Altria (NYSE:MO) reported fourth-quarter earnings on Jan. 30, and the market did not take the news well -- Altria's shares fell by over 4%. On the surface, the price decline seems warranted, as Altria missed its revenue forecast and took another impairment charge on its JUUL investment. It also revised its medium-term adjusted earnings per share forecast lower and announced that it would no longer provide guidance on industry cigarette volumes. Not surprisingly, the earnings report did little to buoy investor confidence.
Altria's earnings were mixed at best
Let's review the company's earnings results. Net revenue fell 1.8% to $6.0 billion, missing expectations. Adjusted earnings per share (EPS) rose 7.4% as pricing increases offset volume declines. The company's JUUL investment was written down by a further $4.2 billion, bringing the total writedown to close to 70% of the original acquisition price. Finally, Altria adjusted its medium-term adjusted EPS forecast downwards from a range of 5-8% growth to 4-7%, incorporating the litigation risks associated with JUUL.
However, does this change the investment thesis for Altria? A deeper analysis of the company's results would actually suggest no. Altria's long-term appeal rests on its ability to raise cigarette prices at a rate faster than volume declines, thereby funding its growing dividend. At the same time, the company would grow its other businesses to compensate for the longer term decline in the cigarette market.
The longer-term thesis remains in place
Altria's earnings would suggest that these factors are still intact. The company's cigarette volume fell by 6%, but it raised its pricing by 8.5%, which allowed profits to grow in the high single digits. This has been the pattern for years, and will likely continue for the foreseeable future. Morningstar estimates the U.S. cigarette market is the fourth most affordable among OECD nation cigarette markets, and that Altria will likely generate excess returns for at least the next 20 years. It is this pricing ability that has enabled Altria to grow its annual adjusted earnings per share consecutively -- with the exception of one year -- since the start of the millennium.
And although Altria's JUUL's investment looks like an unmitigated disaster, problems in the e-cigarette market have actually provided a tailwind for cigarettes. Morgan Stanley estimates that U.S. cigarette volume declined 4.5% in the fourth quarter, compared to a pace of -5.5% in the first nine months of the year. They attribute this improvement to a slowdown in e-cigarette sales, as health concerns shifted users to cigarettes.
Meanwhile, Altria continues to diversify away from cigarettes. The iQOS product has now been rolled out to 500 stores across Atlanta and Richmond, with the likelihood of further expansion into other test markets in 2020. Altria's non-smokeable segments grew as a percentage of overall sales, with Smokeless products up 5.8% and wine up 2% in the fourth quarter. These efforts, combined with its stakes in cannabis producer Cronos and Anheuser-Busch Inbev, should continue to move the company's exposure away from cigarettes.
Altria also pays a hefty dividend, at a yield close to 7%. Having grown this for 50 consecutive years, there is no reason to expect any interruption to this streak in the foreseeable future. With the stock trading at its lowest valuation in ten years, investors are being given a rare opportunity to buy a dividend growth stock on the cheap.