Delay In FDA’s Proposed Regulations To Help Altria

+4.83%
Upside
43.62
Market
45.73
Trefis
MO: Altria Group logo
MO
Altria Group

Toward the end of July 2017, an announcement by the US Food and Drug Administration (FDA) regarding the nicotine levels in cigarettes sent tobacco stocks into a tizzy. The organization had stated its plans to limit the nicotine content in “combustible cigarettes” to non-addictive levels, in order to prevent thousands of deaths and billions in financial costs related to tobacco use. This surprising move caused stocks of tobacco companies to plummet, with Altria (NYSE:MO) plunging almost 20% at one point, before recovering to a 9.5% decline. Campaign Tobacco-Free Kids’ (CTFK) president Matthew Myers has said that while the FDA had promised to issue an Advanced Notice of Proposed Rule Making (ANPRM) by the end of 2017, they have not been published yet. The FDA, though, recently published its major policy goals for 2018, which included the issue of an ANPRM.

We have a $73 price estimate for Altria, which is slightly higher than the current market price.

Below we’ll look at a couple of scenarios that may occur, and what kind of an impact it would have on Altria.

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Scenario 1: FDA’s Plan Does Not Get Passed

The first scenario is that the FDA fails in its attempts to get its plan off the ground. The current administration does not seem big on passing regulations that may hurt American businesses. Given the immense lobbying power of tobacco companies, such a scenario is not an impossibility. In such a case, Altria would feel no impact on its businesses, and hence, earnings.

Scenario 2: FDA’s Plan Gets Passed

If the FDA does succeed in getting its proposal passed, it will inevitably impact the earnings of the company. Some reports suggest that if cigarettes in the future have lower levels of nicotine in them, addicts will end up smoking more to get their “nicotine fix.” Hence, the cigarette volumes for Altria could actually go up. However, this is highly unlikely. A study by the New England Journal of Medicine has shown that smoking compensation does not occur when smokers are given cigarettes with nicotine levels low enough not to be addictive. If Altria was just a cigarette company, it would have faced a significant drop in its earnings. However, Altria has a diversified business, including a 10% stake in Anheuser Busch. While the company still gets close to 90% of its revenues from its smokeable segment, there are a number of ways the company can mitigate its losses.

The US has seen one of the highest declines in smoking rates in the world. Hence, a fall in cigarette volumes is a given eventuality. However, such a step by the FDA may cause a sudden and significant drop in the volumes. One thing that needs to be considered is that it is not certain that such a proposal will get passed. And even if it does, it will take a long time before it happens. According to investment firm Height Securities, finalizing regulations regarding this will be a “7-10 year exercise.” Hence, for the foreseeable future, it will have no impact on the company’s earnings. Furthermore, addiction is not the only reason that people smoke, and so the decline in volumes in the future may not be as magnified as people are estimating. Moreover, if the FDA’s purpose is to reduce the smoking of cigarettes, it may actually result in better tax treatment for the company’s iQOS product.

See Our Complete Analysis For Altria

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Notes:

1) The purpose of these analyses is to help readers focus on a few important things. We hope such communication sparks thinking, and encourages readers to comment and ask questions on the comment section, or email content@trefis.com
2) Figures mentioned are approximate values to help our readers remember the key concepts more intuitively. For precise figures, please refer to our complete analysis for Altria.
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