Is Altria Group a Buy?

After hitting a six-year low this spring, shares of Altria Group (NYSE: MO) have clawed their way back, gaining 15% in the process. Although they still trade below their 52-week high and remain well off the all-time high achieved in 2015, the tobacco giant looks like it's making a comeback.

But with cigarette consumption declining and next-generation products facing some difficult hurdles, let's look at whether investors should consider Altria a buy.

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Maintaining profit

Second-quarter revenue fell 5.4% because cigarette sales net of excise taxes dropped 4.8% to $4.1 billion. Because smokeable products account for 86% of total revenue, any downdraft is going to be magnified.

Yet smokeable products also account for almost all of Altria's operating profit (also 86%), as the tobacco company has made an art out of extracting maximum leverage from this declining business. When taxes on its products are increased, the inelasticity of demand (meaning that smokers continue to pay higher prices for cigarettes) allows Altria to raise prices in response and continue being very profitable.

Still, operating income was down for the second quarter due to declining volumes, particularly with its flagship Marlboro brand, which saw shipment volumes tumble 10% in the period as there was further erosion in its market share. Altria is also getting pressured from the value end of the scale: Its discount segment witnessed an 18.5% plunge in shipments. With other premium brands also down more than 9%, it was an across-the-board rout for the tobacco company.

Hurdles ahead

The Food and Drug Administration (FDA) is also considering proposals like mandating a reduction of nicotine in cigarettes, which Altria says could cost thousands of jobs, along with banning or limiting menthol cigarettes.

It wasn't much better on the smokeless front, either, with total shipments down 2.4% as Skoal dropped over 9%. While its innovative products division (which includes its MarkTen and Green Smoke electronic cigarette brands) saw volumes rise 16% in the quarter, new regulatory concerns are future challenges.

The FDA has warned e-cig manufacturers like Altria, British American Tobacco (NYSE: BTI), Imperial Brands (NASDAQOTH: IMBBY), Juul Labs, Philip Morris International (NYSE: PM), and Japan Tobacco (NASDAQOTH: JAPAF) that they need to do a lot more to limit the ability of teenagers to gain access to their products, or the regulatory agency will do it for them -- which might include pulling all their products off store shelves.

It's not an idle threat; the FDA is bringing the hammer down on a number of retailers caught selling e-cigs to underage buyers. Over 1,300 businesses have been warned or fined for failing to enforce the law. So although e-cigs might be a growth avenue for the tobacco companies, they have the potential to hit a roadblock.

Some bright spots

The one area Altria did see some progress in is its wine portfolio. It enjoyed a near-12% jump in revenue net of excise taxes due to higher shipments, helping adjusted operating profits to rise 8% year over year. Unfortunately it is Altria's smallest segment, contributing just $166 million, or 2.6% of the total.

Its 10% stake in Anheuser-Busch InBev (NYSE: BUD) also continues to contribute to earnings, some $88 million in the latest period. But that's down year over year due to the brewer's acquisition of SABMiller and some special items A-B took.

The verdict

At 14 times trailing earnings and 16 times this year's estimates, Altria is running below the broad market's valuation but in line with its peers. And considering it's not in a high-growth business (nor a slow-growth one, for that matter), it's tough to say that the tobacco company is undervalued.

However, despite the doubts hovering over its next-gen products, they do offer a glimmer of hope for Altria, particularly if Philip Morris' heat-not-burn product gets marketing approval, as the device will be brought to market under the Marlboro brand.

Also, Altria has shown itself to be a master at extracting profits from its business all the while paying an enticing dividend that yields 5.2% at current prices. Income-seeking investors could certainly benefit with Altria in their portfolio, and even those looking for capital appreciation might find comfort as Altria churns out profitable returns.

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Rich Duprey has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Anheuser-Busch InBev NV. The Motley Fool has a disclosure policy.