Business Context and Reporting Period
Company: Altria Group, Inc. (ALG)
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2006
Headquarters: New York, N.Y.
Altria Group, Inc. operates through four primary segments: Domestic Tobacco (Philip Morris USA), International Tobacco (Philip Morris International), Food Products (Kraft Foods Inc., 89% owned), and Financial Services (Philip Morris Capital Corporation). A defining event for the period is the announced spin-off of Kraft Foods, scheduled for March 30, 2007, which will distribute all remaining Kraft shares to ALG stockholders.
Key Financial Metrics
Note: The provided text incorporates financial statements by reference and does not contain the consolidated income statement or balance sheet totals. The following metrics are extracted from specific disclosures within the text.
- Segment Operating Income Contribution (2006): International Tobacco (46.6%), Domestic Tobacco (26.5%), North American Food (20.7%), International Food (5.3%), Financial Services (0.9%).
- Dividends Received: ALG received $1.4 billion in cash dividends from Kraft in 2006.
- Asset Sales Proceeds: Kraft received $946 million in aggregate proceeds from various asset sales in 2006.
- Restructuring Charges: Kraft incurred $673 million in pre-tax restructuring charges in 2006. Total charges for the program (2004–2006) reached $1.6 billion.
- Financial Services Allowance for Losses: $480 million at year-end 2006 (up from $596 million in 2005 after adjustments).
- Market Value: As of June 30, 2006, the aggregate market value of non-affiliate common stock was approximately $154 billion.
Material Changes vs. Prior Period
- Domestic Tobacco Volume: PM USA total cigarette shipments decreased 1.1% to 183.4 billion units. Premium segment volume decreased 0.7%, while the discount segment decreased 6.2%.
- International Tobacco Volume: PMI total cigarette shipments increased 3.4% to 831.4 billion units. PMI's estimated international market share rose to 15.4%.
- Acquisitions:
- Sampoerna (Indonesia): PMI completed the acquisition of 98% of Sampoerna in 2005; 2006 results reflect full consolidation. Sampoerna reported $608 million operating income in 2006.
- United Biscuits (UB): Kraft acquired Spanish/Portuguese operations and EU trademark rights for $1.1 billion, resulting in a $251 million pre-tax gain.
- ELJ Exchange: PMI exchanged its interest in a Dominican Republic beer business for 100% of a cigarette business, recording a $488 million pre-tax gain.
- Divestitures: Kraft sold its sugar confectionery business in 2005 (discontinued operations). In 2006, Kraft sold pet snacks, rice, coconut, and coffee assets.
- Financial Services: PMCC recorded a $103 million provision for losses in 2006 due to airline industry exposure (Delta, Northwest, United). Charge-offs totaled $219 million.
Guidance, Outlook, Risks, and Contingencies
Outlook and Management Commentary
Management anticipates the Kraft spin-off will result in a net decrease to stockholders' equity of approximately $27 billion. Kraft expects a continued higher cost environment for energy and packaging. PM USA and PMI believe tobacco supply is adequate but face declining industry volumes due to public health initiatives and taxation.
Material Risks and Contingencies
- Tobacco Litigation:
- Engle Class Action (Florida): The Florida Supreme Court vacated the $145 billion punitive damages award and decertified the class, allowing individual suits based on Phase I findings. PM USA has paid $71.5 million in judgments and $33.8 million in interest on resolved cases.
- Price Case (Illinois): The Illinois Supreme Court reversed a $10.1 billion verdict; the case was dismissed with prejudice in December 2006. Approximately $2.2 billion in escrow deposits were returned to PM USA.
- Federal RICO Lawsuit: A federal court found ALG and PM USA violated RICO provisions. No monetary damages were assessed, but the court issued injunctions regarding marketing and labeling. The judgment is stayed pending appeal.
- Scott Class Action (Louisiana): An appellate court reduced the award by $312 million and vacated prejudgment interest ($444 million).
- IRS Challenges: The IRS disallowed tax benefits for certain PMCC leveraged leases (1996–1999). ALG contests approximately $150 million in assessed taxes and interest. An adverse outcome could materially affect earnings and cash flows.
- Financial Services Exposure: PMCC holds $1.9 billion in aircraft leases. Significant exposure exists to Delta, Northwest, and Calpine, all of which are or have been under bankruptcy protection. PMCC has provided for losses on these assets.
- Commodity Costs: Kraft faces rising costs for energy, packaging, and coffee, partially offset by lower cheese and meat costs. Aggregate commodity costs increased by $275 million in 2006.
Investor Verification Checklist
- Kraft Spin-Off Mechanics: Verify the final distribution ratio and the impact on ALG's dividend policy post-spin-off.
- Master Settlement Agreement (MSA): Monitor proceedings regarding potential downward adjustments to MSA payments for 2003 and 2004 based on market share loss to non-participating manufacturers.
- IRS Litigation Status: Track the outcome of the lawsuit filed by PMCC regarding leveraged lease tax benefits, as a loss could trigger significant tax payments.
- Engle Follow-on Litigation: Assess the volume and potential liability of individual lawsuits filed by former Engle class members in Florida.
- Financial Services Asset Quality: Review updates on the recovery value of aircraft and power plant leases held by PMCC, particularly those involving bankrupt lessees.