Price Hikes to Drive Altria’s Growth In The Second Quarter

by Trefis Team
Altria Group, Inc.
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Altria (NYSE:MO) is set to post its second quarter earnings on July 27, before the markets open. A rise in both revenue and earnings is expected this time around, with earnings of 86 cents per share on sales of $5.02 billion estimated by analysts. In the preceding quarter, the company missed on consensus expectations on both earnings and revenue.

It is not an unknown fact that the smoking rate has been falling, with the US witnessing one of the steepest declines in the world. In the face of this, the majority of the company’s growth in the past has been a result of increasing the prices of the tobacco products. This trend is expected to continue in the second quarter as well, which will help to boost the margins, also. Furthermore, the acquisition of super-premium cigarette brand Nat Sherman is also expected to boost the company’s earnings. Below we’ll highlight some factors that may have an impact on the company’s earnings.

Price Hikes

Since the beginning of the second quarter of the previous year, the company has undertaken three price increases. In May 2016, the company increased the list price of all its cigarette brands by $0.07 per pack. Effective November 13, 2016, Altria also reduced its wholesale promotional allowance on Marlboro by $0.02 per pack and L&M by $0.08 per pack. In addition, the company increased the list price on Marlboro by $0.06 per pack, and on all of its other cigarette brands by $0.08 per pack, except for L&M, which had no list price change.

Altria routinely undertakes prices increases twice a year — in May and in November. However, this year, the company announced an increase of $0.08 per pack beginning on March 19 itself. This has been driven by the higher excise taxes in California, which was put into action on April 1. California Proposition 56 had sought to raise the cigarette tax by $2 per pack, more than tripling the tax from its current level of $0.87. It also aimed to impose similar tax hikes on other tobacco products, as well as electronic cigarettes. This may be perceived to be bad news for big tobacco companies such as Altria, since the California cigarette market is the second largest in the nation, after Texas, and constitutes 8% of the US cigarette market. However, in an earlier article, we assessed that this hike would have a marginal impact on Altria’s revenue. The California initiative, coupled with the excise tax hike in Pennsylvania last August, is expected to reduce industry volumes by 1% this year. Three other tobacco tax initiatives were defeated in other states, and so this hike in California may be a one-off.

Altria’s Marlboro brand is the number one brand in the US, and has a 44% share in the country’s tobacco market. The addictive nature of cigarettes not only builds a high level of brand loyalty among customers, but it also makes the products less price elastic. Given the massive share that Altria has in the market, its Marlboro cigarettes can be considered even less vulnerable to price hikes. This ensures that the revenue of the company can continue to increase, despite the declining volume of cigarettes sold.

Acquisition Of Nat Sherman

Altria announced on January 17th that it has acquired the privately-held Sherman Group Holdings and its subsidiaries (Nat Sherman). The latter sells super-premium cigarettes and premium cigars, and will join Philip Morris USA and John Middleton as part of Altria’s smokeable products segment. This is the latest move in a fast-consolidating tobacco market, where a small number of companies are fighting to gain market share amid a dwindling tobacco market, while at the same time attempting to develop alternatives to traditional cigarettes.

Consumers seem to be looking for more natural products in all categories, from the food they eat to the beverages they drink. This trend seems to be spilling over into the tobacco category, as the demand for natural leaf tobacco grows across both cigarettes and cigars, and is a bright spot in an overall declining category. The natural leaf tobacco is free of additives, and offers a longer and better smoking experience, according to Matt Spillane, vice president of natural sales at Nat Sherman. He further added that these cigarettes are made with only tobacco and water, providing a more authentic taste, resulting in a greater puff count per stick. These incentives are prompting consumers to pay a premium price, which these cigarettes command. Moreover, according to Spillane, natural brands boast a 30% higher profit margin compared to premium brands, with Nielsen showing over ten consecutive years with increasing sales of this segment.

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