Fears of stagflation -- high inflation combined with slowing economic growth, have pushed the stock market into bear market territory. The S&P 500 index has lost 22% so far this year.
But stocks that pay market-beating income to their shareholders have fared much better. For instance, shares of tobacco company Altria Group (MO 0.49%) are down just 3% thus far in 2022. Even with this significant outperformance, the stock still looks like a buy for income investors. Here's why.
Altria Group is becoming more profitable
As has been the case for decades, Altria Group was able to overcome volume declines in its business last quarter.
In the first quarter, the company's total revenue net of excise taxes fell 1.3% year over year to $4.8 billion. But factoring out the sale of its wine business, Ste. Michelle Wine Estates, in October, the company's total revenue net of excise taxes was 1.7% higher. This is impressive when considering that the company's total smokeable products shipment volumes dropped by 6.4% to 21.1 billion units in the quarter.
With a total retail market share of 48.1%, Altria Group's smokeable brand power was evident. The strength of its leading cigarette brand, Marlboro, allowed it to raise prices for its customers. This led Altria Group's smokeable segment revenue net of excise taxes to edge 2.2% higher over the year-ago period to $4.2 billion.
In the oral tobacco products segment, too, the company's dominant position remained intact with a total retail market share of 46.9%. Sales volumes declined by 1.9% year over year to 194.1 million units in the quarter. This was partially offset by a near doubling of the company's on! volume to 18.3 million units in the quarter as the product's market share nearly tripled to 4.1% in the quarter. Due to price hikes on its Copenhagen, Skoal, and on! products, revenue net of excise taxes dipped just 1.8% to $584 million.
Analysts believe that annual earnings growth in the mid-single-digit percentages will persist for the next five years-- with 5.5% annualized earnings growth expected during that time. That outlook is based on analysts' expectation that the company's dominant brands, pricing power, and the relatively inelastic nature of the market for its products will remain intact.
Image source: Getty Images.
The dividend can continue growing
Altria Group's 7.6% dividend yield is nearly five times the S&P 500's average yield of 1.6%. This might initially give investors the impression that the stock is a yield trap. But its payout actually looks like it is safe.
In 2022, Altria Group's dividend payout ratio is expected to be 74.9% -- below its target ratio of 80%. This should give management the ability to build on the payout-hiking streak that turned it into a Dividend King.
Not only does the company have a buffer to sustain its dividend through just about any type of economic downturn. Altria also retains more than enough capital for opportunistic acquisitions and share repurchases.
A deeply undervalued stock
Altria Group's valuation appears to seal the deal to make it a buy. The stock trades at a forward price-to-earnings (P/E) ratio of 9.6, which is barely half the tobacco industry's average of 18. Low interest rates have resulted in meaningful underperformance for Altria Group in recent years. But with interest rates set to spike higher in the quarters ahead, it looks like the shift away from growth stocks into value stocks is only beginning.
And that weak valuation isn't due to a lack of earnings growth potential. Altria's expected 5.5% annualized earnings growth is in line with the industry average. The concern is that the relationship between peer Philip Morris International and Altria Group could be fractured now that the licensing deal between the two for IQOS in the U.S. looks to be in jeopardy. This is because the former will soon begin manufacturing IQOS in the U.S. This eliminates the need for Altria Group to distribute and sell the reduced-risk product on behalf of Philip Morris International in exchange for royalty payments to the latter.
The good news is that Altria Group's 10% stake in the beer giant Anheuser-Busch InBev valued at $11 billion could be used to make a strategic acquisition of reduced-risk product brands, repay debt, or repurchase shares. And the company's growing on! market share could be helpful in offsetting future cigarette volume declines. Simply put, Altria Group is a quality stock for contrarian investors trading at a dirt cheap valuation.
