Tobacco giant Altria Group (MO +0.34%) has endured plenty of adversity in its history. Despite multiple rounds of litigation, government regulation, excise taxes, and opposition from health and consumer advocates, Altria has found ways to deliver growing revenue and profit to its shareholders. Yet Altria's past success is no guarantee that the good times will continue for the company. In particular, the following risk factors are essential to consider when making a decision about whether Altria is a good investment for your portfolio.
1. Reduced-risk products are a big gamble.
The secular decline in cigarette smoking has led the tobacco industry to consider alternatives, and the result has been a big rise in the use of electronic cigarettes and other similar products. Altria has invested heavily in its MarkTen and Green Smoke brands of e-cigarettes, and the company is thus far pleased with their progress. At the same time, Altria will have exclusive distribution rights in the U.S. to the Philip Morris International (PM +1.40%) iQOS heated-tobacco system, and the U.S. tobacco company hopes that Philip Morris will be able to get approval for iQOS from the U.S. Food and Drug Administration to qualify as a modified risk tobacco product. If it can, then Altria will be able to implement its sales strategy and start distributing iQOS to American consumers.
Image source: Altria.
The problem, though, is that the success of alternatives to traditional cigarettes is far from assured. Moreover, even if such products are successful, they will inevitably cannibalize sales of regular cigarettes. Altria hopes that its products will have a competitive advantage against those of its rivals, but some fear that the best the tobacco giant can hope for is to preserve its existing market share rather than actually capturing share from competitors.
2. Quality control is essential to Altria's success.
Altria is able to command premium prices for its products because of its reputation for quality. Customers stay loyal to brands like Marlboro in cigarettes and Copenhagen in smokeless tobacco because they believe that these products are truly better than the competition. Thus, when production problems arise, they threaten customer trust.
Earlier this year, Altria voluntarily recalled some of its smokeless tobacco products, including key brands like Copenhagen and Skoal. Customers complained that foreign metal objects, some of which had sharp edges, were included in the containers. Altria eventually traced the problem to products made at its Illinois manufacturing facility in Franklin Park. As a result, only a few specific flavors of smokeless tobacco were recalled, and many of the most popular Copenhagen products weren't recalled.
Altria was fortunate that no injuries resulted from the incident. However, the recall was costly, and more importantly, it lowered some consumers' opinion of Altria products. The company needs to be diligent to avoid similar events in the future.
3. Altria's new stake in Anheuser-Busch is somewhat unpredictable.
Altria expects the most from its new stake in beer giant Anheuser-Busch InBev (BUD +0.63%), which resulted from A-B InBev's purchase of SABMiller. Altria values the diversification that its beer position gives its overall business.
Yet with the A-B InBev making up about a seventh of Altria's overall market capitalization, the tobacco giant will rely on the beer maker to be prudent in its business operations. Some wonder whether that trust is appropriate. For instance, Anheuser-Busch has pushed hard in the craft beer industry, making acquisitions, at a breakneck pace, that some say could lead to the craft-beer market's eventual collapse. In addition, A-B InBev faces new competition from the spirits industry, and a key decision from the National Football League to allow distilled spirits advertising could have a negative impact on what has in the past been an environment dominated by beer manufacturers. More broadly, Anheuser-Busch needs to keep global sales rising, integrating SABMiller effectively and using its competitive advantages to crush its rivals.
Altria has numerous risks, and these three are very real. Altria has every opportunity to overcome them, but shareholders need to keep an eye on the company to make sure it succeeds in managing its overall risk in the future.
