ALTRIA GROUP, INC. quarterly report, Q2 FY2021

Altria Group, Inc. — Q2 2021 Form 10-Q

Reporting period: Three and six months ended June 30, 2021. Altria is a U.S. tobacco-focused holding company with smokeable and oral tobacco businesses, wine operations, and significant equity investments in ABI, JUUL and Cronos. Unless otherwise noted, amounts are in U.S. dollars.

Financial performance

Metric	Three months ended June 30, 2021	Six months ended June 30, 2021
Net revenues	$6.936 billion; up 8.9% year over year	$12.972 billion; up 1.9%
Operating income	$3.186 billion; up 13.9%	$5.876 billion; up 14.5%
Net earnings attributable to Altria	$2.149 billion; up 10.6%	$3.573 billion; up 2.2%
Reported diluted EPS	$1.16; up 11.5%	$1.93; up 2.7%
Adjusted diluted EPS	$1.23; up 12.8%	$2.30; up 5.5%
Operating cash flow	Not separately presented for the quarter	$2.679 billion, versus $4.946 billion in 2020

Reported gross margin was approximately 53.8% in Q2 versus 51.6% a year earlier, and 54.0% for the first half versus 48.4%. Operating margin was approximately 45.9% in Q2 versus 43.9%, and 45.3% for the first half versus 40.3%. These are calculated from reported revenue and profit figures. The company’s non-GAAP adjusted EPS excludes items management considers outside underlying operations.

First-half operating cash flow declined primarily because taxes deferred in Q2 2020 were paid in 2021 and settlement payments were higher, partly offset by higher net revenues. Investing cash flow was a $9 million outflow; financing cash flow was a $5.749 billion outflow.

Segments and material changes

• Smokeable products: First-half revenue was $11.300 billion, up 0.8%; adjusted segment operating companies income (OCI) rose 5.3% to $5.159 billion. Cigarette shipments fell 5.3% in the half, while estimated domestic industry volume declined about 4% after adjustments. Q2 shipments rose 1.4%, but management estimated a 4.5% decline after adjusting for trade inventory movements. Marlboro’s Q2 retail share was 43.2%, up 0.5 percentage point year over year.
• Oral tobacco products: First-half revenue was $1.319 billion, up 4.6%; adjusted OCI increased 3.3% to $901 million. Oral nicotine pouch growth supported volume, while Copenhagen and Skoal lost share. The segment’s adjusted OCI margin declined 1.0 percentage point to 71.9% for the half, partly due to product mix. on! reached about 105,000 stores by quarter-end.
• Wine: First-half revenue was $317 million, up 14.4%; adjusted OCI was $46 million versus $28 million. The comparison benefited from $394 million of 2020 wine strategic-reset charges. On July 8, 2021, after quarter-end, UST agreed to sell the wine business for approximately $1.2 billion, subject to financing, regulatory clearance and other closing conditions.

First-half reported results included a $649 million pretax loss on debt extinguishment, including $623 million of premiums and fees. Excluding special items, adjusted net earnings increased 5.1% for the half and 12.8% for Q2. The reported year-over-year comparison also reflected major 2020 wine-reset costs and changes in noncash valuation items for JUUL and Cronos.

Liquidity, debt and capital returns

• At June 30, cash and cash equivalents were $1.877 billion and total debt was $28.241 billion, compared with $4.945 billion of cash and $29.471 billion of debt at year-end 2020. Current liabilities exceeded current assets; management said it expects to fund working-capital deficits with operating cash flow and access to credit and capital markets.
• Altria issued $5.5 billion of long-term notes in February, repurchased $4.042 billion principal in debt tender offers, redeemed $1.0 billion of notes, and repaid $1.5 billion of notes at maturity in May. The transactions reduced near-term maturities and extended weighted-average debt maturity. The weighted-average coupon on long-term debt was 4.0%, versus 4.1% at year-end.
• The company had $3.0 billion available under its revolving credit agreement and reported a 9.7-to-1.0 covenant EBITDA-to-interest ratio, above the 4.0-to-1.0 minimum; it was in compliance. Credit ratings and outlooks were Moody’s A3/Stable, S&P BBB/Stable and Fitch BBB/Stable for long-term debt.
• First-half dividends paid were $3.196 billion. The annualized dividend rate was $3.44 per share; the stated long-term payout objective is approximately 80% of adjusted diluted EPS. Altria repurchased $650 million of shares in the half, with $1.35 billion remaining under its $2.0 billion authorization at June 30.

Outlook, risks and unusual items

• Management narrowed 2021 adjusted diluted EPS guidance to $4.56–$4.62, implying 4.5%–6.0% growth over 2020 adjusted EPS of $4.36. The outlook includes expected effects of the proposed wine sale and planned smoke-free product investment. Adjusted effective tax-rate guidance was 24.5%–25.5%. Guidance excludes certain potentially significant, variable items; the filing does not provide a corresponding GAAP EPS forecast.
• Management cited economic conditions, inflation, consumer income and purchasing patterns, regulatory and excise-tax developments, COVID-19 and variants, and alcohol-asset contributions as factors that could affect the outlook. It reported no material COVID-related disruption to tobacco operations or supply chains to date, while continuing to monitor risks.
• Key regulatory and legal exposures include tobacco product litigation and state settlement payments; FDA product authorizations and possible restrictions on flavors, nicotine and marketing; and extensive JUUL-related litigation. The FTC’s administrative challenge to Altria’s 35% JUUL investment had completed trial, with post-trial briefing due in October 2021; potential remedies include divestiture or rescission. Altria reported 2,626 U.S. e-vapor-related cases as of July 26, 2021. Management generally said pending-case losses were not considered probable and could not be reasonably estimated, while warning that adverse outcomes could materially affect results or cash flows.
• In separate IQOS patent proceedings, an ITC administrative law judge found infringement and recommended import restrictions; the ITC accepted review in July 2021. PM USA delayed further IQOS and Marlboro HeatSticks expansion pending the litigation. Altria also disclosed ongoing SEC and other government investigations relating to the JUUL investment.
• Altria’s ABI investment had a June 30 fair value of $14.2 billion versus a $17.2 billion carrying value, a roughly 17% shortfall. The company judged the decline temporary and recorded no impairment; a further decline considered other-than-temporary could materially affect earnings or financial position. JUUL’s carrying value was $1.605 billion, measured using significant unobservable assumptions.
• Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.

Important facts for investors to verify

• Whether full-year adjusted EPS guidance of $4.56–$4.62 is achieved, and how much future growth depends on pricing versus shipment volumes.
• Progress on the Ste. Michelle sale, including financing, regulatory approval, closing proceeds and the proposed use of proceeds for additional repurchases, which would require Board authorization beyond the existing program.
• Developments in the FTC/JUUL proceedings, JUUL-related litigation and valuation assumptions, as well as FDA decisions on on! and JUUL product applications.
• Results of the ITC review and any impact on IQOS importation, sales or planned expansion.
• Tobacco settlement and FDA user-fee costs, litigation outcomes and the company’s ability to maintain cash generation, dividends and debt-market access. Altria estimated these settlement and user-fee charges at an average of $4.5 billion annually for the next three years, excluding potential NPM adjustment items.
• Whether ABI’s market value recovers toward carrying value and whether the investment’s decline continues to be considered temporary.