Behemoth tobacco companies Philip Morris (PM) and Altria (MO) might be getting back together after separating more than a decade ago. Both companies confirmed that they’re discussing a potential all-stock merger. However, they also cautioned that there’s no assurance they will reach an agreement from their ongoing discussions.
Altria spun off Philip Morris in 2008. PM had strong growth prospects in the international market as an individual entity. These two companies share many popular brands—like Marlboro, which Altria sells in the US market while Philip Morris caters to international demand.
Philip Morris stock fell 7.4% as of 2:34 PM ET today. After rising earlier in the day, Altria stock was down 3.5%.
Declining sales are a key factor
The decline in cigarette sales is a key factor bringing the two companies together. Cigarette shipments have been falling due to growing health concerns. Also, stringent regulations against smoking in several countries have affected cigarette sales. Altria expects the domestic cigarette industry volume to fall 5%–6% in 2019. Adult smokers’ shift to the e-vapor or vaping category is expected to drive a decline in cigarette volumes.
Also, Altria expects domestic cigarette industry volume to fall at an annual average rate of 4%–6% through 2023. Altria also expects the increase in the legal age to purchase tobacco products to 21 to hurt cigarette volumes.
To address the impact of lower cigarette volumes, Altria is seeking growth opportunities in the cannabis and e-cigarette market. Altria bought a 35% stake in leading e-cigarette maker JUUL for $12.8 billion. But JUUL has faced heavy criticism for teens’ higher e-cigarette use. The US Centers for Disease Control and Prevention recently started investigating illness allegedly caused by vaping.
Altria also acquired a 45% stake in Cronos Group for $1.8 billion. The deal should help Altria capture the rapidly growing demand for cannabis products.
Philip Morris is driving top-line growth through the sale of IQOS, a smoke-free tobacco heating system. According to the company’s estimates, about 8.0 million adult smokers worldwide have quit smoking and switched to IQOS. In April, the FDA authorized the sale of the IQOS system in the US. Philip Morris has a licensing agreement with Altria’s subsidiary Philip Morris USA to commercialize IQOS. Under this agreement, Philip Morris USA will sell IQOS in the US with three HeatStick variants.
Recent results from Philip Morris and Altria
Philip Morris’s second-quarter revenue declined 0.3% to $7.70 billion. Excluding currency headwinds, the company’s revenue grew 5.4%. In Q2, Philip Morris’ cigarette shipment volume fell 3.6%. In contrast, shipments of heated tobacco units surged 37%. Overall, the company’s shipment volumes fell 1.4%. Adjusted EPS increased 3.5% to $1.46. Higher operating margins, reduced interest expenses, and lower taxes drove the growth in the company’s bottom line. Philip Morris expects EPS of at least $4.94 in 2019, compared to $5.08 in 2018.
Altria’s Q2 revenue rose 5.0% to $6.62 billion. Net of excise taxes, revenue grew 6.4% to $5.19 billion. Higher pricing of smokeable products drove the top-line growth in Q2. Meanwhile, Altria’s adjusted EPS grew 8.9% to $1.10. Higher adjusted operating income from the smokeable and smokeless products segments, improved adjusted earnings from Altria’s equity investment in ABI, and lower spending boosted earnings. Altria expects its 2019 adjusted EPS to grow 4%–7% to $4.15–$4.27.
As of August 26, Philip Morris stock had risen 16.4% year-to-date. Altria stock, meanwhile, was down 4.6%. Stay tuned for further updates on the Philip Morris–Altria merger talks.