Will Altria Resume its Rally in 2013?
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Altria (NYSE: MO) hasn't performed well during 2012 as shares of the company rose by only 6%. In comparison, during the year, the S&P500 increased by nearly 13.4%. Will Altria be able to resume its rally in the months to come? What are the main uncertainties the company will face in the start of 2013? Let's further explore these issues.
According to the company's third quarter report, revenues rose by only 4% during the first nine months of 2012 despite the drop in the number of cigarettes sold. Most of the gain was attributed to a price raise. In turn, this gain was made to pay for the rise in the excise taxes that rose by nearly 6.2% in the first nine months of 2012. Will cigarettes sales continue to dwindle? Well, the answer is yes and no.
Yes, because according to a recent report cigarettes consumption in the U.S is experiencing a downward trend. No, because the report also shows a rise in other smokable tobacco such as cigars and pipe tobacco. Since Altria is offering other tobacco products (including cigars) the company might be able to compensate for the drop in cigarettes sales with other tobacco products.
Despite the drop in consumption, revenues from cigarettes sales rose. Since in the tobacco market the price elasticity tends to be negative (one study estimates it at -0.48), a price increase is likely to compensate for the drop in demand and thus the total revenues will rise even if most of the growth in price will be deferred to pay excise taxes.
Nonetheless, as long as this relation will continue in which the price elasticity remains negative; the company could raise the price of cigarettes and keep its revenues growth.
The company also has a steady growth in the smokeless products: during the first nine months the company's revenues in this sector grew by 2.8% and the total volume increased by 1.9%. This business is still relatively small as it counts for only 6% of the company's total revenues. I suspect these types of products will continue to rise in the months to come and could contribute to Altria's growth in sales. Nonetheless, some analysts point out there is some uncertainty around the potential growth of these products.
Altria and Other Tobacco Companies
During recent years the operating profitability of Altria remained nearly unchanged. Moreover, its operating profitability is clearly in the middle of the pack compared to other leading tobacco companies. During the first nine months of 2012 the company's operating profitability was nearly 25.11%, which was close to the profit margin in 2010 and 2011. Moreover, the company’s profitability was lower than the profitability of Lorillard (NYSE: LO) or Reynolds American (NYSE: RAI) but higher than the profitability of Philip Morris (NYSE: PM). The chart below presents the changes in these companies’ operating profitability in recent years (2012 only includes the first nine months).
It seems the market is pricing Altria only slightly higher than several other leading tobacco companies: Altria's P/E is set at 16.68; in comparison, the P/E of Philip Morris is set at 17.08; the P/E of Lorillard is 14.30; the P/E of Reynolds is set at 16.
Considering the strong hold Altria has on the U.S market, its high market cap (trailing behind Philip Morris and British American Tobacco (NYSEMKT: BTI), and its low exposure to competition and foreign exchange fluctuations, the company might still have some more room to grow.
One of the problems major tobacco companies have is a high financial risk. In the chart below are the debt-to-equity ratios of several tobacco companies. As indicated below, as of September 2012, the debt-to-equity ratio of Altria is nearly 3.6. Several other companies such as BTI or Reynolds have a much lower debt-to-equity ratio.
Despite the high debt-to-equity ratio the company's management is still showing its vote of confidence in the direction of the company as the board decided on October, 2012 to expand the share repurchase program from $1 billion to $1.5 billion. The company still has nearly $550 million on this program and plans to complete it during the first half of 2013. At $32 per share, this means the program will reduce in 2013 nearly 17 million shares, which represent almost 1% of the company's shares. This program could also contribute to the rally of the stock in the months to follow.
Despite Altria’s slow growth in both sales and stock price, the company still has a strong hold on the tobacco market in the U.S and might resume its rally in 2013. Moreover, the company doesn't operate outside North America it doesn't face the strong competition or foreign exchange risks that other tobacco companies face. If the company will be able to expand its operations in other tobacco products and smokeless products, it could augment its growth in sales.
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