Altria Group Inc. (MO) released its fourth quarter earnings on 30th January and it was followed by a sudden drop in the company's stock price. The most significant fact in the earnings release was the 56% fall in the profits of the company. The company justifies the fall based on the drop in the demand for cigarettes and charges related to early debt repayments. In my article I will examine the results reported in the fourth quarter earnings report and determine the future outlook of the company in terms of stock market performance and its ability to generate returns to investors.
Let us begin by analyzing the revenues of the company. Even though full year revenues of the company climbed up by 0.9%, Altria's revenues for the fourth quarter of 2013 declined by 1.3% compared to results from 4Q12. The decline in revenue can be explained by:
- R&D costs owing to the production of innovative tobacco products.
- Lower demand for smokeable products.
- Early extinguishment of debt as part of refinancing. The company has successfully reduced its future coupon interest payments and locked its gains.
Owing to these factors, the company reported revenues of $4.4 billion falling short of analysts' expectations of $4.5 billion.
Centers for Disease Control and Prevention (CDC) published a research report some time back that shows the number of smokers in the US as a percentage of the total US population. The report encompassed data from 1965-2011 and indicated a continuous decelerating trend in the number of smokers within the US. As of 2011, only 18% of the population is comprised of smokers, down from about 20% a few years ago. The declining smoking population had a direct impact on the smokeable products of Altria as well and was partially offset by higher per product prices and reduced operating expenses. These results are shown below.
Source: Fourth Quarter Earnings Release
With regards to the smokeless products, net revenues for this segment showed a slight decline of 0.7% in the most recently-ended quarter compared to the corresponding quarter last year. The loss is explained as a result of higher promotional prices, lower shipment volume, and the calendar shift that accounts for about a week's sales volume. Adjusting for the calendar shift, the revenues of the company from this segment showed a 5.5% (YoY) volume growth. Quarterly and annual performance of the company, inclusive of Phillip Morris USA, is shown in the table below.
Source: Fourth Quarter Earnings Release
Lower revenue led to lower profits for the company. Altria reported a profit of $488 million reflecting a sharp decline of 56% from $1.1 billion a year ago. This led to an EPS of $0.24 compared to $0.55 in 2012. However, adjusting for the non-recurring loss incurred due to early retirement of debt, the EPS of the company climbed up to $0.57 compared to the analysts' estimate of $0.58.
The company distributes profits among its shareholders in the form of dividends and share repurchases. The company maintains an 80% payout ratio and recently paid dividends per share of $0.48 compared to $0.44 last year. Altria has maintained a 5% or higher dividend yield over the years. Comparing the company's dividend yield with that of its competitors, Reynolds American Inc. (RAI) and Lorillard Inc. (LO), we see that Altria yields better returns to its investors.
Besides paying dividends, Altria distributed $252 million cash among the shareholders by repurchasing 6.8 million common shares this quarter. The company managed to distribute about $600 million among its investors as part of the $1 billion repurchase program approved by the Board and it is expected to be concluded by the end of the third quarter of 2014.
The 2014 EPS forecast figures released by the company range from $2.52 to $2.59, a penny higher than what analysts projected ($2.58). If the company succeeds in achieving the forecasted EPS for the current year it will translate into a growth rate of 6-9% compared to the EPS ($2.38) of 2013.The changing global tobacco industry and the company's response in relation to that does make it likely for the company to achieve its target future EPS.
Altria and Phillip Morris USA together control about 55%of the total smokeless tobacco industry, largely through its Copenhagen and Skoal brands. Within the smokeable segment, Marlboro alone accounts for the 43.60% of the market share. However, as stated above, the sales volume of the brand is declining and is expected to continue to decline into the foreseeable future. People are increasingly switching to smokeless tobacco products, also referred to as low risk tobacco products, owing to their lower health hazardous factors. The E-cigarette market generated about $1 billion in revenues last year and the industry is anticipated to grow at a CAGR of more than 200% over the next three years.
It is important to point out here that although people in developed countries are switching from smokeable tobacco products demand is surging in the developing countries. From 1980-2012, the "regular smokers" figure had escalated by 33%. Seeing a growth opportunity, Altria has partnered with Phillip Morris to penetrate the international markets and the terms of this partnership allow Phillip Morris to sell Altria's products beyond US territories.
To further combat the problem of declining smokeable products demand the company is making efforts to bring forth less harmful tobacco products to the market like e-cigarettes, cigars, chewable tobacco products, and vapor cigarettes.
Altria has made it a point to provide high returns to its investors and generously distributes its profits in the form of share repurchases and dividend payouts. The company's long term future prospects still look good as evident by its efforts to tap into international markets through reliable partnerships. The company is making a consistent and continuous effort to bring forth healthy and environment friendly tobacco products to the market. Though a little late into the e-cigarette market, Altria has a strong brand image that will prove to be helpful in leveraging its new products sales. The current downward price is nothing more than negative investor sentiment based on its current earnings release. I expect the stock price to appreciate again.