Altria Group, Inc. — Q1 2016 Form 10-Q
Reporting period: Three months ended March 31, 2016. Unaudited results; comparisons are with Q1 2015 unless otherwise noted. Altria’s businesses include U.S. tobacco, wine and finance assets; it also held approximately 27% of SABMiller.
Financial performance
| Metric | Q1 2016 | Q1 2015 | Change |
|---|---|---|---|
| Net revenues | $6.066 billion | $5.804 billion | +4.5% |
| Gross profit | $2.656 billion | $2.475 billion | +7.3% |
| Operating income | $1.977 billion | $1.865 billion | +6.0% |
| Net earnings attributable to Altria | $1.217 billion | $1.018 billion | +19.5% |
| Diluted EPS | $0.62 | $0.52 | +19.2% |
| Operating cash flow | $2.689 billion | $2.498 billion | +7.6% |
| Capital expenditures | $26 million | $48 million | Down $22 million |
| Dividends declared per share | $0.565 | $0.52 | +8.7% |
Margins: Gross margin was approximately 43.8% versus 42.6%; operating margin was 32.6% versus 32.1%; net margin attributable to Altria was 20.1% versus 17.5%. These calculations use reported net revenues, which include excise taxes.
Cash flow and liquidity: Operating cash flow less capital expenditures was approximately $2.663 billion, compared with $2.450 billion a year earlier. Cash increased to $3.815 billion from $2.369 billion at year-end. Current assets were $7.498 billion and current liabilities $8.616 billion, a working-capital deficit of approximately $1.118 billion; management said it expected to fund working-capital needs from operating cash flow and/or commercial paper.
Debt: Total debt was approximately $12.9 billion, including $12.846 billion of long-term debt and $4 million current maturities. The $3.0 billion revolving credit facility was fully available, with no short-term borrowings. Credit ratings were upgraded by Moody’s and S&P during the quarter. Covenant ratios were 1.4x debt to EBITDA and 12.4x EBITDA to interest expense.
Segment performance and changes
- Smokeable products: Revenue increased 3.8% to $5.422 billion and operating companies income increased 3.9% to $1.751 billion, primarily on pricing. Reported shipment volume rose 1.2%, while management estimated underlying domestic cigarette volume declined approximately 0.5% after adjusting for shipping days, inventory and other factors. Cigarette retail share increased 0.3 percentage point to 51.4%; Marlboro share remained 44.0%.
- Smokeless products: Revenue increased 11.4% to $479 million and operating companies income increased 11.6% to $280 million. Reported shipment volume rose 7.8%; management estimated adjusted domestic volume growth of approximately 3%. Total retail share increased 0.2 percentage point to 55.1%.
- Wine: Revenue rose 8.2% to $145 million and operating companies income rose 3.7% to $28 million. Shipment volume increased 8.1%, partly reflecting the timing of Easter.
- Consolidated operating income increased despite $122 million of productivity-initiative charges. Lower 2015 debt-extinguishment costs and higher operating income helped lift reported EPS; lower SABMiller equity earnings partly offset the increase.
Outlook, unusual items and risks
- Management reaffirmed 2016 adjusted diluted EPS growth guidance of 7%–9% over 2015 adjusted diluted EPS, excluding specified special items, and forecast an approximately 35.3% effective tax rate on operations. These non-GAAP outlook measures were not reconciled to GAAP.
- A productivity initiative is expected to generate approximately $300 million in annualized savings by the end of 2017. The company expected about $140 million in total pretax restructuring charges, substantially all in 2016; $122 million was recorded in Q1.
- The proposed AB InBev–SABMiller combination was subject to shareholder and regulatory approvals. If completed, Altria expected approximately $2.5 billion pretax cash and an approximately 10.5% interest in the combined company, and estimated a one-time gain of about $12 billion pretax, or $8 billion after tax. Actual consideration and gain could vary; the transaction was excluded from guidance.
- Q1 results included a $40 million pretax gain on a GBP put option related to the SABMiller transaction. SABMiller equity earnings included $166 million of Altria’s share of SABMiller special charges, primarily impairment costs.
- Material risks include tobacco product liability and other litigation, regulation and possible excise-tax increases, declining cigarette-industry volume, competitive and consumer shifts, and uncertainty around MSA nonparticipating-manufacturer adjustment disputes. The filing states that management could not estimate possible losses for pending tobacco-related cases generally where losses were considered reasonably possible but not probable. Accrued settlement charges were $4.760 billion at March 31, 2016, up from $3.590 billion at year-end.
- Altria expected approximately $4.9 billion annually in State Settlement Agreement and FDA user-fee charges to cost of sales in 2016 and thereafter, based on stated assumptions; actual amounts are variable. The company also disclosed a new patent-infringement suit against Nu Mark concerning e-vapor products.
Investor verification priorities
- Reconcile GAAP EPS growth with the filing’s special-item adjustments and confirm the assumptions underlying 7%–9% adjusted EPS guidance.
- Track cigarette and smokeless category volumes, share trends, pricing, and whether reported shipment growth reflects underlying consumer demand or inventory and timing effects.
- Review the composition, expected payment timing and sensitivity of the $4.760 billion accrued settlement charges, as well as developments in MSA/NPM disputes.
- Monitor tobacco litigation outcomes, appeals, bonding requirements and potential exposure not accrued because losses could not be estimated.
- Verify AB InBev–SABMiller closing conditions, proration, foreign-exchange exposure, tax treatment and the eventual value and accounting for Altria’s consideration.
- Assess execution of the productivity program, restructuring cash costs, and the company’s liquidity and dividend capacity given the working-capital deficit and debt load.