In 2008 and 2009, during the heat of the financial crisis, Altria sold off its real estate divisions, and then spun off Kraft to its existing shareholders, and followed this move with the subsequent divestiture of Philip Morris International.
It was an eyebrow-raising move because the 1970s tobacco executives believed that the sale of cigarettes would eventually come to an end in the United States, so the obvious response was to load up on food companies that would serve as a bridge of shareholder continuity when the tobacco music stopped (most notably, the old Philip Morris acquired Kraft and the the old Reynolds acquired Nabisco).
Altria decided in 2008 that it wanted to become a pure-play American tobacco manufacturer and chose to divest of everything but its American tobacco brands, a 10.2% ownership stake in what is now Anheuser-Busch Inbev, and a small random winery that accounts for 0.4% of the company’s annual profits.
At the time of these divestitures and spinoffs, Altria was trading at $15 per share and paying out a dividend of $1.32 per share. The dividend yield was 8.8%. It was a very unique investing moment where a global crisis intersected with uncertainty of the future for a business that largely relied on shipments of Marlboro and related brands which were selling 3.5% fewer packs of cigarettes each year.
So what happened over the ensuing decade?
For the investor that held onto his shares, he was unexpectedly rewarded with 8.5% earnings per share growth matched symmetrically by 8.5% annual dividend growth. Growth in Anheuser-Busch dividends, the rise of various electronic gadgets that septupled in size, 6% annual price hikes in the price of tobacco, and a brief stretch between 2014 and 2016 in which smoking volumes actually increased by 1% rather than participating in the slow gradual decline, meant that the Altria shareholders that owned through the transition earned ridiculous amounts of cumulative dividends.
The per share dividends have been as follows:
$2.90 (2018, estimated at time of writing)
That is $19.94 per share in total dividends over the past decade. Altria shareholders have collected more than $13,000 in dividends for every $10,000 they had invested in the American tobacco-maker a decade ago.
My contention is that Altria has done so well over this time, in part, because its management team did not run from risk of a pure play company in a single domestic economy. Oftentimes, when a product faces technological, regulatory, or cultural obsolescence, the company responds by gobbling up unrelated business lines and trying to get as big as possible because it feels safer and less risky to be a part of a gigantic conglomerate-ish enterprise. In fact, the old Philip Morris did just that prior to 2008.
The problem with trying to “diversify away” the risk of a given product line under siege is that diversifying is not actually any effort to stop the “siege” but rather to water down the effects of the “siege” at the parent entity level.
Post spin off, Altria management was by and large stuck with the Marlboro brands. It couldn’t hide behind the shield of diversification, so instead, it strategically established dominance at gas stations across America by agreeing to special inventory terms, aggressively struck deals with small tobacco-shop operators to give prime space to Virginia Slims, and engaged in testing by which it would gradually reduce the nicotine levels in Marlboro cigarettes so that it could implement health changes at its own direction instead of that of the Food & Drug Administration. If the old Philip Morris were still intact, I’m not sure this response would have occurred because the effort would have been dedicated to diversifying the parent entity so that it could absorb the decline rather than dedicating resources to fighting the decline itself.
When a corporate spin-off occurs, the boilerplate conventional wisdom about the divested company being more focused is valid because all retained profits are directed to addressing the needs of the company rather than maximizing the wealth at the former parent entity’s level.
When Colgate-Palmolive came up with the Hill’s Pet Foods subsidiary in the 1980s, it was a slow-growing, barely profitable mess that was dedicated to pet foods that treated cat and dog obesity. After a decade of almost no growth, Colgate-Palmolive prepared to spin off the unit. While the management team was preparing to be its own unit, it began to launch “healthy pet food” rather than just “obesity treatment pet food”. As a result, the market of pet owners interested in Hill’s products greatly expanded, and Colgate-Palmolive cancelled the scheduled spinoff.
Austrian economist Friedrich Hayek often spoke in terms of getting resources into the hands of those who can put ownership of assets to the highest and best use. Diversified business lines carry the advantage of keeping one’s head above water during recessions, but also carry the disadvantage of not addressing the problems of a particular subsidiary as though the corporate life depended upon it. When a company becomes a pure play, you can have greater confidence that resources will be directed towards the highest and best use for the enterprise–i.e. addressing the business problem head-on rather than pursuing a strategy of mitigation in the back room.