Altria: Smokeless Tobacco Big Hit

The following commentary comes from an independent investor or market observer as part of TheStreet's guest contributor program, which is separate from the company's news coverage.

NEW YORK (Trefis) -- Altria Group(MO) had a pretty good 2011 as the stock gained more than 20%.

It was a fantastic year for the tobacco industry with Altria, Lorillard(LO) and Reynolds American(RAI), the three biggest tobacco companies by market capitalization, outperforming the broader indices significantly.

We believe Altria, which is scheduled to announce its fourth-quarter earnings on Thursday, has a diverse portfolio of products with a potential for further upside.

We have a $31 price estimate for Altria , about 10% above the market price.

See our complete analysis of Altria stock here.

The company's most important division apart from cigarettes is the smokeless tobacco segment. These products are generally perceived to be less harmful than cigarettes and can be consumed in non-smoking areas. Altria is well positioned to increase its market share in this fast growing segment, and we expect the size of smokeless products to grow at an annual rate of 7% over the next few years.

Altria operates in the smokeless tobacco segment through Copenhagen, Skoal and Red Seal. These are also a hit with the retailers as they enjoy margins as high as 30%. According to our estimates, the smokeless tobacco products constitute 15% of the stock price. Another important factor that is important for the profitability for the company is that this segment attracts much lower excise duty than cigarettes and thus enjoy high EBITDA margins.

Besides the smokeless tobacco products, wine and cigars have also done well in 2011, especially in third quarter, with both of them witnessing higher revenues and earnings. Their contribution to the overall stock price is relatively small but an increased focus on these segments in the coming years could see them contributing much greater.

The company also has a 28% stake in SABMiller Plc, one of the world's largest breweries. SABMiller has performed well over the years and income recorded on Altria's income books due to this stake adds a certain degree of stability to the overall profits.

Strong Pricing Power

Altria increased the prices of its cigarettes brands by 5 cents in the second half of December. Cigarette consumption is declining in the U.S. due to stringent regulatory environment which imposes high taxes on cigarettes. Hence, cigarette companies are left with no choice but to increase the prices frequently to make up for the declining volumes.