Altria Group (NYSE:MO) reports first-quarter earnings on Thursday, April 24. The last time it reported earnings, Altria shares slid 3% on both lower cigarette shipment volume and lower-than-expected earnings. Expectations have since recovered; the stock price is now back above where it was before fourth quarter's results. It is impossible to know beforehand how well Altria did in the first quarter of 2014, but investors should keep an eye on a few key numbers when the report is released.
Looking back on last quarter
Altria's shipments of Marlboro cigarettes declined 5.7% in the fourth quarter of 2013. The poor showing from Marlboro dragged down the overall smokeless-segment revenue by 3.2% despite higher pricing. However, Marlboro's poor quarter was not due to poor execution; it actually gained market share in the period. Instead, it reflects the overall decline of the cigarette market, driven by high taxes and the increase in tobacco substitutes like e-cigarettes. So Altria is largely at the mercy of the broader cigarette market.
Looking ahead to first quarter's results
Cigarette volume will likely continue to decline; it is just a matter of by how much. Investors should be prepared for another mid-single-digit decline in volume, similar to its rate of decline last quarter and the year-ago quarter. The stock market's expectations, however, may be different. The stock has already climbed above its pre-earnings price before falling on news of a large volume decline in last year's fourth quarter. Long-term investors should not be concerned about another decline after this quarter's earnings; investors must be able to ride out the vicissitudes of market sentiment without losing sight of the big picture.
Aside from cigarette volume, investors should keep an eye out for comments on e-cigarettes. Altria is executing its MarkTen e-cigarette nationwide rollout as we speak. First-quarter results will not reflect the rollout, which began in Q2. However, management will likely provide updated guidance for its e-cigarette plans, including greater detail on its plans for Green Smoke, the online retailer of premium e-vapor products that Altria acquired for $110 million. Management's comments could indicate whether the company intends to hasten its entry into the market, which so far has been less urgent than its peers, or continue its slow and measured entry into the disruptive market. If cigarette volume continues to plunge, expect Altria to hasten its e-cigarette entry to help offset cigarette declines.
Finally, investors should try to discern management's capital allocation plans. Altria is set to get a $400 million-per-year increase in cash flow as the tobacco- quota buyout program expires. Under the program, tobacco manufacturers and importers are required to pay struggling tobacco farmers to buy out their depression-era quotas. The manufacturers pay in proportion to their market share; Altria's 50.6% cigarette share is the largest in the U.S., thus it paid the most into the program. Altria says its obligations expire after the third quarter of this year.
Management's comments on its plans for the influx of cash will indicate its broader strategy. The two primary uses of cash will probably be a higher dividend and greater e-cigarette promotion. Altria may also decide to acquire additional e-vapor companies or pay down debt. Each of these options has pros and cons that should be weighed once management's plans are clear.
One quarter does not make or break a cash cow like Altria, but it could indicate the broader direction of the company. Another poor quarter for cigarette volumes could suggest that the nascent e-vapor market is already impacting the cigarette market. If that is the case, investors should expect Altria to make a stronger push into the e-vapor market.
However, a low-single-digit cigarette volume decline could make Altria content to bide its time, waiting for a clearer signal of the cigarette's demise before investing heavily in an alternative. Either way, investors should not be concerned with this quarter's results -- no matter what they are -- as long as management employs the appropriate strategy in response.