Altria (MO 0.95%) is no ordinary tobacco company. Altria is possibly one of the most defensive tobacco companies around due to its strategic holding in the world's second biggest brewer by volume, SABMiller (NASDAQOTH: SBMRY).
In my opinion, Altria's near 30% stake in SABMiller gives the company a secondary income stream that will not come under the same pressure as its tobacco business, namely declining shipment volumes due to changing opinions regarding tobacco use.
Exploring options
Altria was pushed to sell its share in SAB back in 2010. However, the company explained at the time that selling the business would lead to tax implications that would effectively offset any gains made. The CEO at the time, Michael Szymanczyk, stated that it made sense to have the SAB holding on the balance sheet because it reduced the company's borrowing costs and contributed to earnings .
He has a point here. Altria's holding in SAB is marked on the balance sheet as being worth $6.5 billion as of the end of the third quarter. Altria's net debt is around $11 billion and total assets amount to just under $36 billion. All in all, including the SAB stake, Altria's net-debt-to-asset ratio is 30%, and without the SAB stake this jumps to 36%. Still, the sale of the SAB stake would improve Altria's cash position by approximately $6.5 billion, although we don't know how the company's tax liability would work out.
Boosting earnings
However, as written above, one of the reasons cited for not selling the SAB holding was the contributions the investment made to Altria's bottom line.
That said, looking at the figures below I feel that SAB's contribution to Altria's profitability has been somewhat overstated.
|
Year |
SAB special items effect on EPS |
Earnings from SAB investment |
|---|---|---|
|
2013E |
0.01 |
($255) |
|
2012 |
($0.08) |
($251) |
|
2011 |
$0.03 |
($178) |
|
2010 |
$0.03 |
($191) |
|
2009 |
$0.00 |
($158) |
Source: Altria's annual report. Figures in $US millions.
SAB's contribution to Altria's bottom line has been consistently negative since 2009. Special items have been the only factor that has contributed positively to Altria's earnings per share, or EPS .
What's more, based on the fact that Altria had 1,998,000,000 shares in issue at the end of the fiscal second quarter, we can estimate that the special items for this fiscal year will contribute just under $20 million to full-year results. This hardly offsets the loss from the investment.
Altria has reported that these special items relate to SAB's "business capability programme" and SAB's economic and social development program in South Africa. Nonetheless, one thing to be wary about is the recurring nature of these 'one off' costs.
Personally, looking at these numbers I'm skeptical about how beneficial Altria's investment in SAB really is. Actually, if we add together the special items and other losses resulting from the SAB holding, I estimate that SAB has cost Altria $1.05 billion since 2009, a negative 17% return on investment.
Valuation
Still, the sheer size of Altria's $6.5 billion investment in SAB means that Altria's enterprise value is bigger than most of its domestic peers, and this reflects in the company's valuation. In particular, on an enterprise value to earnings before interest and tax ratio, or EV/EBIT, Altria trades at a near 50% discount to international peer Philip Morris International (PM 1.23%). Specifically, Philip Morris trades at a historic EV/EBIT multiple of 12, while Altria trades at a multiple of 6.8.
While Phillip Morris does deserve some premium due to its international diversification, the company still lacks diversification outside of the legacy tobacco business like Altria's holding in SAB. So, based on that I feel that Altria's valuation discount to Philip Morris is not justified.
What's more, Altria's EBIT margin is similar to that of Philip Morris so investors are likely to receive equal returns from each company in the way of dividend payouts and stock buybacks.
Foolish summary
Overall, Altria's equity investment in SABMiller gives the company some diversification away from the contracting tobacco market. However, it is unclear how much the investment actually contributes to Altria's bottom line.
Having said all of that, the equity investment in SAB should be beneficial for Altria over the long-term and the extra diversification should be grounds for the company to trade at a premium to its peers. Philip Morris' international growth is worth a premium, but Altria's diversification into beverages should be worth a lot more.
