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Value Ideas Contest June: Smoke On Altria (MO)

Company Profile:

The Altria Group (MO) is engaged in the manufacture and sale of cigarettes, certain smokeless products and wine within the United States. MO has a number of entities, namely Philip Morris USA, U.S. Smokeless Tobacco Company, John Middleton, Ste. Michell Wine Estates and Philip Morris Capital Corporation. In addition, the company held a 27.3 percent stake in the second-largest brewer SABMiller (SBMRY). The company made a spin-off of Kraft Foods in 2007 and Philip Morris International a year later (2008). Finally, it acquired UST in 2009, the leading producer of smokeless tobacco products in the USA. With an estimated U.S. domestic market share of roughly 50 percent, Altria is the biggest player within the tobacco industry.

Business Diversification:

As of Q1 2011, the company operates five segments: Cigarettes (89 percent of sales and 85 percent of profits), Smokeless Products (7 percent of sales and 12 percent of profits), Cigars (2 percent of sales and 1 percent of profits), Wine (2 percent of sales and 1 percent of profits) and finally Financial Services (0 percent of sales and 1 percent of profits). The company is an entirely U.S.-based business with no sales abroad.

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Management:

Michael E. Szymanczyk (Chairman of the Board and CEO). He joined the company in 1990 and was appointed to that position in March 2008. Szymanczyk has great consumer products experience in sales and marketing at Procter & Gamble (PG) and Kraft (KFT).

Martin J. Barrington (Vice Chairman) – Marty Barrington is vice chairman of Altria Group, responsible for innovation, public affairs, human tesources and compliance. He has worked for Altria since 1993.

David R. Beran (Vice Chairman) - Dave Beran is vice chairman of Altria Group responsible for business operations. He joined the company in 1976.

Craig A. Johnson (Chief Executive Officer) – He joined the company in 1991 and serves as president and Chief Executive Officer for Altria Group Distribution Company (AGDC)

Denise F. Keane (Executive Vice President) – She is the only woman in the corporate management team and joined the company in 1977 as an attorney. Now she serves as executive vice president and general counsel for Altria Group.

John R. Nelson Jr. (Executive Vice President and Chief Technology Officer) – He joined in 1982 and his job is to lead the research, development & engineering department in the creation of products and technologies for Altria’s tobacco operating companies in order to help them responsibly meet their business goals. He has held this position since 2008.

Howard A. Willard III (Executive Vice President and Chief Financial Officer) – He joined Altria in 1992 and is responsible for the accounting, tax, treasury, audit, investor relations and finance decision support and budgeting organizations.

Here are more information to the management teams and additional information to the leadership: http://www.altria.com/en/cms/About_Altria/Our_Management_Team/default.aspx

Insider own shares in an amount of 0.4 percent.

Valuation of the Company:

Dividend Yield: 5.61 Percent

Payout Ratio: 78.0 Percent

5-Year Dividend Growth: 9.7 Percent

Market Capitalization: 56.73 billion

Cash and Short Term Investments: 3.43 billion

Long-Term Debt: 12.19 billion

Accounted Long-Term Investments (SAB Miller): 10.13 billion

Cash flow from Operations: 2.76 billion

CAPEX: 0.17 billion

The 27.3 percent stake in SAB Miller has a market worth of USD 9.6 billion for the time being.

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All pricing measures increased over the past 10 years. Price to earnings ratio rose in total by 19 percent, price to book ratio by 106 percent and price to cash flow ratio by 78 percent. The price to sales ratio realized the biggest increase with a total growth of 142 percent for the past decade. The spin-off had different effects on the valuation figures of Altria. In total, they slowed the long-term increase in Altria’s pricing ratios.

Long-Term Fundamentals and Dividends:

Over the past 10 years, sales of Altria decreased by 69 percent, EBIT by 60 percent and net income in total by 51.8 percent. Reasonable for this development was the spin-off by Altria into Altria, Kraft Foods (KFT) and Philip Morris International (PM). A main reason for this separation was the growing influence of investors who thought that the whole diversified group suffers under the legal and regulatory environment which affected only the US smoking business. A spin-off by Altria could separate the risks and may increase the valuation of food giant Kraft Foods and Philip Morris International. Since the corporate action, sales of Altria increased 30 percent, EBIT by 20.4 percent and net income finally by 22.7 percent.

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MO has paid dividends since 1928. The company raised dividends only for 4 consecutive years due to the spin-off. Next Ex-Div. date is June 15, 2011. Payments will be received on July 11, 2011. The upcoming dividend is the fourth quarter dividend at the same rate (USD 0.38).



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(Adjusted by special payments)




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Discussions of risks, competition, catalyst etc.

Competitors:

Due to Altria’s huge market share, there are only three additional players in the U.S. market. Reynolds America (RAI), Lorillard (LO), and the Vector Group (VGR) is the third player with a market capitalization of more than $1 billion. Here are some fundamentals:

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Risks and Opportunities:

The domestic tobacco market is a decreasing market. Volumes go down by 3 percent yearly on average. Higher taxes and bigger restrictions by the FDA have accelerated this to above 5 percent in 2010. Additional regulations are forthcoming, and the industry still has a lot of court cases outstanding against it. Within the first quarter, volume of Marlboro, the biggest brand of the company with a 27.9 billion sticks, decreased by 5.7 percent. In total the whole group volume decreased by 6.4 percent and led to a loss in market share of 1.2 percent points. Nearly the same development in a weaker intension was recognized for the smokeless segment. The whole segment volume decreased 1.2 percent and lost 0.6 percent points in retail share.

How can Altria fight against this? There might be three ways: price increasing, gaining market share in the premium segment and finally growth throughout acquisitions.

Price increases outpaced volume declines over the past 40 years. Cigarettes make customers addictive. They are willing to pay almost whatever it takes to buy a pack. An increase in market share seems to be hard due to the fact that the market has strong entry barriers and a huge consumer loyalty. Given the astounding regulation and scrutiny around the industry, it is almost inconceivable that new competition would enter the market. This is the reason why almost three companies dominate the whole industry.

An acquisition strategy is therefore impossible for a company with such a big market share. The only way to grow via takeover is to hunt in segments in which the company is not dominant. Possible is growth through acquisitions in auxiliary businesses and particularly within the smokeless tobacco segment. Copenhagen, Altria’s smokeless brand, has a market share of 26 percent. Together with Skoal, the second biggest smokeless brand of Altria, they have a retail share of 48 percent.

Maybe they could be interested in Imperial Tobacco (ITYBY) or British American Tobacco (BTI). If they sell their stake in SAB Miller they could make a bid of BAT and finance this transaction partly with a sell of BAT’s stake in Reynolds American. Also possible is a growth strategy into the wine and spirit market. CFO Dave Beran said in an interview in 2010 to Reuters that it made sense to keep the business (SAB Miller and Ste. Michelle Wine Estates) because “it is a strong asset to have on the balance sheet – helping to reduce Altria’s borrowing costs – and it also contributes earnings.” A complete sale could pull a tax trigger.

Conclusions:

The smoking and smokeless business is a wonderful business. The low need of capital allows it to pass almost every taken penny to investors. Altria is a robust company that is deeply rooted within the US economy. The company is also interesting due to its USD 10 billion stake in SAB Miller and its financial possibilities to reorganize their business model. The SAB Miller stake is a non-core asset which represents roughly 17 percent of Altria’s market capitalization. In a case of a sale, investors could expect a special dividend, increasing dividends or bigger share buy-backs. If we expect this sale of silverware within the next ten years, we could realize in the case of a non-growing dividend over the past ten years a total dividend amount of 56.1 percent plus the effects from the SAB Miller stake. In total, investors should have a return of around 74 percent pre-tax from these two effects alone.

The second point of why MO is interesting is the possibility for the company to reorganize itself. MO has a big capability from the financial site to buy some companies from other industries or geographic areas in order to escape from the ongoing volume declines.

Consensus Developments:

According Reuters, 13 analysts covered MO and submitted a hold rating with a mean target price of USD 27.67 as of June 7, 2011. This value represents an upside of 2.09 percent compared to the close end price of June 7, 2011. The mean target price estimate increased over the past 18 months by 25.48 percent.

Related Stock Ticker Symbols:RAI, MO, PM, KFT, LO, ITYBY, BTI, VGR

Full Disclosure:

Long MO, not intended to buy any stocks or obligations of the company within the next 72 hours. I don’t receive any compensation by the company.

Disclaimer:

The presented data and material is for informational purposes only. Despite careful researches, we cannot guarantee for the truth of the figures. The past operational performance as well as the stock performance and dividend developments does not guarantee a positive future performance. Please, before you buy or sell any stocks, you should do your own research and reach your own conclusion.

About the author:

Dividend
I am a private full time investor searching for investments and investment ideas.

Visit Dividend 's Website


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