Altria (MO -0.07%) is the leading cigarette maker in the United States, owning the domestic distribution rights to the popular cigarette brand Marlboro. In many ways, it has a great business. But in other ways, it is becoming clearer that Altria's business will never be what it once was.
For long-term investors, that's a problem and one that was highlighted in the company's fourth-quarter and full-year 2022 results.
Altria is getting less great
Altria's primary business is selling cigarettes and other smokable tobacco products (such as cigars). Management highlights that the Marlboro brand has a huge 42.5% retail market share. That's a massive number and clearly provides the company with material industry clout and, given the addictive nature of tobacco products, a fairly reliable revenue base. This is the foundation on which an investment in Altria is built.
Image source: Getty Images.
The problem, of course, is that smoking is not viewed positively socially or medically. So, Altria's customer base is shrinking. The decline has been slow, averaging roughly 1.7% a year across all tobacco products (which combines cigarettes, cigars, vaping, and snuff/pouches) since 2017, according to the company, but that decline has had a very real impact as the years go by. The drop is largely coming from cigarettes, where volume dropped from 13.4 billion units in 2017 to 10.9 billion in 2022.
To offset volume declines in cigarettes, Altria has been trying to do two things: increase prices and expand into new business lines. Both are showing signs of strain.
Nothing seems to be working
With regard to expansion efforts, Altria has written down the value of its investment in vape brand Juul multiple times. The same basic thing has taken shape with an investment in marijuana grower Cronos (CRON 4.31%), which is publicly traded and has experienced a painful share decline from its peak levels. Neither attempt at diversification has worked out, showing that management hasn't been able to use the cash-cow tobacco business to effectively grow alternative revenue streams. Taken together, write-offs related to these two investments have cost investors billions.
Perhaps equally concerning, however, is that the total volume of smokable tobacco products (highlighted above) is shrinking fairly rapidly, causing the overall industry demand to shrink. Alternatives (smokeless and vape) simply aren't growing quickly enough to offset the impact of cigarette declines. This trend is unlikely to change anytime soon, given the relative size of the smokable category (it's almost three times the size of the other two combined). So, the entire addressable market is likely to keep shrinking for years to come. Thus, even shifting to alternative products, if it were successful, doesn't seem like it will be enough to stop the tobacco industry's downward volume trend.
Price increases, meanwhile, have been the main fallback. And, so far, jacking up prices on a shrinking number of consumers has been working. But 2022 showed that even this approach, despite the "loyalty" of smokers, may not be enough. For example, Marlboro's market share dropped 40 basis points year over year in 2022. And the company noted in its earnings release that 2022 revenue decreased by 1.7% thanks to volume declines that were only partially offset by price increases and decreased spending on advertising.
There are economic issues here to consider, given that inflation has had a material impact on the U.S. economy over the past year. But the 2022 results also suggest that there's a tipping point where cost increases are no longer acceptable to customers. And while cutting costs by reducing advertising spending may be an effective short-term strategy to protect margins, the long-term impact is likely to be fewer customers, thanks to reduced brand awareness. If you have had any concerns about Altria's business model, 2022 results should ramp up your anxiety.
Perhaps there's more to come
Altria stock is down around 15% from its peak over the past year and over 30% since 2018. The dividend yield is a very attractive 8.4% since yield and price move in opposite directions.
If you are an income investor with a relatively short time horizon, the stock would be an interesting option. However, if your holding period is likely to be counted in decades, 2022 shows that the company's business decline is ongoing and, perhaps, getting close to the point where the pace of decline starts to pick up steam. Altria does not appear to be a great choice for most investors.
