Analysts: Altria's Juul Stake A Good Hedge, But Lack Of Control Presents Risks

Altria Group Inc MO announced a $12.8-billion minority stake in Juul Thursday.

The stock has fallen since traders began digesting the deal, but many analysts maintain that the investment improves Altria’s positioning in a tough regulatory environment as consumer preferences shift.

Deal Reflects Changing Nicotine Trends

“An investment in JUUL gives Altria exposure to a fast-growing product, creates a hedge for its cigarette business — which is facing competition from JUUL — and could enhance Altria's ability to preserve the U.S. cigarette/nicotine profit pool by having greater influence over reduced-risk competitive dynamics,” Morgan Stanley analyst Pamela Kaufman said in a note.

“Altria will also benefit from JUUL's international expansion.”

Wells Fargo similarly said the deal will be a long-term positive by offsetting risk from cigarette sales declines and putting Altria in the lead in next-generation smoking technology.

“On a very high level, we remain very bullish on the global nicotine volume/profit pool and continue to anticipate growth of this pool to accelerate as new users and dual usage of reduced risk products increases,” analyst Bonnie Herzog said in a note.

“As such, we believe the company that has (or has a stake in/access to) the leading reduced risk brands/technologies will ultimately benefit from this global trend by taking the most incremental share over the next decade-plus.”

Bank of America Merrill Lynch called the investment forward-thinking and said Altria’s balance sheet can handle both the Juul and Cronos Group Inc CRON deals, particularly as cost-reduction programs offset the price.

A Half-Baked Strategy?

The 35-percent debt-funded stake comes at a high cost, according to Morgan Stanley. The buy-in value — representing more than twice Juul’s $16-billion value last summer — suggests dubious strength in a company suffering regulatory restrictions and low international barriers to entry, in the sell-side firm's view.

Citigroup maintains similar concerns.

“We suspect this is destroying value, but it is impossible to be sure because Altria has not revealed any financial details, despite the scale of the investment,” analyst Adam Spielman said in a note.

“Altria says it’s a tech-style multiple. Trouble is, investors own Altria for predictability and cash. If they want tech-style growth and risk, surely they’d want to pick their own stock?”

Wells Fargo concedes that Juuls could detract from IQOS, sales but does not see a formidable rivalry emerging.

“While we do have some concerns about this and we think to some extent JUUL could more aggressively compete with iQOS in the U.S. and internationally, we ultimately believe the two technologies can coexist by appealing to different demographics and could result in a fair amount of dual usage."

Limited, Undermined Influence

Analysts raised additional concerns that Altria does not yet hold a controlling interest in Juul and cannot increase its investment for six years.

“While JUUL offers Altria a hedge to its cigarette business and exposure to a rapidly growing e-vapor product, we see risk in Altria's lack of operating control and potential for further FDA regulation,” Morgan Stanley said “ ... We see risk in Altria providing strategic support to a formidable competitor which will continue to operate autonomously.”

Citigroup agreed that supporting the rival will weaken Altria’s brand and core business.

“It allows Juul to directly contact Altria’s current consumers, to try to persuade them to switch from Marlboro to Juul,” the firm said. “Juul retains autonomy, so it won’t become a more friendly competitor.”

What The Stake Really Means

Overall, Citigroup interprets the Altria's investment as a concession that the market will shift from cigarettes to non-combustible products.

“Altria is effectively signaling it is doubtful about the future of its core business,” the research firm's note said. “ ... We’re not sure we agree; even so this undermines confidence.”

Ratings

• Bank of America Merrill Lynch maintained a Buy rating with a $65 price target.
• Citigroup downgraded Altria from Neutral to Sell and cut its price target from $67 to $45.
• Morgan Stanley maintained an Equal Weight rating with a $54 target.
• Wells Fargo maintained an Outperform rating with a $65 target.

Related Links:

Analysts: Altria And Cronos Make A Good Team

Analysts Weigh In On The FDA's Position On E-Cigarettes, Menthols