Monday, February 12, 2007
Trendy and profitable
Trendy and profitable
Cigarettes. Known as the killer of millions worldwide each year but still consumed at regular intervals throughout the day by its addicts, cigarettes and their manufacturers are finally coming back to “investment grade.”
You would think, that a product with the reputation like that of a cigarette would have to be given away for free in order to get people to use them. In the US, smoking is being outlawed in public places city by city, more and more taxes are applied each year to retail price and part of the cigarette company’s marketshare dies each year because of cigarettes yet the price of the manufacturer’s stock couldn’t be in a better position.
Altria, formerly Phillip Morris, has announced that it will spin off its Kraft Foods unit (which it purchased just a few years ago) to return to a 100% tobacco product manufacturer. This is certainly interesting news. How could a tobacco company survive on its own when the consumer base dwindles each year? Even grade school children are subjected to antismoking lectures at least 2-3 times a year by programs such as DARE or various other anti-drug programs. The tobacco industry must have something up their sleeve.
It is also worth noting that the leading tobacco stocks have outperformed the S&P 500 for the last 6 years. Also, Altria is the best performing stock of all time when including dividend reinvestments. This is surely something that cannot go ignored.
So why are these stocks performing so well?
Product
There is not a chance that a new and improved cigarette will come out to replace the current products. Smokers have no other way to get their nicotine buzz but from a cigarette, unless they really like nicorette gum 
Addiction
Stopping smoking is relatively easy, that’s why each smoker tries it 10-15 maybe even 100 times. (That was a joke) Nicotiene addiction is a serious issue that goes farther than just a desire to smoke. Cigarettes could easily be the only legal product that leaves a user in severe disrepair when the cigarette is not available to a craving smoker. These withdraw symptoms are surely the reason for such high rates of smoking because when health risks are compared to the buzz achieved from smoking, most smokers would probably rather not smoke.
Production
The production of tobacco and then cigarettes is extremely cheap. No R&D spending will ever be needed to sustain a tobacco company because simply cigarettes can’t and won’t change. They haven’t for decades. There is already a market in place for cigarettes that won’t soon disappear.
Pricing
We’ll pay whatever it costs to get what we want. When gas topped $3 in the United States I saw no real slowdown in driving but in just one instense where I saw a biker with the words “Hey at least I’m doing something about it” written across his back. If cigarettes jumped $1 per pack for every brand the amount of consumption would stay the same. Cigarette smokers can only change brands, they can’t just go buy something else to get their fix.
Lawsuits
Lawsuits over health issues stemming from smoking dominated the airwaves in the late 90s and into the 2000s but the majority of these cases have been settled and judges and jurors alike have become less likely to hand out money to smokers. The mindset of “you chose to smoke” has finally settled in. The lawsuit era is hopefully coming to a close. I’m sure we’ll see less and less tobacco related lawsuits in the years to come.
After dumping Kraft, Altria has plenty of money to both buyout competitors and to invest in other areas to keep their money working. The money generated from the sale of Kraft will probably be used to fund further investment into the cigarette marketplace. If one company controls a majority of cigarette production, they can raise prices as much as they want because most smokers won’t live without a smoke.
Smoking is becoming more and more accepted in emerging markets outside the US and Europe where the amount of smokers is dwindling. There are millions of smokers in China, an estimated 300 million. Even in the US, there are 45 Million smokers, or 15% of the population.
Expect nothing but the best of returns from Altria and various other cigarette manufacturers. These companies will not be replaced any time soon. Smoking is here to stay because of the addictive qualities of tobacco. The best way to profit from this “evil” is to take stake in the companies. I see no shortage of oversized earning reports in the future.