Tobacco stocks are considered to be stable since tobacco consumers are relatively insensitive to inflationary pressures. This leads to the profitable growth of tobacco companies despite recessionary and inflationary forces. The purpose of the following analysis is to highlight the important changes taking place in the tobacco industry, the response of Altria Group Inc. (MO) to the changing trends and the eventual impact of these events on the stock price of the company.
Altria Group Inc. (MO) is a leading manufacturer and seller of tobacco products across the US and its revenues are distributed among the four major product segments (based on operating income) listed in the table below.
Source: Annual Report, 2012
The table above shows that the income attributed to the smokeable product segment of the company is gradually declining over the years as a result of declining demand for health hazardous tobacco products within the US market.
According to the statistics released by Centers for Disease Control and Prevention (CDC) the smoking pattern has historically shown a declining trend. This is evident in the graph below.
For several years the number of smokers remained stable at 20% to 21% of the total US population. The numbers have declined over the recent history and are expected to follow a declining trend into the foreseeable future. The smokers' composition dropped to about 19% in 2010-11. It continues to weaken and presently stands at 18% of the total US population.
Even though the number of smokers is declining in the US developing countries show a growing demand. One reason for the rising smokers is the surging population particularly in the developing countries. According to research adults who smoke daily are numbered to be 960 million in 2012, reflecting an approximate 33% increase compared to the 1980 figure.
Since Altria is now making an effort to reach the global consumer base the increasing demand in the developing countries is expected to boost its profit margins.
Company Performance and Responsiveness
Altria has exhibited a strong performance despite the declining demand within the US. Tobacco products, and in turn their stocks, are relatively resistant to inflationary pressures due to a sticky consumer base. The company's profit margins exceed the industry averages and it has a stronger liquidity position compared to its peers as well (as is evident from its higher current ratio than the industry). Altria's revenues show an increase of 9% for the first nine months of the year compared to the same period last year.
Furthermore, Altria owns approximately 51% of the smokeless tobacco market in the US due to its chewable tobacco products while the company's Marlboro brand captures roughly 43.60% of the cigarette market share. Together with Philip Morris the company captures 55% of the US smokeless tobacco market due to its two leading brands Copenhagen and Skoal.
Altria is now approaching the international consumer base through Philip Morris to penetrate into the global $800 billion tobacco industry. The terms of the partnership give the two companies an edge over their competitors. Philip Morris is entitled to exclusive rights to sell Altria's e-cigarettes outside of the US while Altria has earned the rights to sell alternative tobacco products produced by Philip Morris. This move is expected to boost the top and bottom lines of Altria.
The e-cigarette market shows a promising future for the companies in the tobacco industry. The product segment accounted for $1 billion worth of sales last year and the market is expected to show substantial growth over the next three years with the sales figure expected to grow to $10 billion. E-cigarettes are popular among two major consumer groups:
- Adults who are struggling to quit smoking
In fact, teenagers are expected to bring about a robust growth in the profit margins of tobacco related companies unless the FDA imposes a law against it. Tobacco companies have been promoting e-cigarettes as a safe alternative to smoking but the market is still at an "infant stage" and more research might prove the hazardous nature of e-cigarettes in the future. However, many countries have criticized and banned e-cigarettes from their territories on account of the safety of children. Within the US, more stringent laws are expected to be imposed in this regard. In spite of the challenges that the industry is facing the market is expected to grow at a CAGR of 30.56%.
Altria has already entered the e-cigarette market under the brand name MarkTen and has reached Indiana and Arizona this year. E-cigarettes are expected to be a turn-around product for the companies dealing in the tobacco industry. Declining demand figures for tobacco based products are expected to shoot up again.
Altria's per share price is expected to shoot up in the foreseeable future since the company has rightly identified an opportunity for growth and has made a timely entry into the e-cigarette market. However, the e-cigarette market might receive a bump in profits if the Food and Drug Administration (FDA) imposes a law that bans the sales of e-cigarettes among children who are a major growth driver of this segment. However, as discussed above, the market is still expected to grow at a cumulative growth rate of 30.56%. The company's partnership with Philip Morris enhances its market share within the US that will give it an edge over its competitors and is expected to further boost the profit margins of the company. The stock is a good buy as of now.