NEW YORK (TheStreet) -- The tobacco industry is undergoing a transformation. Cigarette sales, the bulk of revenues, are decreasing by volume, while smokeless tobacco and e-cigarette volumes are increasing.
Tobacco companies are still increasing revenues on cigarette sales, even as volume decreases (for every 10% increase in price, cigarette sales volume only decreases 3%-to-5%), but how long can that last?
Three companies, Altria (MO), Philip Morris (PM), and Reynolds American (RAI), (which is set to merge with Lorillard in a $27 billion deal), control 85% of the domestic tobacco industry, with Altria being the leading company.
So what are the best tobacco companies investors should be buying? Here are the top three, according to TheStreet Ratings, TheStreet's proprietary ratings tool.
TheStreet Ratings projects a stock's total return potential over a 12-month period including both price appreciation and dividends. Based on 32 major data points, TheStreet Ratings uses a quantitative approach to rating over 4,300 stocks to predict return potential for the next year. The model is both objective, using elements such as volatility of past operating revenues, financial strength, and company cash flows, and subjective, including expected equities market returns, future interest rates, implied industry outlook and forecasted company earnings.
Buying an S&P 500 stock that TheStreet Ratings rated a "buy" yielded a 16.56% return in 2014 beating the S&P 500 Total Return Index by 304 basis points. Buying a Russell 2000 stock that TheStreet Ratings rated a "buy" yielded a 9.5% return in 2014, beating the Russell 2000 index, including dividends reinvested, by 460 basis points last year.
Check out which three tobacco companies made the list. And when you're done be sure to read about which mid-cap oil companies to sell now. Year-to-date returns are based on May 1, 2015 closing prices. The highest-rated stock appears last -- read more to see which one is No. 1.
MO data by YCharts
3. Altria Group, Inc. ( MO)
Rating: Buy, B+
Market Cap: $99.7 billion
Year-to-date return: 2.8%
Altria Group, Inc., through its subsidiaries, manufactures and sells cigarettes, smokeless products, and wine in the United States and internationally.
"We rate ALTRIA GROUP INC (MO) a BUY. This is driven by multiple strengths, which we believe should have a greater impact than any weaknesses, and should give investors a better performance opportunity than most stocks we cover. The company's strengths can be seen in multiple areas, such as its revenue growth, notable return on equity, expanding profit margins, good cash flow from operations and solid stock price performance. We feel these strengths outweigh the fact that the company has had generally high debt management risk by most measures that we evaluated."
Highlights from the analysis by TheStreet Ratings Team goes as follows:
- The revenue growth came in higher than the industry average of 23.1%. Since the same quarter one year prior, revenues slightly increased by 6.6%. This growth in revenue does not appear to have trickled down to the company's bottom line, displayed by a decline in earnings per share.
- The company's current return on equity greatly increased when compared to its ROE from the same quarter one year prior. This is a signal of significant strength within the corporation. Compared to other companies in the Tobacco industry and the overall market, ALTRIA GROUP INC's return on equity significantly exceeds that of both the industry average and the S&P 500.
- The gross profit margin for ALTRIA GROUP INC is rather high; currently it is at 58.97%. It has increased from the same quarter the previous year. Along with this, the net profit margin of 23.82% is above that of the industry average.
- Net operating cash flow has increased to $2,498.00 million or 17.55% when compared to the same quarter last year. The firm also exceeded the industry average cash flow growth rate of -31.46%.
- ALTRIA GROUP INC's earnings per share declined by 11.9% in the most recent quarter compared to the same quarter a year ago. This company has reported somewhat volatile earnings recently. But, we feel it is poised for EPS growth in the coming year. During the past fiscal year, ALTRIA GROUP INC increased its bottom line by earning $2.57 versus $2.26 in the prior year. This year, the market expects an improvement in earnings ($2.81 versus $2.57).
- You can view the full analysis from the report here: MO Ratings Report