Cash Crop: Tobacconist Lorillard Inc.

In 1760, an 18 year old immigrant named Pierre Lorillard founded the first US Tobacco company in lower Manhattan. Pierre Lorillard was killed by German Hessian Mercenaries during British occupation of NY in 1776, but his family continued to run the business. Today, Lorillard (LO) is the third largest Tobacco Company in the country.

Lorillard is a 13 billion dollar company that sells over 40 cigarette brands including the #2 overall cigarette in America, Newport. Newports are the #1 menthol cigarette in America, and #2 overall with a 7.8% total market share.

Why invest in LO?

History: The Company is older than our country itself. Americans were smoking Lorillard's cigarettes 100 years before I was born and they will probably be smoking them 100 years after my death. How many companies can you say that about? You certainly couldn't predict a lot of these tech stocks being around in 100 years. I own, Coca Cola (KO) and JNJ and I believe they will be around 100 years after my death but you can't say that about a lot of stocks.

Demand: Cigarette demand is down during this recession, but the customers are literally addicted to the product. I've heard of the demand going up for certain items during a recession, ( like chocolate bars) because they are 50 cents to 1 dollar and make you feel good. Cigarettes are a relatively cheap item to purchase, Demand is inelastic and that's good during a recession/new normal that could last.

Price: Lorillard currently sells for nearly 80 bucks per share with 5.71 EPS to put the PE just under 14. With 5.71 in earnings, the company returns 1 dollar every quarter in dividends for a bond like 5% yield. I would expect the earnings and dividend to increase over time and It reminds me of those traders who buy stocks but think of them in bond-like terms. LO reports on Monday.

Balance Sheet: One of the things I really like about LO is the balance sheet. In a deflationary environment I'd want to stay away from companies with leverage, and I'd favor companies with cash on the balance sheet. Lorillard is a 13 billion dollar company with 1.5 billion in cash, 750 mil in debt, and no long term debt. To compare that cash position, Lorillard basically has an entire years worth of EBITA sitting there in the bank vault. Other cigarette companies are leveraged while Lorillard has cash. Since I've been believing in the threat of deflation, while everybody is worried about inflation, Lorillard seems like logical equity protection play against deflation.

Deflation theme: Today your dollar could buy roughly 50% more house in certain areas than a couple of years ago, you could get better deals on cars, and many other products.

Also, with 97% of traders against the dollar and only 3% dollar bulls, Lorillard sells their cigarettes in America and collects dollars... Where as KO will sell soda internationally and collect a number of different currencies.

If we do get a short/medium term dollar reversal. LO could benefit, and if the deflationary theme continues we can benefit with all that cash on their balance sheet as well.

Summary: If we are in a extended recession, depression or double dip recession, consumer staples and (selling a product that people are addicted to) couldn't hurt. This company is in excellent financial shape with cash to spare, they've literally been around forever ( 18th oldest company in America), they are a mild play on deflation and could benefit if the dollar reversed.

The company reports Monday.

Disclosure: Author is a long term investor in LO, KO, JNJ.

Comments

[Old Trader:]

Fwiw, I'd prefer MO to LO. Altria is the 800# gorilla in the US tobacco market, and has pricing power. Their relatively recent entry into the smokeless tobacco market bodes well, and they've still got a stake in SAB/Miller.

Oct 26 07:51 PM

[Hester:]

I am starting to warm up to LO. It has had a big run, and I'd love to buy it on a pullback. Great growth so far, with a reasonable p/e relative to its peers. If it ever returns to the high sixties, I will probably buy. That would also give you a current yield of roughly 6%. Their payout ratio is pretty good as well, so I definitely think they could raise the divy again multiple times in the future. Looking a few years out, my yield on cost could be in the double digits.

Compared to altria I prefer LO, even though I have a lot more research to do. As the author said LO has more cash and is less leveraged. LO's fcf is much better. LO's dividend yield is lower, but its payout ratio is much smaller than Altria's. Also, Altria has reduced its dividend substantially in the recent years.

There is still a ton of research I have yet to do, but the more and more I look at LO the more I like it as a nice income producing, safer inhabitant of my portfolio.

Oct 30 01:24 PM