Is The Market Pricing Vector Group Fairly?

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Vector Group (NYSE: VGR) is a holding company, and is engaged in the manufacture and sale of discount cigarettes, as well as in the real estate business. Through its subsidiary, the company also entered the United States e-cigarette market in limited retail distribution outlets in 2013. We have created an interactive dashboard to assess VGR’s price estimate. Our price of $23, which is 15% higher than the current market price, is based on an estimated revenue growth of 4% to $1.9 billion, net income improvement of over 6% to $83 million, and a P/E multiple of 36.7. The multiple has declined in recent years and our forecast is based on this trend.

Our net income forecast of $83 million is based on the expectation that VGR’s revenue will increase by more than 4% to $1.90 billion and net income margin will increase slightly to almost 4.5%. We expect VGR’s net income margin to improve as a result of reduced litigation expenses, as well as a lower tax rate.

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As far as revenue growth is concerned, we expect to see it across the board. VGR’s subsidiary – Liggett Group – is the fourth-largest manufacturer of cigarettes in the United States in terms of unit sales. Higher cigarette prices have prompted consumers to shift to value brands, reflected in the increasing penetration of the discount segment in the total cigarette market – from 27.4% in 2016 to 27.5% in 2017. This trend has greatly benefited VGR, which has been gaining market share for the past few years. Liggett held a share of approximately 13.5% of the overall discount market segment for 2017 compared to 12.0% for 2016 and 11.8% for 2015. Moreover, there is still room to grow, as the company has sufficient capacity to produce approximately 17.4 billion cigarettes per year, while it currently produces 9.2 billion cigarettes. Consequently, we expect an increase in cigarette shipment volumes, as well as moderate price increases, resulting in a 2.5% increase in revenues from this segment.

Another positive for the company is that it is not required to make any payments under the Master Settlement Agreement (MSA), as its market share does not exceed the percent specified in the agreement. This gives the company a significant cost advantage, compared to the tobacco giants such as Altria and Reynolds American, while also making it harder for the latter two to compete in the discount segment.

New Valley, VGR’s real estate subsidiary, owns a 70.6% interest in Douglas Elliman Realty which operates the largest residential brokerage company in the New York metropolitan area and is the nation’s fourth largest residential real estate company. It also holds investment interests in various real estate projects domestically and internationally. The ability of Douglas Elliman to offer their customers a range of inter-related services, and its level of residential real estate sales and marketing, should enable it to compete and even improve its market share. Moreover, new developments in the real estate industry have a higher profit margin than the regular resale business, and VGR expects 2018 to be a better year in terms of closings in new development than 2017. These factors should push up the revenues from this segment in FY 2018.

The company entered the e-cigarette market in a limited way, with a cautious plan to grow. Currently, the company has negative revenues from this segment as a result of an increase in the estimated allowance for the return of products sold in prior years. We expect the trend of negative revenues to continue in FY 2018.

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