The best public relations move that this leader of the tobacco industry ever did was change its name to Altria Group Inc (MO) because nobody knows what an “altria” is and wouldn’t think of tobacco.
I actually think that helped its public image and helped put the “evil tobacco” narrative behind it a little.
That’s just a tiny little “pro” to Altria as a stock. I’m going to hit on three pros and three cons to try and help us decide if it’s a stock worth owning.
Pros for MO Stock
It Sells an Addictive Product: Probably the biggest benefit to owning Altria is that it sells a product that is addictive. While that doesn’t guarantee success, it certainly makes it more difficult for consumers to use the product and stop using it thereafter. Even Peter Lynch would agree that anything that forces someone to buy a product is good for the stock. It also acts as a hedge against a down economy because … well, if you need it, you need it. Because it sells a product many people must have, it enjoys a degree of pricing power, as well.
Financial Numbers Have Always Been Solid: Thanks to being able to adapt to market changes, such as smokeless products, Altria has always managed its balance sheet and cash flow extremely well. It has $2.3 billion in cash and almost $13 billion in debt. However, that debt only set Altria back $208 million in interest, or about 1.6% annually. Altria has very little capex, so its free cash flow has traditionally exceeded $4 billion, most of which it pays out as a dividend. It is extremely unlikely that MO is ever going to find itself in a cash crunch or liquidity-stressed position. That gives it a lot more certainty than many other stocks.
Its Toughest Regulatory Times Are Behind it: Virtually all its lawsuits and regulatory actions have been settled in one form or another. It still has over $3 billion in settlements to pay out, but it does so over many years with ample cash flow to fund it. With the biggest threat to its business essentially extinguished, it provides investors with much better vision towards the future. It is the lack of clarity, driven by regulation or competition, that can hamper a stock’s future potential gains. MO stock has competition, but is handling it as well as it can.
Cons for MO Stock
Annual Cigarette Sales Volume Is Declining: Here’s a depressing chart for MO stock. Despite selling an addictive product, cigarette sales have cratered since 2007, down by about 30%. Antismoking campaigns are having an effect. It’s also likely that health care costs are proving to be a great deterrent. The general push towards living healthier lifestyles has been sweeping the United States, and that is clearly filtering (ahem) down to the smoking demographic. In addition, it may enjoy pricing power, but when the economy is really bad, people are forced to quit. Notice how declines started right around the time of the financial crisis. As a result of declining sales, MO stock must cut costs dramatically on an ongoing basis. That can only last for so long.
Net Income Growth has Stalled: If you are going to invest in MO stock, or any stock, you generally are doing so because it is growing earnings. That’s not the case with MO stock anymore. Net income is barely moving at all, thanks to the aforementioned decline in sales. That puts some MO investors in a pickle. Do they buy a stock because of the 3.87% yield, especially because it’s sustainable, or do they pass because capital gains are not going to be as likely?
It Is Far Too Expensive a Stock to Buy: MO has net earnings of $5.24 billion in FY15, and MO stock has a market cap of $119 billion. That means it is trading at about 23x earnings. How can a MO investor justify paying 23 times earnings for a stock whose net income increased only 3.4% year over year? If one adds the 3.7% yield, and even grants a 30% premium for having lots of cash, great cash flow and a brand name, the max one could assign it is 9.5x. That means it is as much as three times overvalued.
Bottom Line on MO stock
With the market being overvalued and in a bear market, people may rush to MO stock as a “safe haven.”
I say it isn’t safe at this valuation and you can find far safer places to get a 4% yield. Sell if you own MO stock, and do not buy it.
As of this writing, Lawrence Meyer did not hold a position in any of the aforementioned stocks.
