Resilience in Adversity

Photo: PMI

The Altria Group continues to deliver a strong 2020 performance despite a challenging economy.

By Timothy S. Donahue

Despite a challenging economic environment, Altria Group’s net revenues rose by 3.9 percent to $7.12 billion in the third quarter of 2020. Through the first nine months of the year, the tobacco giant’s net revenues grew by 3.9 percent to $19.85 billion. During its third-quarter conference call with investors, Altria CEO Billy Gifford said that the company demonstrated its resilience during the third quarter while continuing to navigate the adversity produced by the Covid-19 pandemic.

Altria’s third-quarter adjusted diluted earnings per share (EPS) was unchanged at $1.19. Gifford explained that for the first nine months of the year, adjusted EPS grew 5.6 percent to $3.37, driven by the strong financial performance of Altria’s tobacco businesses. The smokable products segment delivered third-quarter adjusted other comprehensive income (OCI) of $2.8 billion, up nearly 10 percent from the same period last year. And for the first nine months, the smokable segment adjusted OCI increased 10.5 percent to $7.7 billion, according to Altria’s third-quarter report.

“In the third quarter, our tobacco businesses delivered strong financial performance once again, and we made steady progress against our 10-year vision,” said Gifford. “At the same time, we’re pursuing our vision to responsibly lead the transition of smokers to a noncombustible future.”

Smokeless and next-generation tobacco products continue grow in Altria’s portfolio. The company has made steady progress with expansion plans for its On! and IQOS brands. These products, alongside Altria’s moist smokeless business and its investment in Juul Labs, present significant opportunities for smoker conversion to noncombustible alternatives, according to Gifford. Altria subsidiary Helix Innovations is responsible for marketing, manufacturing and distribution of On! nicotine pouches globally.

“We believe On! is a strong proposition and has been successful with both smokers and dippers. On! was sold in 56,000 stores at the end of the third quarter, up 40 percent from the second quarter and more than tripled the store count from the end of last year,” said Gifford. “In stores with distribution, On! achieved a retail share of 2.1 percentage points of the oral tobacco category in the first nine months of 2020. Helix continues to test different trial-generating promotions and has benefited from strong trade partnerships.”

In the vapor category, Altria submitted its premarket tobacco product application (PMTA) to the U.S. Food and Drug Administration (FDA) for its Juul product and four flavors of pods. That application is currently under scientific review. Gifford believes that a sustainable vapor category is one that exists with solely FDA-authorized products.

“We encouraged FDA enforcement against noncompliant manufacturers, including those who continue to sell e-vapor products without a PMTA submission,” he said. “We estimate the total e-vapor volumes decreased by 13 percent for both the third quarter and the first nine months of 2020. We believe the e-vapor category will continue to undergo a transition period over the next few years as [the] FDA makes market determinations on the thousands of PMTAs before the September [2021] deadline.”

Altria’s valuation of Juul Labs dropped to less than $5 billion, down from $38 billion two years ago. In September, Juul Labs announced a strategic update, which included its plans for a significant global workforce reduction, evaluation of resource allocation and the possibility of exiting various international markets.

“I think while we’re disappointed in the investment, we do believe that e-vapor will play an important role as we progress harm reduction, especially in the U.S. but even worldwide,” Gifford told investors. “In preparing our third-quarter financial statements, we performed a valuation analysis of our investment in Juul, which considered both its international prospects and current U.S. e-vapor category dynamics. As a result of this analysis, we’ve recorded a $2.6 billion impairment to our Juul investment, bringing its carrying value to $1.6 billion as of Sept. 30.”

Pamela Kaufman, an analyst with Morgan Stanley, asked Gifford to explain the rationale behind the magnitude of the Juul Labs write-down, which implies a total value for the company of about $4.5 billion—well below Juul’s reported internal valuation of about $10 billion.

“When we put together a valuation for the company, we do our best to make the best assumptions we can based on the future cash flows, how large we would expect [the industry] to become both on the domestic side and the international side,” said Gifford. “We highlighted for you that we believe the category is going to go through a two-[year] to three-year transition as all manufacturers in the e-vapor category navigate this FDA regulatory process. Certainly, we’ve seen a number of manufacturers get fairly competitive and step up their competitive activities in the marketplace. And we believe as the FDA makes decisions and products can remain and some products leave the category that there will be consumers at play. And so, all of those factors went into the valuation that we have, and we came forward with our best estimate.”

Meanwhile, Altria subsidiary Philip Morris USA (PM USA) continues to expand the footprint of the IQOS heated-tobacco brand in the United States under an agreement with Philip Morris International. Gifford said that the FDA’s recent authorization of a reduced exposure claim for IQOS has allowed the tobacco company to use its “robust digital assets and tobacco consumer database” to communicate with smokers, including through websites, email and direct mail.

“We believe that the combination of these modified-risk communications and PM USA’s more disruptive retail fixture will significantly enhance the quality of IQOS awareness among smokers. As smokers move along the journey to engagement and trial, PM USA is providing flexible options to learn about IQOS and purchase devices,” explained Gifford. “PM USA now offers a video chat option for age-verified smokers to use their mobile phones and connect directly with IQOS experts for product education and support.”

PM USA is also expanding the availability of IQOS devices into the convenience store channel. Beginning next month, PM USA expects IQOS devices to be available in select convenience stores in Charlotte, North Carolina. Gifford said the company estimates the number of tobacco consumer trips to the store rebounded in the third quarter and that tobacco expenditures per trip remained elevated versus a year ago.

“The IQOS team is looking at how we meet the consumer where they’re at and putting it in select convenience stores; it really is meeting the consumer where they make their point of purchase,” said Gifford. “It’s really an education process. But our IQOS team has done some excellent work. We’re also testing at-home delivery; once the consumer has gone through the tutorial and has been age verified, we could actually have at-home delivery of devices.”

Altria’s fourth quarter is expected to follow the third-quarter’s and first nine month’s trends. Gifford says that Altria’s tobacco businesses have a track record of delivering strong and consistent financial performance in challenging environments. He said the company will continue to reward its shareholders by returning a significant amount of cash in the form of dividends. “We believe our tobacco business platform has the winning brands and is unmatched,” he said. “We’re excited to make further progress in achieving our vision of responsibly transitioning smokers to a noncombustible future.”