Going forward, investors may be reluctant to invest in domestic tobacco companies due to declining cigarette consumption trends in the country. However, I don’t think there is any need to be so concerned. Altria Group is an impressive company with leading positions in both the cigarette and smokeless category (~50% market share in cigarette category, ~55% in smokeless tobacco category and ~30% in cigars). The diversification into smokeless products and other markets will keep the company on track for future growth. Other domestic tobacco companies like Reynolds American, Inc. (NYSE:RAI) and Lorillard Inc. (NYSE:LO) have also entered the e-cigarette and smokeless tobacco products, but Altria holds an upper hand due to a strong appeal of its Marlboro brand.
As far as the investment opportunity in these tobacco stocks is concerned, I don’t think it is a good idea to buy Reynolds American at the current levels. The company is trading at a premium to Altria despite having a lower expected growth rate and thus, looks overvalued on a PEG basis (Reynolds American has a PEG ratio of 2.19 as compared to Altria’s 1.91). Moreover, the company has seen a 3.5% drop in revenue over the last three quarters with its top brands including Camel and Pall Mall also taking a strong hit. On the other hand, Lorillard is worth a look at current levels. The company is also slowly increasing its global footprint to take advantage of increasing cigarette consumption in other international markets and the stock looks attractively priced with a PEG ratio of just 1.67.
I acknowledge that Altria Group has experienced an annual revenue decay rate of 14.5% over the last five years, but over the same period the company has posted an annual earnings growth of 7.85%. Thus, one can’t simply write of the company with such margin expanding capabilities. The company has made a significant progress on its cost reduction program by reducing headcount, consolidating certain facilities and improving business processes. Moreover, the management seems confidence to achieve annualized savings of $400 million in 2013 as compared to the previously planned spending.
Altria Group has a strong history of steady dividend payouts as the company has increased its quarterly dividend 40 times over the last 42 years. The only two times the dividend was not increased was in 2007 (when it completed the spin-off of Kraft Foods) and 2008 (when it completed the spin-off of Philip Morris International). Currently, the company offers an impressive dividend yield of 5.10% which I feel is sustainable. It is imperative to understand that Altria is not just a plain tobacco company. It is made up of several subsidiaries like tobacco, cigars, smokeless products and wines; each one providing a different avenue of revenue.
Overall, I believe Altria is in a period of transition and given the company’s strong, leading portfolio of brands, coupled with its tremendous knowledge of the tobacco industry, I am optimistic the company will be able to enter a period of sustainable growth and improving margin in the next couple of years. I rate it a buy.
The article Is This Tobacco Company A Buy? originally appeared on Fool.com and is written by Neha Gupta.
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