Altria Group (NYSE:MO) has been a battleground stock for years. The bears have been winning as shares have declined by -15.76% over the past five years. This has caused the dividend yield to gradually increase as MO has increased the dividend payment on an annual basis while its share price deteriorated. One of the main bear cases is the decline in cigarette consumption, while investors such as myself look at the underlying fundamentals and significant value under the hood of MO. Thursday morning, MO reported their Q1 earnings, which were a bit mixed as the revenue number was missed by $10 million while their EPS was in line with estimates. The big takeaway was that management reaffirmed its 2024 EPS guidance of $5.05 to $5.17, as this is indicating MO is making significant progress in diversifying its product mix. The market seems to be reacting well to earnings, and I feel that we have seen the consolidation period as shares traded sideways at the $40 level for some time. MO is a profit center, and while nobody is forced to use their products, they are a highly profitable company that trades at a forward P/E in the high single digits, which can’t be disputed. I believe there is still plenty of value waiting to be unlocked in shares of MO, and investors can still lock in a dividend yield of around 9%. 2024 could be the year that MO gets its groove back, and all signs indicate that investors will get another dividend increase this summer.
Following up on my previous article about Altria Group
I had previously written an article about MO before shares popped on February 5 (can be read here). Since then, shares of MO have increased by 5.14% while the S&P 500 has climbed 1.7%. There is also an incoming dividend that investors on record as of 3/25 can expect, as the Q1 2024 dividend will be paid on 4/30 in the amount of $0.98 per share. I had discussed why I felt shares of MO represented a value opportunity for investors who could tune out the noise about the tobacco sector. Now that Q1 2024 earnings are in the books, I wanted to follow up with a new article to discuss MO’s earnings and why they have solidified my bullish stance on the company.
Risks to my investment thesis regarding Altria Group
Altria Group operates in one of the most controversial industries, as tobacco products have been under fire for decades. There are many risks to investing in MO, and investors have to be prepared for the business landscape to drastically change at a moment’s notice. MO is constantly navigating a challenging and changing regulatory landscape that can impact its underlying products and where they can be sold. MO is constantly battling external campaigns regarding the health impacts of its products, which can bleed into investor sentiment. There is also harvesting risks that are also uncontrollable due to weather patterns as a large portion of MO’s business depends on harvesting tobacco. For years, MO has been a profitable company that has traded at low valuations as Mr. Market refuses to reward shareholders based on the underlying numbers. Investors also face opportunity cost risk because the large dividend hasn’t evened out against investing in index funds over the short term. There are many risks to investing in MO, and no matter how good their profitability is, investors may never see shares of MO trade at the multiple they feel it deserves.
Q1 2024 was compelling for the long-term investment case
MO continues to diversify away from traditional cigarettes while operating a highly profitable business that generated $2.13 billion in net income throughout Q1 of 2024. Looking back several decades ago, the tolerance for cigarettes has completely changed. We have gone from being able to smoke on planes and in restaurants to seeing no-smoking signs almost everywhere we turn. Traditional smokeable products from MO continued to decline as the net revenue derived from these business lines declined by -3.6% YoY. This was due to lower shipment volumes, promotional investments, and higher manufacturing costs. Domestically, shipment volumes declined by -10%, which was also impacted by an overall decline in utilization rate. MO’s cigar shipment volume also declined by -6.1%. MO has been warning that margins have been squeezed in traditional combustible products for years, while the overall number of smokers continues to decline. In Q1 of 2024, MO still had 46.4% of cigarette retail share, while Marlboro accounted for 42%.
As traditional smokers continue to transition from cigarettes to other forms of tobacco products, MO has actively invested in building out its smokeless lines. MO is going big on vaping through NJOY and is expanding its oral tobacco business. In Q1, MO shipped one million NJOY devices while shipping 10.9 million consumable units. Over the past year, MO’s distribution channels for NJOY increased by 134%, as they can be found in 82,000 stores. NJOY now has a 4.3% share of the retail space, which is up 0.06% sequentially. On the oral tobacco side, MO increased its revenue by 3.7% YoY as it accounted for $651 million of Q1’s revenue. MO owns Copenhagen, Skoal, and on!, which generated $435 million in adjusted operating company income at a 69.5% margin. The new trend in oral tobacco domestically is nicotine pouches, which have grown by 40.1% over the past year. MO is capturing roughly 17.6% of the industry through its on! pouches.
In Q1, MO delivered $5.58 billion of revenue and operated at a 58.82% gross margin and a 38.18% profit margin. The progress that MO is making outside of cigarettes is compelling as management reaffirmed its guidance for non-GAAP EPS growth YoY. In 2023, MO produced $4.95 per share, and shareholders can expect anywhere from a 2-4.5% increase in 2024 earnings, with the range expected to come in at $5.05-$5.17. MO is expected to deliver mid-single-digit EPS growth through 2028, and the reassurances management gave indicate they are well on the path. As the tobacco landscape changes, MO looks to be in a position to pivot the company toward growing segments while mitigating risk from declining shipments of cigarettes. I think the commentary from Q1 supports the bull thesis, as MO continues to be an extremely profitable business with high margins despite the negative stigma.
There is a lot of profitability in the tank for allocating capital to shareholders
Two of the things I care about in investing are valuation and profitability. Going by the numbers, MO generated $5.58 billion in revenue, which was down -2.5% YoY. Top-line growth is stagnant, but there are two additional shipping days in the back half of 2024, which skews their guidance a bit to the second half of 2024. Putting that aside, MO generated $3.28 billion in gross profit after the excise taxes imposed on their products. This puts MO at a 58.82% gross profit margin. After all of the operating expenses, MO still generated $2.13 billion in net income, which correlated to $1.21 of diluted EPS, which was up 21% YoY. This is 23.96% of the low-end projections of $5.05 EPS in 2024. MO is a company that has fantastic margins and is projecting YoY EPS increases over the next several years. Nobody is forced to invest in any company they don’t want to, but it seems like Mr. Market is looking at MO from an emotional standpoint rather than based on the numbers.
Mo is expected to generate $5.08 of EPS in 2024, $5.30 in 2025, and $5.53 in 2026. This means that MO is trading at 8.44 times its 2024 earnings and 7.76 times its 2026 earnings. MO’s board has authorized a $2.4 billion increase to its existing repurchase program, which was $1 billion at the start of the year. The $2.4 billion will be part of an accelerated repurchase program of which MO has repurchased 46.5 million shares under, which represented 85% of the program. By June 30, MO expects to utilize the remaining 15% from the accelerated repurchase program while repurchasing another $1 billion worth of shares by the close of 2024. MO will have repurchased $3.4 billion worth of shares in addition to the dividends.
The beautiful thing is that with every share that MO repurchases and retires, that’s one less share on which the dividend is being paid. This allows MO to save on dividend payments and reallocate that budgeted capital toward debt, buybacks, or reinvesting into the business. MO has provided investors with 58 dividend increases over the past 54 years and is the highest-yielding Dividend King. MO’s guidance calls for mid-single-digit dividend growth each year through 2028. The current dividend is $3.92, and it has a 4.59% growth rate over the past five years. MO has a history of increasing the quarterly dividend over the summer and paying out the increased payment in September. If MO continues to increase the dividend by 4.3% and replicate the 2023 increase, the dividend would grow to $4.09 this summer. Next year, the dividend could grow to $4.26, and the following year, it would grow to $4.45. From the beginning of 2024, heading into the 2025 calendar year, MO’s dividend could be $4.09, and it could grow to $4.64 heading into the 2028 calendar year based on a 4.3% annualized increase. Including the incoming dividend, MO could pay $21.36 in dividends over the next five years, which is 49% of its current share price. MO’s future earnings outlook is strong, and I would argue that its potential for capital allocation is even stronger.
Conclusion
I am probably in the minority, but I think MO presents investors with a strong value proposition. Q1 earnings were strong, and MO is navigating a changing business environment well. This quarter reaffirmed MO’s earnings potential, and that’s probably why we didn’t see a sell-off on the top-line number, which was declining YoY and missing expectations. Shares of MO still yield around 9% and trade at less than 10 times 2024 earnings. There is always a risk that shares of MO will continue to be punished due to the sector in which it operates, but I feel that eventually, the market will reward it based on fundamentals. Investors could generate around 50% of their entry price over the next five years from MO’s dividends, which doesn’t even include if they are being reinvested. I am long MO and still feel that shares offer a great value proposition as this can be a vehicle for both income generation and capital appreciation.