacts: Marijuana []
  5. New Study Finds Marijuana Safer Than Alcohol And Tobacco []
  6. Tobacco Mega-Merger Sparks Investment Opportunity []
  7. Gallup Poll []