Why Altria Can Still Win the E-Cigarette Battle

Despite being late to the party, Altria's distribution capabilities and proprietary technology could still allow it to dominate the electronic-cigarette category.

Feb 25, 2014 at 3:15PM

Tobacco giant Altria Group (NYSE:MO) has a storied history of providing shareholders with excellent returns. That's because decades' worth of steady profits and reinvested dividends resulted in a cascade of shareholder wealth.

Today, Altria faces a much less certain future due to declining smoking rates and increasing public scrutiny of big tobacco. In response, tobacco companies are searching for the next growth opportunity. That opportunity may exist in the form of e-cigarettes, where Altria is rapidly expanding its footprint in an attempt to catch up to one of its closest rivals.

Altria makes its move
Altria is making its move in e-cigarettes, no longer content watching its competitors capitalize on what amounts to a booming market. Until recently, Altria's MarkTen brand of e-cigarettes was a fledgling operation. The company initially rolled out MarkTen in just two states, Indiana and Arizona, but after promising test results, Altria is taking its brand national.

These efforts will be boosted by the recent strategic partnership with Philip Morris International (NYSE:PM). Philip Morris, which operates the Marlboro brand outside the United States, will provide Altria with two of its heated-tobacco products for distribution in America. In turn, Altria will license its e-cigarette products to Philip Morris for commercialization outside the United States. And the companies will continue to work with each other on future product improvements.

In addition, Altria's NuMark subsidiary recently announced the purchase of Green Smoke's e-vapor business for $110 million. All told, Altria appears ready for battle with the industry leader in e-cigarettes.

Close peer Lorillard (NYSE:LO) currently has a stranglehold on the e-cig market, thanks to its early mover status. Lorillard bought out Blu eCigs in 2012 and as a result enjoys nearly half the electronic-cigarette market share. In addition, its purchase of England-based SKYCIG last year gives it entry into the international markets. Clearly, Altria has some catching up to do.

An emerging opportunity
Lorillard's aggressive pursuit of the electronic-cigarette industry was a wise move. Industry estimates peg last year's sales of e-cigarettes at $1 billion. While waiting so long to go national seems to have been a disservice to Altria, the company has more than enough girth to make up for lost time.

Altria has a distinct advantage in the industry: its world-class distribution capability. The company essentially has the size and scale to easily and effectively enter any new market it pleases. In addition, Altria believes its proprietary technology will be favored by consumers. The company maintains that its "FourDraw" technology provides a better user experience and noted that the MarkTen brand was quickly adopted in its initial test markets.

Altria's position is that e-cigarette users will flock to the device that most closely replicates the traditional cigarette experience. That's what it believes it has to offer in its own brand of e-cigs and why it now has the confidence to roll out its e-cigarette business nationally.

The Foolish conclusion
Altria is late to the e-cigarette party, which is a truly booming market. While normally that should give investors cause for concern, Altria's dominance of the traditional tobacco business leads me to believe it can have success in e-cigarettes as well.

Lorillard enjoys early mover status in e-cigarettes and as a result has a preliminary lead. But the e-cigarette market is a new one and is constantly evolving. The eventual winner will be the one that offers consumers the best product, not necessarily the first product.

It remains to be seen whether Altria can erode Lorillard's nearly 50% market share in electronic cigarettes, but early results in two test markets were promising enough to prompt Altria to go national. Time will tell if management's predictions go up in smoke.

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Bob Ciura owns shares of Altria Group. The Motley Fool owns shares of Philip Morris International. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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