If at first you don't succeed, try, try again is a pretty good maxim for life. But at what point do investors decide that a company has made one too many mistakes? That's a very real question that needs to be asked about Altria (MO 0.02%) as it looks to move on from disastrous investments in Juul and Cronos by buying Njoy. The big problem? It could be years before Wall Street knows how well the deal works out.
A brief look at the past
There's no question at this point that Altria is facing a troubling future for its cigarette business. The company's full-year 2022 performance summarizes the long-term trend perfectly. According to management: "Net revenues decreased 1.7%, primarily driven by lower shipment volume, partially offset by higher pricing and lower promotional investments."
Basically, fewer cigarettes are getting sold, but they cost customers more. That's not a sustainable business model because, at some point, Altria will hit a tipping point where price increases become too onerous and end up causing more financial pain (increasing the sales decline) than benefit (offsetting the revenue lost from the declines).
Image source: Getty Images.
Management isn't ignorant to what's going on. For starters, it is very rightly treating the cigarette operation as a cash cow. To keep investors interested in the stock it pays a huge dividend from the reliable, at least for now, cash flow this business generates. The dividend yield is an attractive 8% today. It is also buying back stock, to the tune of $1.8 billion in 2022 alone. A new $1 billion stock buyback program was announced as well.
In addition to these shareholder-directed efforts, the company has been trying to diversify its business into new areas. The two most notable moves here were an investment in marijuana company Cronos and another in vape maker Juul. While the concept behind these two moves was sound, the outcome is where the problem lies.
Down and out
At this point, it looks like Altria has given up on both Juul and Cronos. There have been multiple billion-dollar write-downs associated with these deals and there's been nothing of any substance to show from them. Hindsight is 20/20, but clearly management made mistakes.
That is the unfortunate backdrop for Altria's current $2.75 billion investment in Njoy, another vaping company (there's an additional $500 million earn-out provision based on product milestones). To be fair, Njoy is much further along in its business development than Juul or Cronos were when Altria stepped in to them in 2018. So it would seem like there's a better shot at success today.
The problem investors need to grapple with is balancing the reality of past failures with Altria's timeline for success with Njoy. According to the news release describing the deal: "We expect the Transaction will be accretive to cash flow within two years of closing and accretive to our adjusted diluted earnings per share (EPS) within three years of closing. We also estimate the return on invested capital for the Transaction to exceed our current weighted-average cost of capital within three to four years of closing."
There will clearly be indicators both financially and operationally before Njoy starts adding (or detracting) meaningfully to (or from) top-level financial results. However, it's hard to believe that management is going to be anything but positive as the business is integrated into Altria. So a grain of salt will be needed here.
To be fair, there is a lot that Altria has to offer a smaller and less well supported brand, given Altria's size and reach within the tobacco industry. But that doesn't guarantee success even though non-financial indicators (such as the number of outlets selling Njoy) will likely be the main focus of management updates.
Down for a reason
Altria's stock is down some 40% since its recent high-water mark in 2017. The big reason for the negative mood on Wall Street is the slow decline of Altria's core cigarette business coupled with the failed attempts to diversify. That steep sell-off is why the yield is so high, which may attract dividend investors looking to maximize their current income.
The dividend appears fairly safe right now, given the cash dividend payout ratio of around 80% or so and the board's current commitment to rewarding investors with dividends and buybacks. However, conservative investors who think in decades need to worry about the company's ability to keep paying such a large dividend over the long term, given the business results of late.
The Njoy deal looks relatively attractive compared to Juul and Cronos, but it might be better to wait for some concrete results before buying Altria based on this acquisition news. And if Altria ends up striking out again with Njoy, well, the high yield here probably isn't worth the risk even if you have a short investment time horizon.
