Altria Group, Inc. — Q2 2013 Form 10-Q
Reporting period: Three and six months ended June 30, 2013; unaudited. Altria’s businesses include U.S. smokeable and smokeless tobacco products, wine, finance leases and an approximately 26.8% equity-method investment in SABMiller.
Financial results
| Metric | Q2 2013 | Q2 2012 | Six months 2013 | Six months 2012 |
|---|---|---|---|---|
| Net revenues | $6.305B | $6.487B | $11.833B | $12.134B |
| Operating income | $2.001B | $1.877B | $4.153B | $3.519B |
| Net earnings attributable to Altria | $1.266B | $1.225B | $2.651B | $2.420B |
| Diluted EPS | $0.63 | $0.60 | $1.32 | $1.19 |
| Dividends declared per share | $0.44 | $0.41 | $0.88 | $0.82 |
Net revenues include excise taxes billed to customers. Reported gross profit was $2.554B in Q2 and $5.228B for the first half; reported operating margins were approximately 31.7% and 35.1%, respectively. The first-half effective tax rate was 35.5%, versus 34.1% a year earlier.
- Cash flow: Operating cash flow was $570M for the first half, compared with cash used of $85M in 2012. Investing activities provided $239M; financing activities used $1.138B. Capital expenditures were $41M.
- Liquidity: Cash and equivalents were $2.571B at June 30, down from $2.900B at year-end. Current assets were $5.860B and current liabilities $7.070B; management reported a working-capital deficit and said it expected to fund it from operating cash flow and/or short-term borrowing capacity.
- Debt: Total debt was $14.9B, up from $13.9B at year-end; cash less debt implies net debt of approximately $12.3B. The company issued $1.0B of notes in May: $350M at 2.95% due 2023 and $650M at 4.50% due 2043. Its $3.0B revolving credit facility was undrawn. Credit-agreement leverage and interest-coverage ratios were 1.8x and 8.0x, respectively, against limits of 3.0x maximum and 4.0x minimum.
Changes and business drivers
- First-half operating income rose 18.0% and net earnings rose 9.5%, despite a 2.5% revenue decline. Q2 operating income increased 6.6% and net earnings 3.3%, while revenue declined 2.8%.
- A key earnings driver was a $519M reduction in smokeable-products cost of sales from the NPM adjustment settlement: $483M credited against the April 2013 MSA payment and $36M expected as a credit against the 2014 payment. The first-half EPS bridge attributed $0.16 per share to this settlement.
- Smokeable-products operating companies income increased $567M for the first half, including the settlement credit and higher pricing, but cigarette shipments fell 6.0%; Marlboro shipments fell 6.4%. PM USA’s total cigarette retail share gained 0.4 percentage points. The shipment decline was attributed partly to industry contraction, calendar and inventory effects.
- Smokeless-products revenue increased 5.2% and operating companies income 13.9% in the first half, supported by volume and pricing. Total shipment volume rose 4.0%; Copenhagen and Skoal combined retail share gained 0.6 percentage points.
- Wine revenue grew 9.1% and operating companies income 21.6% in the first half, primarily on higher volume; shipments rose 8.6%.
- SABMiller equity earnings fell 35.0% in the first half, mainly because the 2012 comparison included $342M of non-cash strategic-alliance gains. The carrying value of the investment declined to $6.502B from $6.637B, and Altria recorded a $402M after-tax SABMiller-related other comprehensive loss.
Outlook, risks and unusual items
- Guidance: In July 2013, Altria forecast full-year reported diluted EPS of $2.51–$2.56 and adjusted diluted EPS growth of 7%–9% over 2012 adjusted EPS. Reported guidance includes an estimated net benefit of $0.15 per share from specified items, primarily the NPM settlement. Adjusted EPS is a non-GAAP measure; results remain subject to the filing’s stated risks.
- Management said its 2011 cost-reduction program was substantially complete and remained on track to deliver $400M in annualized savings versus previously planned spending by year-end 2013.
- Management targeted a dividend payout ratio of approximately 80% of adjusted diluted EPS; the annualized dividend rate was $1.76 per share. A new $300M repurchase program was authorized, with completion expected by year-end 2013, subject to board discretion and market conditions.
- Litigation: Tobacco-related cases, including Engle progeny matters and class actions, remain a significant contingency. Management did not consider losses probable or reasonably estimable for pending tobacco cases generally and recorded no general provision for them; it cautioned that adverse outcomes could materially affect results, cash flows or financial position in a particular period. Recorded accrued tobacco-judgment liability was $6M at June 30. PM USA had posted about $39M of security for appealed judgments.
- Regulation and industry risks: FDA authority and potential rules, tobacco excise taxes, declining cigarette consumption, competition and down-trading, illicit trade, and tobacco-leaf cost or supply changes could pressure sales and margins. FDA’s preliminary evaluation of menthol cigarettes was released in July 2013 for public comment; future regulatory action was uncertain. Nu Mark planned to introduce MarkTen e-cigarettes in August 2013.
- Other notable comparisons include the absence of the prior-year $68M PMCC leveraged-lease tax benefit and the prior-year SABMiller special gains. First-half 2012 operating cash flow also included a $456M IRS-related payment.
Most important facts for investors to verify
- How much of 2013 earnings growth is attributable to the nonrecurring NPM settlement credit, and whether remaining settlement credits or disputes change future MSA costs.
- Whether cigarette shipment declines, discounting, and tobacco-category contraction continue, and whether retail-share gains offset volume pressure.
- Progress toward the $2.51–$2.56 reported EPS forecast and 7%–9% adjusted EPS growth target, including the reconciliation of non-GAAP adjusted EPS.
- Debt maturities, refinancing needs, liquidity and dividend capacity given the working-capital deficit and ongoing settlement payments.
- Developments in tobacco litigation, FDA and menthol regulation, excise-tax proposals, and related potential financial exposure, which the filing says is not generally estimable.