Assessing Altria Group's Results For Q2 2016 (Including My Q3 2016 Dividend Projection And Current Price Target)

| About: Altria Group, (MO)
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Summary

This article assesses MO’s performance for Q2 2016 and compares year-over-year results via three analysis.

First, this article analyzes MO’s income statement for the three months ended 6/30/2016, 6/30/2015, 6/30/2014, and 6/30/2013.

Second, along with an overview of MO’s main product segments, this article provides a shipment volume performance analysis.

Finally, this article provides a unique analysis of MO’s adjusted diluted EPS and target dividend distributions payout ratio. This includes an updated projected dividend rate increase beginning in Q3 2016.

My summarized thoughts on MO’s performance for Q2 2016, current price target, and current buy, sell, or hold recommendation are stated in the “Conclusions Drawn” section of the article.

Focus of Article:

The focus of this article is to analyze Altria Group Inc.'s (NYSE:MO) results for the second quarter of 2016 and compare the company's performance to prior periods. First, this article analyzes MO's income statement (technically speaking the company's "consolidated statement of earnings") for the three months ended 6/30/2016, 6/30/2015, 6/30/2014, and 6/30/2013. Second, along with an overview of MO's main product segments, this article provides a shipment volume performance analysis for the first and second quarters of 2016 combined versus the same timeframe for 2015 and 2014 ("year-over-year" comparison). Finally, this article provides a unique analysis of MO's historical/projected adjusted diluted earnings per share ("EPS"), dividend per share rates, and "target dividend distributions payout ratio" for 2015 and 2016. This assessment article will show past and projected data with supporting documentation within three tables.

I am writing this article due to the continued requests to provide this type of analysis on MO at periodic intervals. MO has been the "steady Eddy" stock within my investment portfolio for more than six years. Due to the notion that some market participants have recently shifted to more "defensive" stocks (including the continued search for yield), I believe MO could be a good investment (at the right price) for readers wanting limited downside risk while obtaining an attractive yield. Understanding certain correlations within a company's business operations can shed some light whether a company is possibly overvalued or undervalued strictly per a "numbers" analysis. This is not the only data that should be examined to initiate a position within a particular stock/company. However, I believe this analysis would be a good "starting-point" to begin a discussion on the topic. My current BUY, SELL, or HOLD recommendation, projected dividend increase beginning in the third quarter of 2016, and current price target for MO are stated in the "Conclusions Drawn" section at the end of the article.

1) Assessing MO's Quarterly Consolidated Statement of Earnings:

To begin this analysis, Table 1 is provided below. Table 1 shows MO's consolidated statement of earnings for the three months ended 6/30/2016, 6/30/2015, 6/30/2014, and 6/30/2013. Due to the fact MO's performance is highly correlated to seasonal trends, I believe comparing the company's performance on a year-over-year quarterly basis is the most appropriate type of qualitative analysis. In other words, this type of analysis compares the quarter of one year to the same quarter of a prior year.

Table 1- MO Consolidated Statement of Earnings (Three Months Ended 6/30/2016, 6/30/2015, 6/30/2014, and 6/30/2013)

(Source: Table created entirely by myself, partially using MO data obtained from the SEC's EDGAR Database)

Using Table 1 above as a reference, MO reported a "gross profit" (net revenues less cost of sales and excise tax) of $2.6, $2.6, $2.9, and $3.0 billion for the second quarter of 2013, 2014, 2015, and 2016, respectively (see red reference "A"). When calculated, MO increased the company's quarterly gross profit by $0.3 and $0.1 billion in 2015 and 2016, respectively. I believe most readers would agree this has been a fairly consistent, gradual increase in gross profit. The following three main factors, within either most or all of MO's product segments, has helped contribute to this fairly consistent, gradual gross profit growth: 1) several minor price increases over the past several years; 2) minor shipment volume increases over the past several years (will be analyzed later in the article); and 3) relatively stable overall market share.

Consistent with MO's gross profit, the company's "operating income" (gross profit less operating general, administrative, and asset impairment/exits costs) has also gradually net increased during the past several years. MO reported operating income of $2.0, $2.0, $2.2, and $2.4 billion for the second quarter of 2013, 2014, 2015, and 2016, respectively (see red reference "B").

Moving down Table 1, after accounting for MO's interest expense, earnings from its 27% equity ownership stake in SABMiller (OTCPK:SBMRY), other income, and provision for income taxes, the company reported "net earnings" of $1.3, $1.3, $1.4, and $1.7 billion for the second quarter of 2013, 2014, 2015, and 2016, respectively (see red reference "D"). It should be noted during the first quarter of 2015, MO repurchased the company's senior unsecured 9.70% notes due 2018 (the "2018 Notes") and recorded a pre-tax loss of ($228) million on the debt tender offer ("DTO"). At the time, I stated I believed this was a "good move" since the 2018 notes had an interest rate materially above MO's cost of funds rate. The "upfront" loss would eventually be mitigated by an overall lower interest expense in subsequent quarters. This was the main reason for 2015's and 2016's decrease in year-over-year quarterly interest expense (when compared to 2014 and 2013).

When backing out all non-controlling interests, MO reported earnings of $0.632, $0.636, $0.739, and $0.845 per share for the second quarter of 2013, 2014, 2015, and 2016, respectively (see red reference ("E/F")).

When assessing MO's results during the second quarter of 2016, I believe the company delivered strong operating performance by continuing to increase its gross profit, operating income, and EPS. When compared to my projected MO EPS projection of $0.835 for the second quarter of 2016, the company outperformed my expectations by $0.01 per share ($0.835 per share projected versus $0.845 per share actual). As such, I believe MO's strong operating performance for the second quarter of 2016 should be seen as a positive catalyst/trend. Let us move on the next part of this assessment article.

2) Assessing MO's Quarterly Shipment Volume Performance:

Prior to performing MO's quarterly shipment volume analysis, let us first get accustomed to the company's four main product segments. This includes products that are currently "on the shelves" and are generating notable revenue. MO, through the company's subsidiaries and affiliates, manufactures and sells cigarettes, other tobacco-related products, and other nicotine-containing products in markets within the United States ("U.S."). The following are MO's four main product segments: 1) cigarettes (manufactured and sold by Phillip Morris USA Inc.); 2) cigars (manufactured and sold by John Middleton Co.); 3) smokeless tobacco (most manufactured and sold by U.S. Smokeless Tobacco Company LLC); and 4) wine (produced and distributed by Ste. Michelle Wine Estates Ltd.). In addition (as stated earlier), MO currently has a 27% equity ownership stake in SBMRY who is currently in the process of being acquired by Anheuser-Busch Inbev (NYSE:BUD). Let us get briefly get accustomed to MO's four main product segments.

MO's cigarettes product segment is lead by the iconic brand "Marlboro" (Marlboro). Simply put, Marlboro accounts for a large proportion of sales/revenue. This includes all products/styles under the Marlboro name (red, gold, black, etc…). MO's cigarettes product segment also includes other premium brands such as "Benson & Hedges," "Parliament," and "Virginia Slims." MO's cigarettes product segment also includes discount brands such as "Basic" and "L&M."

MO's cigars product segment is lead by the brand "Black & Mild"(Black & Mild). MO's cigars product segment also includes an "other" sub-classification. However, MO's other cigars product segment accounts for only a fractional share of sales/revenue when compared to Black & Mild.

MO's smokeless tobacco product segment includes brands such as "Copenhagen" (Copenhagen) and "Skoal" (Skoal). These two brands account for a majority of sales/revenue within MO's smokeless tobacco product segment. MO's smokeless tobacco product segment also includes an "other" sub-classification.

MO's wine product segment includes brands such as "Chateau Ste. Michelle," "Columbia Crest," and "14 Hands." MO's wine product segment also includes an "other" sub-classification which includes various other brands who individually account for only a fractional share of sales/revenue when compared to the other three brands listed above. Now that we have a better understanding of MO's four main product segments, let us now perform MO's year-over-year shipment volume analysis.

Side Note: For interested readers, Phillip Morris International Inc. (NYSE:PM), through the company's subsidiaries and affiliates, manufactures and sells cigarettes, other tobacco-related products, and other nicotine-containing products in markets outside of the U.S. In my opinion, PM currently has one main product segment, cigarettes. Similar to MO, PM's cigarettes product segment is lead by the iconic brand Marlboro. Simply put, Marlboro accounts for a large proportion of sales/revenue. This includes all products/styles under the Marlboro name (red, gold, black, etc.). However, when compared to MO, PM's sales/revenue of Marlboro account for a lower percentage of total sales/revenue (proportionately speaking). This is mainly due to the fact PM markets products to the rest of the world and usually keeps specific product names/labels which were previously acquired to maintain brand recognition. PM's cigarettes product segment also includes brands such as L&M, Parliament, "Bond Street," "Chesterfield," "Phillip Morris," and "Lark." PM's cigarettes product segment also includes an "other" sub-classification. This includes many local/regional cigarette brands located throughout the world.

Table 2 - MO Shipment Volume Performance By Product Segment (Q1 + Q2 2016 Vs. Q1 + Q2 2015 Vs. Q1 + Q2 2014)

(Source: Table created entirely by myself, partially using MO data obtained from the SEC's EDGAR Database [link provided below Table 1])

Using Table 2 above as a reference, during the first and second quarters of 2015 combined, MO had a minor (less than 5%) increase of 2.36%, 2.62%, and 4.90% in the total shipment volume of the company's cigarettes, smokeless tobacco, and wine product segments, respectively when compared to the first and second quarters of 2014 combined. MO had a modest (at or greater than 5% but less than 10%) increase of 5.12% in the total shipment volume of the company's cigars product segment when compared to the first and second quarters of 2014 combined. Simply put, I believe most readers would agree MO's shipment volume experienced steady, gradual growth in all four main product segments during the first and second quarters of 2015 combined when compared to the first and second quarters of 2014 combined.

During the first and second quarters of 2016 combined, MO had a minor decrease of (2.11%) in the total shipment volume of the company's cigarettes product segment when compared to the first and second quarters of 2015 combined. I believe this minor decrease was a bit of a disappointment. However, somewhat offsetting this disappointment was the fact MO had a modest increase of 7.86%, 5.97%, and 5.55% in the total shipment volume of the company's cigars, smokeless tobacco, and wine product segments, respectively when compared to the first and second quarters of 2015 combined. Simply put, I believe most market participants would agree MO's shipment volume experienced steady, modest growth in three out of the four main product segments during the first and second quarters of 2016 combined when compared to the first and second quarters of 2015 combined.

Therefore, I believe MO's year-over-year first half shipment volume performance for 2016 (when compared to 2015) was a bit of a disappointment in regards to the cigarettes product segment. However, I also believe it should be noted this net decrease in shipment volume was consistent with overall sector trends for this product segment. Offsetting this slight disappointment was the either "as expected" or slight outperformance in regards to the company's cigar, smokeless tobacco, and wine product segments. In addition, MO's retail market share in the cigarettes and smokeless tobacco product segments has slightly increased over the past several years. This is partially offset by a minor decrease in MO's retail market share in the cigars product segment.

As such, I believe MO's price increases, continued attractive overall shipment volumes, and continued dominant retail market share across the company's combined product segments should be seen as a positive trend/catalyst. Now, let us move on the final part of this assessment article.

3) Assessing MO's Adjusted Diluted EPS, Dividend Per Share Rates, and Target Dividend Distributions Payout Ratio:

MO's executive management team has stated the company's Board of Directors ("BoD") bases its dividend per share rate directly off of adjusted diluted EPS. This figure is slightly different when compared to the EPS figure analyzed within the first part of this article. MO's adjusted diluted EPS backs out certain "extraordinary/one-time" items in relation to the company's operations. Such items include (but are not limited to) tobacco/health litigation costs, SBMRY special transactions, gains (losses) associated with the extinguishment of debt, and gains (losses) associated with derivative instruments. MO's executive management team has continued to reiterate the BoD's "annual target distribution" is 80% of the company's annual adjusted diluted EPS.

To analyze MO's historical adjusted diluted EPS and dividend per share rates during 2015 - the second quarter of 2016 (including my projections of both figures for the third and fourth quarters of 2016), Table 3 is provided below. It should also be noted Table 3 provides MO's actual target dividend distributions payout ratio for 2015 and my projection for 2016. All "pink-shaded" figures within Table 3 below are my personal projections based on MO's most recent guidance.

Table 3 - MO Adjusted Diluted EPS, Dividend Per Share Rates, and Target Dividend Distributions Payout Ratio (2015-2016)

(Source: Table created entirely by myself, partially using MO data obtained from the SEC's EDGAR Database [link provided below Table 1])

Using Table 3 above as a reference, MO reported adjusted diluted EPS of $2.80 (rounded) for 2015 (see blue reference "A" within the 2015 column; left side). When compared to MO's adjusted diluted EPS of $2.57 for 2014, the company increased its annual adjusted diluted EPS by $0.23 or 8.75% during 2015. I believe this was an encouraging sign as MO's annual adjusted diluted EPS percentage continued to increase by high-single digits. When broken out, MO reported adjusted diluted EPS of $0.63, $0.74, $0.75, and $0.67 for the first, second, third, and fourth quarters of 2015, respectively.

When calculated, MO's target distribution to shareholders for 2015 was $2.24 per share (see blue reference "C" within the 2015 column; left side). This calculates to a quarterly target distribution of $0.559 per share for 2015 (see blue reference "(C/4)" within the 2015 column; left side). In comparison, MO distributed dividends of $0.52, $0.52, $0.565, and $0.565 per share for the first, second, third, and fourth quarters of 2015, respectively. When combined, this was an annual dividend distribution of $2.17 per share. As such, when compared to MO's target distribution of $2.24 per share for 2015, the company had an annual underpayment of $0.07 per share. When compared to a $0.06 per share underpayment for 2013 and 2014, this was a $0.01 per share additional underpayment. When calculated, MO had an annual target dividend distributions payout ratio of 97% which was a minor underpayment. It should be noted this was the same exact payout ratio when compared to 2013 and 2014. This showed consistency which I believe readers should find reassuring.

When basing MO's target distribution for 2015 on the new "run-rate" dividend of $0.565 per share which began in the third quarter of 2015, the company theoretically had an annual overpayment of ($0.02) per share. This simply means MO would need to boost the company's 2016 annual diluted EPS by at least $0.02 to match the quarterly dividend increase of $0.045 per share which began in the third quarter of 2015. Now let us take a look at MO's reported adjusted diluted EPS for the first and second quarters of 2016 and my projection for the third and fourth quarters of 2016.

Still using Table 3 above as a reference, MO reported adjusted diluted EPS of $0.72 and $0.81 for the first and second quarters of 2016, respectively. When compared to MO's adjusted diluted EPS of $0.63 and $0.74 for the first and second quarters of 2015 respectively, the company increased its year-over-year quarterly adjusted diluted EPS by $0.09 and $0.07 or 14.29% and 9.45%, respectively. I believe this was another encouraging sign as MO's year-over-year quarterly adjusted diluted EPS percentage increased by a notable amount each quarter.

When MO reported results for the second quarter of 2016, management slightly raised its annual adjusted diluted EPS guidance to a range of $3.01-$3.07 for 2016. Based on management's current guidance, along with other qualitative and quantitative factors, I am projecting MO will reported adjusted diluted EPS of $0.81, and $0.72 for the third and fourth quarters of 2016, respectively. When combined, this calculates to an adjusted diluted EPS of $3.06 for 2016 (see blue reference "A" within the 2016 column; right side). If this projection comes to fruition, when compared to MO's adjusted diluted EPS of $2.80 for 2015, the company would increase its annual adjusted diluted EPS by $0.27 (rounded) or 9.48% during 2016. Once again, I believe this would be an encouraging sign as MO's annual adjusted diluted EPS percentage would once again increase by high-single digits.

When calculated, MO's projected target distribution to shareholders for 2016 would be $2.45 per share (see blue reference "C" within the 2016 column; right side). This calculates to a quarterly target distribution of $0.612 per share for 2016 (see blue reference "(C/4)" within the 2016 column; right side). In comparison, MO distributed dividends of $0.565 per share for the first and second quarters of 2016.

As such, due the MO's strong operating performance for the second quarter of 2016 and management's slight increase in annual adjusted diluted EPS guidance, I am projecting the company will declare dividends of $0.615 per share for the third and fourth quarters of 2016. This is a $0.005 per share increase when compared to the last time I provided a MO dividend per share projection (approximately two months ago).

When combined, this would be an annual dividend distribution of $2.36 per share. As such, when compared to MO's projected target distribution of $2.45 per share for 2016, the company would have an annual underpayment of $0.09 per share. When compared to a $0.07 per share underpayment for 2015, this would be a $0.02 per share additional underpayment. When calculated, MO would have an annual target dividend distributions payout ratio of 96% which would continue to be a minor underpayment. I believe this catalyst/factor should be seen as yet another sign of consistency and should be viewed as a positive trend.

Side Note: All projected quarterly/annual per share figures within Table 3 exclude any extraordinary/one-time items in relation to SBMRY's pending merger with BUD. For readers unfamiliar with this proposed merger, management expects MO's 27% equity ownership stake in SBMRY will be exchanged for an approximate 10.5% equity ownership stake in BUD. In addition, as part of the proposed acquisition, it was recently disclosed MO now expects to receive approximately $3.0 billion in pre-tax cash (original estimate was $2.5 billion). I believe it will be interesting to see what MO does will this cash. For instance, MO could declare a "one-time" special periodic dividend or perhaps repurchase a large amount of outstanding shares of common stock. In addition, management has also recently stated MO could repurchase/refinance a portion of outstanding borrowings ("DTO"). In my professional opinion, any (or a combination) of the options stated above would lead to enhanced operating performance and/or enhanced returns to shareholders. However, this is still a pending acquisition and management has not specifically commented on what MO plans to do with its cash proceeds. With that being said, MO has stated this deal has passed numerous hurdles. For instance, this merger has now passed 22 jurisdictional "inquiries/hurdles," subject to certain antitrust measures (mainly the selling of certain product lines/assets). This merger could be finalized by the end of 2016.

Conclusions Drawn:

This article analyzed MO's results for the second quarter of 2016 and compared the company's performance to prior periods. First, this article analyzed MO's consolidated statement of earnings for the three months ended 6/30/2016, 6/30/2015, 6/30/2014, and 6/30/2013. Within this analysis, it was shown the following was MO's EPS for the three months ended 6/30/2013, 6/30/2014, 6/30/2015, and 6/30/2016 (year-over-year quarterly basis):

MO's EPS for Q2 2013: $0.632 per share

MO's EPS for Q2 2014: $0.636 per share

MO's EPS for Q2 2015: $0.739 per share

MO's EPS for Q2 2016: $0.845 per share

Simply put, I believe MO's strong operating performance for the second quarter of 2016 should be seen as a positive catalyst/trend.

Second, along with an overview of MO's main product segments, this article provided a shipment volume performance analysis for the first and second quarters of 2016 combined versus the same timeframes for 2015 and 2014 (year-over-year comparison). Through this analysis, I believe MO's year-over-year first half shipment volume performance for 2016 (when compared to 2015) was a bit of a disappointment in regards to the cigarettes product segment. However, I also believe it should be noted this net decrease in shipment volume was consistent with overall sector trends for this product segment. Offsetting this slight disappointment was the either as expected or slight outperformance in regards to the company's cigar, smokeless tobacco, and wine product segments.

In addition, MO's retail market share in the cigarettes and smokeless tobacco product segments has slightly increased over the past several years. This is partially offset by a minor decrease in MO's retail market share in the cigars product segment. As such, I believe MO's price increases, continued attractive overall shipment volumes, and continued dominant retail market share across the company's combined product segments should be seen as a positive trend/catalyst.

Finally, this article provided a unique analysis of MO's historical/projected adjusted diluted EPS, dividend per share rates, and target dividend distributions payout ratio for 2015 and 2016. The following was MO's reported/projected adjusted diluted EPS for the first, second, third, and fourth quarters of 2016:

MO's reported adjusted diluted EPS for Q1 2016: $0.72 per share

MO's reported adjusted diluted EPS for Q2 2016: $0.81 per share

MO's projected adjusted diluted EPS for Q3 2016: $0.81 per share

MO's projected adjusted diluted EPS for Q4 2016: $0.72 per share

The following was MO's distributed/projected dividend per share rate for the first, second, third, and fourth quarters of 2016:

MO's distributed dividend for Q1 2016: $0.565 per share

MO's distributed dividend for Q2 2016: $0.565 per share

MO's projected dividend for Q3 2016: $0.615 per share

MO's projected dividend for Q4 2016: $0.615 per share

Based on the historical/projected results from the figures provided above, MO would have an annual target dividend distributions payout ratio of 96% for 2016 which would continue to be a minor annual underpayment. If my projections for the third and fourth quarters of 2016 come to fruition, I believe this would yet again be another sign of consistency and should be viewed as a positive trend/catalyst.

My BUY, SELL, or HOLD Recommendation:

MO, through a continued dominate retail market share in the cigarettes and smokeless tobacco product segments (both continue to have over 50% retail market share), an attractive retail market share of machine-made large cigars (near 30%), and a growing wine product segment, I believe MO will continue to provide attractive quarterly results. As a "bonus" per se in my opinion, MO also currently has a 27% equity ownership stake in SBMRY who is currently in the process of being acquired by BUD. As such, MO's investors have some exposure to the brewing industry which adds even more "insulation" during a "defensive" market (including market participants continuing to search for yield in relatively safe equity investments).

In addition, there is a high probability MO will continue to repurchase outstanding shares of common stock throughout most (if not all) quarters over the foreseeable future which has cumulative net benefits to shareholders. Furthermore, MO has a much lower impact from the recent negative foreign currency adjustments suffered by most multinational companies due to the recent strengthening of the U.S. Dollar. In fact, PM has suspended the company's stock repurchase plan due to the weakening of most global currencies when compared to the U.S. Dollar over the past couple of years. Since MO only has to worry about the strengthening U.S. Dollar in regards to the company's 27% equity ownership stake in SBMRY (likely conversion to BUD shares in the future), negative foreign currency adjustments only have a minor impact on MO's financial statements. Simply put, I believe MO's low exposure to negative foreign currency adjustments should be seen as positive catalyst/trend for MO.

Side Note: In fact, to mitigate the minor negative impact upon the potential BUD/SBMRY merger (cash MO will potentially receive is in British Pounds), the company has recently entered into a currency hedge to offset any potential weakening of the British Pound. As most readers know, as a direct result of June's British referendum (vote) to leave the European Union, the British Pound materially weakened against most global currencies, especially the U.S. Dollar. As such, MO recorded a notable unrealized gain of $117 million in regards to this currency hedge for the second quarter of 2016 alone. Simply put, I believe this was an effective risk management strategy to pursue and was properly executed.

From the analysis provided above, including additional factors/catalysts not discussed within this particular article, I currently rate MO as a SELL when the company's stock price is trading at or greater than $72.50 per share, a HOLD when trading between $62.51 - $72.49 per share, and a BUY when trading at or less than $62.50 per share. These ranges are a slight upgrade when compared to my last MO article (approximately two months ago). This is due to recent positive catalysts/factors that were described throughout the article.

As such, I currently rate MO as a HOLD since the company's stock price recently closed between a range of $62.51-$72.49 per share. My current price target for MO is $72.50 per share. This is currently the price where my HOLD recommendation would change to a SELL. This price target is a $2.50 per share increase when compared to my last MO article. Between now and my next MO article, I will look to add to my existing position at approximately $62.50 per share. This is currently the price where my HOLD recommendation would change to a BUY. This price target is also a $2.50 per share increase when compared to my last MO article.

Final Note: Each investor's BUY, SELL, or HOLD decision is based on one's risk tolerance, time horizon, and dividend income goals. My personal recommendation will not fit each reader's current investing strategy. The factual information provided within this article is intended to help assist readers when it comes to investing strategies/decisions.

I first initiated a position in MO back in late 2009 and continued to increase my position, at periodic intervals, from 2010-2013. Up until MO's dividend for the fourth quarter of 2014, I reinvested all quarterly dividends. Since then, I have elected to receive cash dividends (instead of reinvested dividends). In the future, I may decide to once again reinvest all dividends received. The weighted average purchase price of my entire MO position is currently $26.115 per share. This weighted average per share price excludes all dividends received/reinvested.

Disclosure: I am/we are long MO.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I currently have no direct position in BUD, PM, or SBMRY.

Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.