Altria's (NYSE:MO) $12.8 billion investment in Juul Labs looked like a smart strategy at the time, as the leading electronic cigarette maker was stealing market share and coming to dominate the industry. But as the tobacco giant's third quarter earnings show, the investment is turning into a multibillion-dollar headache.
The Marlboro brand owner reported it was taking a massive $4.5 billion writedown on Juul, fully 35% of its value, but it also disclosed that the Federal Trade Commission was investigating whether Altria was improperly influencing the e-cig maker. The confluence of events swirling around Juul and the e-cig industry almost makes Altria's declining cigarette business and the continued loss of market share by Marlboro pale in comparison.
Up in smoke
Altria reported third-quarter revenue excluding excise taxes rose 2.3% to $5.4 billion, helped by having raised prices twice earlier in the year, which allowed it to achieve a net price realization of 9.6% for the period. Altria increased prices yet again at the beginning of October, an extremely rare instance of raising prices three times in one year, but also showing the pricing power it still holds.
Yet absent various adjustments, cigarette volume tumbled 7.7% in the quarter, much worse than the estimated 5.5% decline for the industry as a whole. It also represents an acceleration of smoker losses, as last year Altria's volume fell 5.8% for the year.
The Marlboro brand, which accounts for 87% of Altria's cigarette volume, saw volumes fall 6%, and its market share eroded again, as it lost 0.1% of share, falling to 43.1%. But that wasn't the worst of it for Altria, as its other premium brands, such as Virginia Slims, Parliament, and Benson & Hedges, tumbled 11.6% for the period, while discount brands, including L&M and Basic, were down more than 10%.
Juul getting vaporized by controversy
All of that was overshadowed by the news that Altria was writing off billions on its Juul investment, though it's not necessarily a surprise, as the expectation it would have to mark down the e-cig company's value was growing. Not only was Juul being affected by events beyond its control, such as the outbreak of lung illnesses and even death among people who were vaping, but its own practices in marketing its e-cigs were also coming under intense scrutiny.
Beyond expectations of Juul's value to Altria, it's also looking as though the e-cig company may have a tough road in front of it when it finally submits its pre-marketing application to the Food and Drug Administration ahead of the May 2020 deadline. Former commissioner Scott Gottlieb's suggestion that he doesn't see a path forward for Juul is looking more prescient.
Juul attempted to change direction by ousting its CEO and installing a former Altria executive in the position. It also cut jobs, suspended advertising in the U.S., and made several other management changes, including appointing Altria's former head of regulatory affairs.
Too much control
While the FDA had previously expressed concern about Altria's monetary investment in Juul, the FTC is looking askance at all of these Altria executives now assuming positions of control of the e-cig company, and it wants to know what degree of influence the tobacco giant is using. The regulatory agency issued the equivalent of a subpoena to Altria, called a civil investigative demand, seeking to learn whether it had a hand in effecting these changes. The problem is, because regulators haven't yet signed off on Altria's investment in Juul, it's not allowed to play a role in the e-cig maker's decision-making process.
At least Altria was able to report that the launch of Philip Morris International's (NYSE:PM) IQOS heated tobacco device was off to a strong start in the Atlanta market where it was first introduced, and it will be expanded into the Richmond, Va. market next month. Altria is taking a test-and-learn approach to the device as it moves toward a national rollout.
Yet cigarettes are still very profitable
Despite all the controversies, Altria was still able to report earnings of $1.19 per share, ahead of last year's $1.08 effort and analyst forecasts of $1.15. Altria's outlook for the full year is also above expectations, at earnings of between $4.19 and $4.27 per share.
As the decline Altria's cigarette business accelerates and its stake in Juul has an ax taken to it, the tobacco giant needs IQOS to succeed more than ever -- and we will probably see Altria hastening its rollout very soon.