Good day, and welcome to the Altria Group 2018 4th Quarter and Full Year Earnings Conference Call. Today's call is scheduled to last about 1 hour including remarks by Altria's management and a question and answer session. Call. I would now like to turn the call over to Ms. Paige Magnus, Vice President of Communications for Altria Client Services.
Please go ahead, ma'am.
Good morning. Thank you for joining us. We're here this morning with Howard Willard, Altria's CEO and Billy Gifford, our CFO, to discuss Altria's 2018 business results and provide a deeper dive on the JUUL opportunity and Cronos. Earlier today, we issued a press release providing these results, which is available on our website at altria.com and through the Altria Investor app. During our call today, unless otherwise stated, we're comparing results to the same period in 2017.
Our remarks contain forward looking and cautionary statements and projections of future results. Please review the forward looking and cautionary statements section at the end of today's earnings release for various factors that could cause actual results to differ materially from projections. Future dividend payments and share repurchases remain subject to the discretion of Altria's Board. The timing of share repurchases depends on marketplace conditions and other factors. Altria reports its financial results in accordance with U.
S. Generally Accepted Accounting Principles. Today's call will contain various operating results on both a reported and adjusted basis. Adjusted results exclude special items that affect the comparability of reported results. Descriptions of these non GAAP financial measures and reconciliations are included in today's earnings release.
With that, I'll turn the call to Howard.
Thanks, Paige, and good morning, everyone. This morning, I'll focus on addressing key questions we've been getting, including our outlook for cigarette volumes, our strategic investments in Juul and Cronos and the current regulatory environment. I'll also review our guidance for 2019. Billy will then briefly highlight 2018 performance. We've included some slides to accompany some of my remarks.
Altria closed out 2018 with excellent full year adjusted diluted EPS growth of 17.7 percent and we continued to reward shareholders by returning $5,400,000,000 in cash through dividends. PM USA stabilized Marlboro and strengthened our combustible business. We also took proactive steps that we believe uniquely position us for long term success. Altria enters 2019 with an evolved business platform that includes our strong core tobacco businesses and new strategic investments with tremendous potential for growth. First, our operating companies continue to give the industry leading portfolio in the U.
S. Through Marlboro, Black and Mild, Copenhagen and hopefully soon IQOS. But now beyond these brands, our investments in Juul as well as Cronos once closed give us exposure to new growth opportunities while also further diversifying our future income streams. The decision to pursue these investments stems from a desire to enhance Altria's long term earnings and dividend growth, while also making progress on our harm reduction aspiration to help adult consumers switch from combustible cigarettes to non combustible alternatives. We believe that Juul and Cronos present unique opportunities to meaningfully participate in fast growing adjacent categories.
Before offering additional detail on the investments themselves, let's discuss the dynamics affecting U. S. Cigarette category volumes and our outlook. The U. S.
Cigarette category is large and resilient and has absorbed many shocks over time. And despite significant e vapor acceleration in 2018, the U. S. Cigarette category volume decline rate accelerated only modestly recent long term decline rate of 3% to 4%. Let's look at the last 2 years for some context.
In 2017, we estimated that U. S. Cigarette industry volume declined by 4%, which reflects the impact of a disruptive $2 per pack California state excise tax increase in the 2nd quarter and initial signs of the e vapor category returning to growth during the second half of the year. In 2018, record growth in e vapor of approximately 35% and higher gas prices accelerated U. S.
Cigarette industry volume declines outside the 3% to 4% range to a decline of 4.5%. Given the significant interest in cigarette category fundamentals, let me provide perspective on the specific drivers of the decline rate and our outlook for 2019. We previously cited a secular decline rate within a 2% to 3% range. This rate includes smokers who reduced their consumption, those who stopped using tobacco products and smokers moving to other tobacco categories. In 2018, we estimate that the secular decline rate was elevated due to increased movement by adult smokers across categories, which historically accounted for about 1 percentage point of the 2% to 3% secular rate.
This acceleration is largely attributable to e vapor category growth, especially in light of the decline in the smokeless category in 2018. In total in 2018, we believe e vapor represented the vast majority of the 1 percentage point component plus an additional 0.3%. Of course, other factors also affect the decline rate. In 2018, we believe macroeconomic factors, specifically gas prices, accounted for about 0.5 percentage point additional headwind on cigarette volumes. We believe the price elasticity component of the decline rate remains consistent with our long term estimate of negative 0.3%.
Looking forward, we'll continue to closely monitor the various factors at play. We watch, for example, excise taxes at both the federal and state level, gas prices, economic conditions affecting the adult tobacco consumer like housing starts, unemployment rates and consumer confidence, and the regulatory environment. We also know that over half of adult smokers are looking for alternatives. With the recent e vapor growth almost entirely driven by JUUL in 2018 and more alternative tobacco products available in the marketplace, we expect the 2019 U. S.
Cigarette industry volume decline rate to be in a range of 3.5% to 5%. This range this wider range covers a potential for higher levels of adult smoker Triolog and conversion to non combustible products similar to 2018. For 2019 through 2023, our estimate for average annual U. S. Cigarette industry volume declines is 4% to 5%.
Let's now move to our recently announced strategic investments, starting with JUUL. Through JUUL, we have found a unique opportunity to not only participate meaningfully in the e vapor category, but to also support and even accelerate transition to non combustible alternative products by adult smokers. The JUUL investment provides Altria with a significant stake in the largest and fastest growing e vapor company with a highly talented management team, successful end market products, a strong innovation pipeline and significant international opportunity. When you add to Juul's already substantial capabilities, our underage tobacco prevention expertise and ability to directly connect with adult smokers, we see a compelling future with long term benefits for both adult tobacco consumers and our shareholders. We are excited We are excited about JUUL's domestic growth and international prospects and their potential impact on our investment.
Juul's 2018 growth was quite remarkable. Juul had net revenues in excess of $1,000,000,000 in 20 18, up from approximately $200,000,000 in 20.17. Juul overwhelmingly reaccelerated the U. S. E vapor category growth rate, growing JUUL's volume by nearly 600 percent to over 450,000,000 refill kit pods.
We estimate JUUL represents over 30% of the overall e vapor category across open and closed systems and all trade classes. After e vapor growth plateaued from 2015 to 2017, rapid growth was reignited in 2018. And we expect U. S. E vapor volume to grow at a compounded annual rate of 15% to 20% through 2023.
As a reminder, Altria's share of Juul's international e vapor income would be 100% incremental to Altria. We believe the global e vapor and heat not burn segments, with estimated sales of roughly $23,000,000,000 in 2018, have substantial room to grow. JUUL currently operates in 8 countries with plans for additional expansion this year. We expect the JUUL product features that have driven JUUL's success in switching adult smokers in the U. S.
To strongly appeal to international adult cigarette smokers. And Juul has designed products in international markets to meet applicable regulatory requirements and also has significant new innovations in its pipeline. Though still early days, some information from recent launch markets shows rapid growth and helps affirm our assumptions that Juul's product development and commercialization capabilities can solve for different regulatory restrictions and adult consumer preferences. Let's look at 2 examples. 1st, in Canada, while distribution is limited, Juul reports that retail takeaway grew to more than 60% dollar share in stores selling their products after only 3 months at retail.
Juul is also seeing encouraging performance where they have achieved distribution in Europe. For example, in the Sainsbury chain in the UK, JUUL tells us that it recently became the number one e vapor brand in the chain with a dollar share in excess of 23% in less than 12 weeks after launch. And just to remind you, the U. K. Operates under the Tobacco Products Directive adopted by many EU countries, which limits the nicotine concentration level.
Ultimately, we expect the international revenue and income opportunity to end up being as large as or larger than the U. S. Opportunity. Our 35% investment was based on a deep strategic, operational and financial analysis of Juul and the marketplace. Clearly, we look at this opportunity over the long term, but for context, let us provide a view 5 years out.
Some of our independently developed key assumptions over the next 5 years that informed that analysis include: a USC vapor category that grows volume between 15% to 20% annually Juul continuing to be the primary growth driver for the e vapor category. Attractive Juul operating margins that achieve current cigarette like margins due to the benefits of increasing scale and automation in the supply chain international revenues that equal domestic revenues by 2023 and international margins that approach current international cigarette margins. Under our assumptions, our investment in Juul would generate an after tax return exceeding our weighted average cost of capital in 2023. Additionally, with 5 year e vapor category volume growth in the range of 15% to 20% annually, we would expect the U. S.
Cigarette category volume decline rate to be consistent with a decline rate estimate of 4% to 5%. I'll remind you that in 2018 with e vapor category volume growth of 35%, the cigarette category decline rate was 4.5%, including a 0.5% headwind from gas prices. Combined with the earnings and cash generation engine of our core tobacco business, we believe Juul will support consistent returns over the long term by providing Altria with a significant stake in the fast growing e vapor category. Briefly touching on the regulatory environment, the FDA and many others are concerned about an epidemic of UV vapor usage. We share those concerns.
This is an issue that we and others in the industry must continue to address aggressively and promptly. We understand that the long term opportunity of tobacco harm reduction is threatened by continued underage use. Juul has already taken significant action to address these concerns. Today, it remains the only e vapor company to have stopped shipping flavored products other than tobacco, menthol and mint to retail. These shipments stopped on November 13.
Juul has taken additional steps to enhance its online age verification processes for sales on its website to adult tobacco consumers 21 years of age or older, as well as developing a restricted distribution system for retailers. Juul has also halted all promotional use of U. S. Social media platforms and will continue to monitor and remove inappropriate material from 3rd party accounts. Anjoule is developing new technologies to further restrict youth access.
We know more can and must be done. That's why we're engaged in unprecedented efforts at the federal and state level to raise the minimum legal age to purchase all tobacco products to 21. We believe it is the single most important step we can take today and we'll be stepping up our efforts in the coming months. Already this year, we are supporting legislation raising the legal age in both Washington State and Virginia, and we continue to engage nationwide in this effort. We recognize that some of these actions may impact the short term growth of the e vapor category.
We also know that preserving the long term opportunity of harm Harm reduction remains central to our view of the future for the tobacco industry. In addition to the significant opportunity presented by Evapor, we remain very excited about the prospects for heat not burn in the U. S. It is now approaching 2 years since PMI submitted the IQOS PMTA, and we are fully prepared to commercialize IQOS in the U. S.
We remain fully committed to the success of IQOS in the U. S. And are excited to deploy our robust commercialization plans. PM USA is establishing brick and mortar stores, including locations in multiple cities within the 1st year of launch. They've already hired personnel to support pre launch activities and are collaborating with key partners to best position IQOS at retail.
Let's now turn to Cronos. While the transaction is subject to customary closing conditions and expected to close in the first half of twenty nineteen, Altria's agreement to acquire a 45% stake in Cronos with a warrant to achieve majority ownership will create a new growth opportunity an adjacent category poised for rapid growth. It complements our strong core tobacco businesses and expands our income opportunity beyond the U. S. After years of evaluating adjacent opportunities, the cannabis category is quite attractive and delivers on some key considerations, including accretion to our long term financial performance and synergy with Altria's capabilities, allowing our combined resources to accelerate Cronos' growth.
While a range of estimates exist, a recent third party report projects the 10 year global cannabis revenue opportunity to be in a range of $40,000,000,000 under a similar legal landscape to today to more than $250,000,000,000 assuming a fully legal market worldwide. We believe the growth opportunities are significant and will extend across the globe as cannabis markets open. Selecting the right partner in this category was critical and we've done just that. Cronos' strong management team has built unique capabilities to compete globally across the medicinal, recreational and nutraceutical categories. Our investment will allow Cronos to more quickly expand its global footprint and production capacity.
We also expect it to accelerate the execution of its strategic initiatives, including investments in cannabinoid innovation and developing differentiated products and brands across medicinal and recreational categories. We look forward to helping Cronos realize its significant growth potential. In summary, 2018 was a transformative year for Altria. We are pleased with the performance of our core tobacco businesses as PM USA stabilized Marlboro through its equity investments. We made strategic investments in rapidly growing categories that we believe strengthen our long term financial profile, enhance our growth prospects and better position the company to deliver long term value to shareholders through earnings growth and dividends.
And of course, we had significant earnings growth and increased our dividend twice. We look forward to sharing more with you at CAGNY in a few weeks. Turning to 2019 guidance. We expect to deliver full year 2019 adjusted diluted earnings per share of $4.15 to $4.27 This range represents a growth rate of 4% to 7% from a 2018 adjusted diluted EPS base of $3.99 Our guidance reflects our expectation for a higher full year adjusted effective tax rate, primarily resulting from lower dividends from AB InBev. It also includes increased interest expense from the debt incurred related to the Cronos and Juul transactions, although we expect that expense to be mostly offset by savings from our previously announced cost reduction program.
Our plans also take into account increased investments related to PM USA's lead market plans for IQOS once authorized by the FDA. And lastly, our guidance assumes little to no earnings or cash contributions from the Cronos and JUUL investments. In the Q1, we'll have the increased interest expense without the full benefits of our cost reduction program and one fewer shipping day in the smokeable segment. Therefore, we expect the growth to come in the last three quarters of the year. We have a proven track record of delivering against our objectives and we maintain our long term financial goals to grow adjusted diluted EPS at an average annual rate of 7% to 9% and to maintain a dividend payout ratio target of approximately 80% of adjusted diluted EPS.
I'll now turn it over to Billy to provide more detail on our 2018 results.
Thanks, Howard, and good morning, everyone. Although we have been busy securing these investments over the past few months, we continue to compete vigorously in the cigarette and smokeless tobacco categories, which still deliver substantially all of our earnings. We are quite pleased with the performance of our core tobacco businesses in 20 18 and believe the equity investments we made using the benefits of the corporate tax reform set them up to deliver strong income growth in 2019 and beyond. Here are some highlights. In the smokeable products segment, our strategy remains unchanged to maximize income while maintaining momentum on Marlboro over time.
We saw a slight decline in adjusted operating company's income for the segment, primarily driven by lower volume and higher cost, including additional investments. Those included brand equity investments behind product expansions, innovative packaging and a digital loyalty program that allow PM USA to successfully stabilize Marlboro. Following soft in 2017, Marlboro's full year 2018 cigarette retail share of 43.1% was unchanged compared to its Q4 2017 share. As we discussed in the 3rd quarter, we believe keeping Marlboro strong and relevant is important to the long term profit maximization in cigarettes. This may mean that Marlboro retail share varies up or down quarter to quarter as we continue to balance momentum behind the brand and profitability.
Building off the success of Points West, Marlboro's limited time rewards program in Texas, PM USA launched Marlboro Rewards nationally this month with the goal of increasing its digital leadership, brand engagement and Marlboro's already strong brand equity and loyalty. Within the 1st 10 days of the program, 700,000 adult smokers, 21 plus, enrolled and entered nearly 1,500,000 pack codes. In the super premium tobacco and water segment, Nat Sherman continues to deliver against its plan and we are pleased with its performance following the regional expansion of Nat's across the Western U. S. In 2018.
In the Q4, Nats had a 0.3 share in the cigarette category in states selling the product. The team continues to evaluate further expansion opportunities, which we will share at the appropriate time. In non combustible products, our business is invested in the regulatory science to support the MRTP falling for Copenhagen snuff and in our commercialization plans for the IQOS lead market. These are important steps on our journey towards tobacco harm reduction. USSTC will present the science supporting its application to the Tobacco Products Scientific Advisory Committee next week and we look forward to engaging with the FDA on this application.
In the smokeless products segment, USSTC generated adjusted operating income growth of 7.5% in 2018 despite slowing category volumes. We continue to believe that smokeless industry volume is being affected by higher pricing and adult consumer movement among tobacco products, including e vapor and other innovative products. USSTC has exciting plans for its portfolio in 2019. USSTC announces plans to expand Skol Long Cut Cool Spearmint nationally. This offering provides adult dippers a flavor forward experience and furthers USSTC's strong position the mint and wintergreen segment.
In the Q2, Copenhagen will open its 1st retail location in Nashville, Tennessee. The store will sell Copenhagen products and provide a unique opportunity to directly engage with adult tobacco consumers 21 plus. Turning to our alcohol assets. Ste. Michelle's adjusted OCI decreased significantly in the 4th quarter.
So let me provide some additional information on these results. Results were negatively impacted by higher investments in marketing and sales, lower volume and inventory adjustments. As we discussed previously, the growth rate in the premium wine category has slowed and Ste. Michelle worked closely with its major distributors to reduce trade inventories. In beer, adjusted earnings from our equity investment in AB InBev were $200,000,000 in the 4th quarter, which reflects Altria's share of AB InBev's 3rd quarter results.
In the short time we have held an interest in AB InBev, there has been volatility in its earnings resulting from the mark to market adjustments for hedging of share based payment programs. A decrease in ABM Bev share price as occurred last year results in losses on these hedges, which are reflected in our underlying results. For the full year 2018, Altria's share of these losses was $128,000,000 I'd like to provide some insight on the cost reduction program that we announced last month. To offset most of the interest expense associated with the debt incurred to finance the JUUL and Cronos investments, in the Q4 we announced a cost reduction program expected to deliver approximately $575,000,000 in annualized cost savings by the end of 2019. The savings from this program will ramp up through the year.
This program includes 3rd party spending reductions across the business such as professional and consulting services, information technology and product research and regulatory investments. The program also includes workforce reductions of approximately 900 people, particularly within our support services. With that, we will wrap up and Howard and I will be happy to take your questions. While the calls are being compiled, I remind you that today's earnings release and our non GAAP reconciliations are available on altria.com. We have also posted today's slides and our usual quarterly metrics, which include pricing, inventory and other housekeeping items.
On that page, we have added quarterly shipping days NPM USA's menthol share to provide additional color around that part of our business. With that, I will open up the question and answer period. Operator, do we have any questions?
Thank you. We will take questions from the investment community first. Our first question comes from Steve Powers of Deutsche Bank. Please go ahead.
Great. Thanks so much. So, Howard and Billy, I guess my first question is just how secure you see your fiscal 2019 volume outlook in cigarettes to be? And maybe to help with that, I was wondering if you're able to decompose some of the volume drivers that you provided
as it relates to
the Q4, that down 5%. It was worse than the
full year run rate.
So I'm just wondering what the contribution from maybe macro elasticity factors, which I'm assuming includes excise taxes as well as manufacturer pricing and the cross category movement would have been in the Q4? And then I guess more importantly looking to 2019, where do you see within the context of those drivers the potential improvement coming from?
Yes, Steve. I think if I understand your question correctly, if you look at as we progress through the year, we did have 2 SET increases, one was in Oklahoma and the other was in Kentucky. And so that had an effect because that was represented about 5% of cigarette industry volume. So as you progress through the year, of course, you have the initial drop for the price shock and then it returns to elasticity as you move through time. I would say as we move to this year, right now, gas prices are a tailwind to the overall adult cigarette consumer.
As we experienced gas prices drop, last year they were up 13% year over year and we've seen them drop as we progress into the 1st part of this year. So we should see that impact through time.
Okay. So the big driver of incremental potential improvement 2019 versus 2018 is really your gas price outlook?
That and the overall macroeconomic tailwinds that the consumer is experiencing.
Okay, great.
And I need to run the math, but with 15% to 20% category growth in e vapor, the negative 4% to negative 5% category declines you call out in core combustible going forward, I'm assuming some positive contribution from IQOS and heat not burn in your outlook. I guess my question is as you look forward 5 years from now, are you expecting market wide nicotine consumption to be higher or lower in the U. S. Versus now? And maybe by what magnitude?
And I guess within that, there's an implied question about what the expected interplay between e vapor and heat not burn may be with smokeless?
Yes. I think with regard to your question, our primary focus has been on estimating by individual category. And we provided that information to you. I think with regard to heat not burn, I think it's clearly going to have an impact going forward on cigarettes and likely e vapor. But I think that we have not really included that in our calculations and we're really waiting until we get some experience in the marketplace this year and certainly we can make adjustments to any of our estimates.
But certainly, we believe that when we do get approval from the FDA to put IQOS in the market, it is an additional driver of growth in the non combustible tobacco product segment.
Okay, great. And if I could do one more, it's related to Juul and I greatly thank you for the insight you provided in your slides and on the call today with respect to Juul. But I guess kind of 3 follow on questions. Now that you've opened up on Juul, I find myself a little bit greedy for more. So just based on your conversations with Juul management recognizing that they're independent and private, I guess as we go forward, what level of incremental disclosure do you expect you'll be able to share over time, whether in a few weeks at CAGNY or just in general?
Question number 1. And I guess within that related to that, 2 follow ons. The first one is your fiscal 2019 guidance assumes 0 effectively 0 EPS and cash contribution from Cronos and Juul. And I guess is that a firm estimate of breakeven or are you simply excluding Juul and Cronos from guidance? Another way to ask that question is given are you able to absorb volatility in Cronos, Juul contributions within the 4% to 7% range?
Or does that create risk of pushing you outside the range? And then lastly, sorry, the 5 year kind of breakeven return rate economic return that you called out on Juul based on your expectations. Is that what are you assuming in terms of like cash coming back to is that a theoretical return or is that actual do you expect to receive cash in the form of dividends from Juul so that your cash breakeven over that 5 year timeframe? Sorry for all the questions. Thanks.
Well, you're going to make us work hard this morning, aren't you? I'll take a crack at them. And if I miss something, I'm sure Billy will jump in. So with regard to the disclosure, as you pointed out, given the time since the closing, we put together significantly more information and shared it today. And obviously, as we get further questions, we'll look for opportunities to share more relevant information with we will be accounting we will be accounting for the Juul investment following antitrust approval using the equity income approach.
And when we do that, there will be more disclosure in our SEC documents. So that's, I think, something to look forward to. And we do expect antitrust approval during this year. The second thing is with regard to our statement about 2019 income, I think that what that really reflects is that with regard to Juul, we're kind of waiting before it gets reflected in our income based on the equity income method. So we thought on the side of conservatism that it made sense to not guess as to the timing of antitrust approval.
And then the second thing I would say is on Cronos, obviously, they're a publicly traded company and so you have access to what their current income is. And their income today is modest. The investment is really designed to rapidly accelerate their growth rate. And so we don't expect it to be a material contribution in 2019. With regard to the guidance range of 4% to 7%, That is designed, as it's always been in the past, to be a wide enough range to take into account the variety of changes that could occur.
And that could reflect changes in our core business with regard to Juul or with regard to Cronos. So it's designed to reflect our best all in estimate of what could happen during the year. Then you asked a question about the 5 year breakeven. And I think the way we calculated that, it was really taking the equity income we expect in 5 years, tax affecting it and then dividing it by the overall investment in Juul. So it is an equity income return, not a cash return.
Although obviously by that point, given the significant level of income, we would expect to have some dividends as well.
The only thing I would add, Steve, I think it's important to remember under both Juul or Cronos, as a business is growing and faces significant opportunity to expand outside of the U. S. With huge growth potential that reinvestments in the business for a period of time is appropriate.
Yes, that's absolutely right. And I think we agree with the other Juul investors that its growth prospects are so strong that now is the time to invest in ultimately driving top line growth.
Thank you very much for all of that. Appreciate it.
You're welcome. Thank you.
Our next question comes from Pamela Kaufman with Morgan Stanley. Please go ahead.
Hi, good morning. Thanks for the question. I was just hoping to get a sense for how you're thinking about Juul's midterm growth outlook, just given that the company is removing flavors from retail channels? And then what the impact is on investment if the category grows faster than 15% to 20%, why is 15% to 20% the right forecast and what assumptions feed into that?
Sure. I think with regard to the midterm forecast, one of the reasons why we selected a 5 year period to estimate the growth rate of the e vapor category and Juul is a significant driver of that growth is I think there is a bit of uncertainty as to whether or not there'll be a slowdown in growth in the next year or 2 as the industry works together with the FDA to drive down usage. And so I think that is to be determined. But I think even taking into account the fact that there could be some impact in the short run, I think we're confident in the long term growth rate that we forecasted. It may just be that there's slower growth early on and more rapid growth later on.
I think with regard to the significant action Juul took in removing their flavors from retail, I do expect that that is going to have some impact on their overall growth rate this year. But I think we also believe that adults will continue to buy the other flavored products at mainstream retail stores. And of course, with heightened age verification, those other flavors are available to adults on the Juul website. So we still think they have pretty good growth prospects for this year even with those actions. I think we're pretty comfortable with our forecast of 15% to 20% compound annual growth rate over 5 years.
And certainly with that level of growth, we believe the investment in Juul is additive in a significant way to our income growth. If your question is, if it grows faster, is it still additive to our income growth? And I think that it could certainly grow faster than 20% and still be additive we're pretty comfortable that under a whole range of scenarios that, that may not be the case. But we're pretty comfortable that under a whole range of scenarios that financially this is a good thing for our income growth.
Okay. Thanks. And then just with respect to JUUL's international opportunity, how do you think about the impact of some of the differences in the regulatory backdrop, just given the nicotine caps in international markets and then just lower barriers to entry for competitors in the category relative to the U. S?
Sure. I think that when you look at various international markets, there are different regulatory requirements that have to be navigated. And frankly, there are different consumer expectations given differences between the cigarettes in those markets that are purchased by adult tobacco consumers out there compared to the U. S. So both of those things need to be navigated successfully in order to have a similar level of success internationally to what Juul has had in the U.
S. We are highly confident that Juul has the technical capability, the current products and the products in the pipeline to navigate those differences and have strong success overseas. So I think that frankly that there certainly is some work to be done there, but I think that they are already well on their way to having done that. And I think that we're encouraged by the products they have in their pipeline.
Our next question is from Vivien Azer with Cowen. Please go ahead.
Hi, good morning.
Good morning, Vivien.
So, my first question is for you, Billy. You called out like the favorable macro backdrop in terms of your comfort around the 3.5% to 5% decline for 2019.
I have
a hard time reconciling that with the pretty consistent down trading that we're seeing at the low end of the category, where deep discount is consistently gaining share at the expense of discount. So can you help me reconcile that? That's my first question. Thank you.
Sure. It's a great question, Vivien. I think if you think about the economic recovery, it's a bit uneven. So it's a bit lumpy. So those consumers that were engaged in the branded discount, as we've increased the margins and profitability of our brand specifically, you can see some down trading that takes place because you can even think of the adult tobacco consumer with uneven economic recovery.
Those at the lower end haven't recovered to the same extent as those at the higher end of the category. And so that's where you're seeing that churn within the discount category as the branded discount brands are taking increased profitability and margin.
And you don't think that there is a risk over time that that starts to kind of bleed up into the branded premium segment?
Yes. Based on our consumer research, Vivien, that we We feel very strong with the premium segment. I think that's reminiscent. You can see, we're We feel very strong with the premium segment. I think that's reminiscent you can see with the flatness of the overall discount category and just churn within.
So we don't see any signs at this point that would point to it moving up to the premium segment.
Vivien, I'd refer you to the last couple of years. What has really happened is you've had, particularly over the last year, pretty nice performance by the premium brands, including Marlboro. But you've had and you've had a flat overall discount category from a market share perspective, but there's been significant movement from branded discount products to deep discount products. And of course, there's certainly market action that could be taken to try and address that. But given the nice margins that we have on L and M, I think that we're comfortable with the current trends in the marketplace.
Much. My second question is around kind of the longer term outlook for cigarette industry volume declines of 4 percent to 5%, it certainly makes sense that if you're expecting a deceleration in e cig, it shouldn't be like incrementally that much worse for the cigarette category. That being said, I am curious to hear your thoughts around dual use within that e cigarette revenue pool, Because if you've got dual users today that ultimately migrate to single category use on the e cigarette side, like that would suggest that there would be some incremental degradation on cigarettes, if I'm thinking about it right.
So I'd love to hear
your thoughts on that. Thanks. Yes.
I think you have to consider take 2018 as a guide. You had very substantial growth in e vapor volume. And it was both people converting completely from cigarettes to e vapor as well as a substantial amount of dual use as people tried e vapor and in many cases JUUL and are deciding whether to continue to dual use or convert completely. So I think that 2018 was a pretty active year for e vapor category growth. And of course, as we know, the decline rate of the cigarette category was only 4.5% and that was elevated 0.5 percentage point by increasing gas prices.
So I think it shows you that the cigarette category decline rate is pretty persistent and it can withstand a fair amount of growth from e vapor. So we continue to be very comfortable with our forecasted decline rate of the cigarette category over the next 5 years of 4% to 5%.
Yes. I think it's important to remember, Vivien, in the base 3% to 4% that was historical, there was always 1% of that that was included in secular decline of consumers doing exactly what you're saying, either replacing certain occasions or converting completely as Howard mentioned. So that's if you will already in the 3% to 4% that was in the historical run.
Fair enough. Thank you
very much.
Thank you.
Our next question is from Chris Growe with Stifel. Please go ahead.
Hi, good morning.
Hi, Chris.
Hi. Just to follow on Vivien's question there. So you mentioned this 1 percentage point drag on volume from moving across categories. And I think you said it was around 1 point of 1.4 percent drag on that category from e vapor in 2018. That category, it was also pulling from smokeless tobacco as an example.
I'm just curious how much of an overall volume effect it might have had on your business, like how much did it pull from smokeable? I think you defined that as well as smokeless. I think we're seeing some effect in that category as well.
Yes. We don't have an exact number for you, but that's something that we'll provide in the future. But you're right, I think you also had dual usage between smokeless and the e vapor category. And so you're right that that is also some of those consumers because the e vapor experience was closer to what they were transitioning from being an inhalable type product versus a smokeless product.
Right. Okay.
I would also say on smokeless, you've got 2 things going on, which is I do think you have some consumers that were smokeless users that are moving into e vapor, probably the bigger impact on the smokeless growth rate is that in the past, a lot of cigarette smokers were using Smokeless as an alternative product. And I think a fair number of them have now said, boy, with the presence of Juul in the marketplace, I've got a closer experience to my cigarette than Smokeless that's attractive to me. So I think that has also contributed to the decline in the growth rate of Smokeless.
Okay. And then as you think about your outlook for the net through 2023, do you assume like e cigarette starts to see excise taxes implemented? Is that a factor in that model? And then would you just assume from a high level that Juul grows in line with the category over that time?
Yes. I think we're comfortable with that growth rate over a variety of excise tax assumptions. But I would tell you that I believe that it's a reasonable assumption to believe that you'll get some incremental excise taxes on e vapor, but that it will not be a significant acceleration of what's happened over the last few years. And I think that the argument that's been made at the state level about the fact that given the potential for harm reduction that's offered by e vapor, that that is not a place where significant excise tax increases should be put in place. I think that's been fairly persuasive and I would expect it to continue to be.
I think you had a second question. Remind me of it.
And then just if Juul would grow in line with the category, would that be your operating assumption in that 5 year model?
Yes. I think our assumption is that Juul is going to grow faster than the category. I mean, if you look at 2018, Juul growth represented more than the growth in the category. And I think there's probably it's probably likely that it may moderate from being the whole growth of the category going forward, but we would expect it to be growing at a much more rapid rate than the other brands in the category.
Okay. Well, I appreciate your time this morning.
You bet. Thank you.
Our next question is from Michael Lavery with Piper Jaffray. Please go ahead.
Hi, good morning.
Good morning, Michael.
On your decomposition on Slide 6, you show a modest deceleration in your projected or estimated impact from elasticity. It looks like your pricing has actually accelerated in 2018 versus 2017. How do you reconcile that?
Yes. I think when you look at that, Michael, you got to take into all the consideration of all factors. So you got to take into total change to the consumer. So you have SET differentials that get annualized in across time. So that price elasticity is not just manufacturer list price, it's increase in list price to the consumer.
Okay, that's helpful. And on IQOS, can you just specify what it is that you are assuming in guidance? Would it be right to think you're not counting on any revenues until you get approval, but that there are some costs you are factoring in? And then would there be incremental spending if revenues come? How should we think about that?
We are optimistic and hopeful that IQOS is going to get approved fairly soon. And so we've got a full rollout of IQOS included in our guidance.
Okay. No, that's great. And so you did also mention both a lead market, but also stores in multiple cities, which sounds a little bit broader and faster and maybe a bigger launch than you've hinted at in the past. Have you expanded your plans? And you also said, when you were reading through that slide related to it, you said that you are establishing stores.
Are you doing that now ahead of
Yes, I Yes, I think I don't know that it's a change in our plans, but our belief is that IQOS is going to be quite a success and that after the lead market, we'll be moving quickly to other markets. And what we have learned as we've been focused on gaining access to and establishing retail locations is that it's not something you can do overnight. And so we've made the decision that it's worth the incremental investment in order to line up those locations in multiple markets in advance. And obviously, as the time for the approval of IQOS drags on, it does cause us to incur a little bit of incremental expense. But we think the upside from commercializing IQOS is big enough that we want to be fully ready the minute we get FDA approval.
And so you mentioned the Copenhagen store in Nashville. Is that one you would be able to quickly repurpose as a dual brand outlet or would you want to separate those brand identity and marketing purposes?
I think that's something we'll consider long term, Michael. I think the opportunity in Nashville is that's the home of the manufacturing base. And so we think it affords our consumer a great opportunity to engage with the brand and be right there where we're manufacturing the product. So we're really focused currently on the engagement with those adult dippers right there where the product is made.
Okay. Thanks. That's helpful. One real quick last one where you give the share gains in the UK and Canada for Juul. Is that also driving category growth?
Or is it primarily market share momentum?
I don't know that I have a good answer to that. I could speculate, but I will not.
Okay. No problem. Thank you very much.
Your next question is from Judy Hong with Goldman Sachs. Please go ahead.
Thank you. Good morning.
Hi, Judy.
One is just a quick clarification. The category volume for e vapor that you laid out on Slide number 8, is that equivalent volume to cigarette packs or what is the kind of how should we think about that relative to the cigarette volume?
Yes, I think Judy that chart is trying to equalize across open systems and closed. So if you think about it, that's the number of pods that are in the marketplace. If you think about the equalization to total cigarettes, you have to think about what's the pod equivalent of a cigarette. And so a pod equivalent to a cigarette, we would estimate to be around 1 pod per pack of cigarettes.
So basically, if you so Juul at 500,000 pods would be equivalent to roughly like 6% or 7% of the total cigarette volume equivalent?
Yes, that would be the case.
Okay. So the total e vapor category today is about 15% to 20% of the total cigarette equivalent volume in your estimate, just based on this math?
That's correct, Judy.
Okay. So I guess that seems like it's a pretty big number in the context of the cigarette category. And I guess I'm still a little bit confused as to why it's not having a much bigger impact on the total cigarette volume if the size of the e vapor category is already 15% of the total?
Yes. I think you have to think about it, Judy, is a base of that has been in place for quite a while. So if you think about the initial start, because we're including open systems in this overall equivalization. Open systems have been in place going back a number of years. And I think that's the point I was trying to raise is it's important to remember within the cigarette category, the historical decline rate of 3% to 4% included 1% that was moving to other tobacco categories.
And so part of the historical decline already assumed that there was going to be consumers progressing from cigarettes to other tobacco categories.
Got it. Okay.
All right. And then just going back to the international opportunity for Juul, I mean, it sounds like based on the assumptions would imply that your revenue for international markets Juul is going to be a pretty sizable number at a margin that's also pretty attractive. So given some of the experience that we've seen where we've seen some bumps along the way for IQOS and other players that have launched in markets outside the US. I guess I'm just still wondering what gives you the confidence about sort of the big revenue contribution and margin contribution in 5 years?
Yes. I mean, Judy, I think the way I would frame that is, I acknowledge that there have been a number of products, particularly in the e vapor category that have had some success and then that success has fizzled. And so certainly that is something you have to be sensitive to. But I have to point out that Juul's growth and success in the U. S.
Market last year was unique and first of its kind compared to other tobacco product successes both in the U. S. And overseas. I mean the growth rate was dramatic. It represented the entire growth of e vapor for the year and it dramatically reaccelerated the growth of e vapor.
So I think the reason that we have confidence that it's going to have more success in overseas markets over the next 5 years than some of the other products that have been introduced over there is because it's had such dramatic success in the U. S. Last year.
Got it. Okay. And then my last question, just, Billy, when you think about Q1 combustible or smokeable volume, am I right in thinking that if you layer in the one less shipping day and then I think you're lapping a pretty big inventory levels a year ago. So volume sounds like it could be down double digits in Q1. Is that sort of in the ballpark?
So Judy, we're careful not to guide to the quarter level on volume, but I think you're thinking about trade inventories that was a big component in the Q1 of last year. So it's important to pick that up. So you're exactly right from that standpoint that it's important to consider how trade inventories were moving last year versus your expectations for this year.
Got it. Okay. Thank you.
Thank you.
Our next question is from Bonnie Herzog with Wells Fargo. Please go ahead.
All right. Thank you. Good morning. Good morning, Bonnie.
Hi. I had a
question on your EPS growth guidance. You guys now see a wide range in 2019, but you stated back in December that you expected your EPS growth to be slightly below your long term 7% to 9% growth algorithm. So just wanted to understand what changed or are you guys just being prudent with a wide range? And then I wanted to confirm your guidance assumes no buybacks this year, but just kind of wondering if there's a chance that could change or maybe what needs to happen to get you back in the market to buy back your stock?
I'll answer the first part of your question and I'll turn it over to Billy. The short answer on December versus today is nothing changed. We viewed 4% to 7% guidance as slightly below the 7% to 9% long term trend. And you are right that it is a 3 percentage point wide range, But I think that we think it's prudent given some of the increased volatility we've seen in our income, in large part driven by volatility in the Anheuser Busch InBev income stream that in order to give the investment community the right confidence in our guidance that a bit of a wider range is prudent and appropriate.
And as far as share buyback, Bonnie, remember we had about $350,000,000 I think it was $345,000,000 to be exact as we ended last year in the current program. And we expect to complete that by mid year. That is unchanged. And then we'll assess the situation and come forward if anything is appropriate after that.
Okay. Thanks. And then I had a question on Marlboro. You guys successfully stabilized Marlboro share in 2018. So as we look forward, do you believe it's realistic that Marlboro could take share in a shrinking volume pool, especially given your new Marlboro rewards program?
And then I also wanted to ask about the coupon inserts for JUUL and Marlboro packs. Can you guys help us understand the strategy with those? And how we should think about cannibalization of Marlboro versus maybe the opportunity to take share from competitive FIG brands?
Sure. I think with regard to Marlboro, you're right, we did stabilize this year and we think it's got very strong momentum and that will continue into this year. But I also think you have to consider the fact that our objective in the smokeable segment to maximize income. And so I think you will see us balancing our desire to maximize income against the momentum of Marlboro. And we did that this year and I think we'll continue to do it.
I think with regard to your question about putting JUUL inserts on our cigarette packs, I would first of all say that I think the vast majority of the support that we will provide to JUUL is really going to be brand agnostic or company agnostic with regard to how it helps Juul source volume. So if you think about them putting JUUL into a much better display space at retail and having higher visibility or you think about them potentially gaining access to some of our other services, I think most of those services are not going to have a greater impact on our brands than they would on our competitors' brands. I think you could, particularly with the onserts, obviously, we can only put onserts on our packs, they don't go on competitors' packs. And so theoretically, I guess it could result in a bit more volume coming out of Marlboro. But I think that that is unlikely to be the case.
And I say that for really two reasons. I think there's already very high awareness amongst all cigarette adult cigarette smokers and frankly all Marlboro smokers about the availability of JUUL. So I think that a lot of that awareness has already been established. I wouldn't expect a big incremental uptick from those onserts. And then secondly, I would point out that I think Juul tends to get more of its growth from the 21 to 29 year old cigarette smoker than it does from the 30 plus cigarette smoker.
And if you think about it, I think as we've communicated in the past, Marlboro's share of those 21 to 20 9 year old smokers is about equal to its overall share. But there are several other cigarette brands that are overdeveloped amongst 21 to 29 year olds such as Newport, Camel or Natural American Spirit that frankly might actually give up more volume on a relative basis than Marlboro.
Okay. That's really helpful. And then my final question for you guys is about the FDA. I just I was hoping you guys could give us some color from your perspective on the FDA's recent commentary surrounding harsher e cig regulation. Was it a surprise to you that they are now putting threats out there, especially after your investment in Juul?
And then wondering if you've spoken to them recently and what's your sense of how they're thinking about your ownership stake in JUUL as well as some of the initiatives JUUL is working on to help reduce youth e cig use? Thanks.
Sure. I don't think we've been surprised at FDA's concern about usage of e vapor products. I think as you know, both JUUL and Altria, we were in talking to them in November. They had a high level of concern then. We shared that concern and we've been interacting back and forth with the agency on the actions we're taking to try and reduce the levels of youth usage of e vapor products.
And frankly, I think their concern and their focus on the industry taking significant steps to drive down youth usage is appropriate and justified. And I think that we agree with Juul that we need to take significant action. I think Juul has already taken significant action, but we also agree that more must be done. And so I think that our view is that it's important to drive down youth usage in order to preserve this opportunity for adult cigarette smokers to be able to switch to a very compelling non combustible product. And I think we will ultimately achieve both.
I think we'll drive down youth usage and still make this available to adult cigarette smokers as an alternative. And I just think we have some work to do and we're fully prepared to engage on that.
Okay. Thank you.
Thank you.
Our next question comes from Adam Spielman with Citi. Please go ahead.
Thank you very much. First of all, can I say thank you for providing so much more data than usual? It really is appreciated. So thank you for that. I have 2 quick questions.
I hope they're quick. So if I take what you've said about the impact, well, basically the growth of Juul, this is Slide 8, and equate that to cigarettes, it looks like the Juul has grown about 400,000,000 units, which equates essentially to a 4% market share growth. And that's true for the whole e cigarette or e vapor category. And yet you've also said that the impact of the growth of e vapor on cigarettes is about 1.3%, 1.4%. So is that the right way of thinking about it, that basically 2 thirds of vapor growth is incremental?
Is that how we should think about it? And I
guess if that
is the right way of thinking about it, where is that increment coming from? Do you think it's mostly coming from sort of people in their 20s or what? So that's one question.
Okay. I'm not sure I'm tracking with exactly with your math, but let me try and answer the question in a more general way, which is you're right about the impact that we think it's having on the cigarette category. But beyond the impact that it's having on the cigarette category, we think it's also sourcing, as we said earlier, from the smokeless category, probably from the cigar from increased usage occasions by a variety of adult tobacco consumers. And that may settle out over time. I think that given the increased availability of the product, I think you have a of people that are trying it while still using their existing tobacco product.
And I think over time, they're going to make a decision and they'll either switch completely to Juul. I think you have some of that in the 2018 number as well.
Fine. I mean, just to I mean, I'm not sure how relevant it is, but the math is basically there was 400 incremental 1,000,000 pods of Juul sold in 2018, and that equates to roughly 4% of a cigarette market if one pod is 1 pack of cigarettes. But that's so that's how I was thinking about it. But the second question is really coming back to this question about the onsets and the inserts on your packs. I mean, can you confirm that JUUL will be able to put or maybe deny that they'll be able to put coupons.
So there might be, I'm making this up here, but let's say $5 off advertised to somebody who buys a pack of Marlborough. So that's is that right that they'll be able to coupon as well as just market raise awareness?
Yes, Adam, I think you're thinking about it right. I think what's important to remember is what Howard said. If our Marlboro consumer, so take it the one person that you receive that in their pack, if they have a decision to switch, they would have switched anyway. And so, we would want them to switch to the Juul product, which we have an investment in, versus searching for other alternatives, which we have an investment in versus searching for other alternative products out there. So, the awareness is already high.
If the individual is making the decision to switch, we want them to switch to Juul.
Fine. Okay. So I understand that, is that something you sort of be able to sort of validate with focus groups? Or is that because to me, it's sort of quite a thing that you're potentially offering your smokers, let's say, dollars 5 off to start JUUL?
Yes. I mean, you are right that essentially we are cross promoting, which is a fairly common thing. And I think you may be thinking about the fact that we have a 35% economic interest in Juul and we have 100% economic interest in our cigarette business. And so that may be what's causing you to be surprised we would be willing to do this. I think I would frame it with a
couple of
thoughts. First of all, we think that even with the impact that Juul could have on the overall volume growth and potential profit growth from our cigarette business going forward, Even if it does impact it, we think when you take the sum of our cigarette profitability growth and you combine with the economic contribution from Juul over the next 5 years, we think that's a net positive to us. And it's a net positive even if there's a bit more growth in Juul coming from our brands than from the competitors. So that's the first reason. The second reason is, if you look at it, we for frankly, I've been with the company 26 years, almost my entire career, we have believed that our business would be better in the long term if we could offer harm reduced products that would represent attractive alternatives to our adult cigarette smokers to switch.
And we've invested 1,000,000,000 of dollars in it and lots of effort. And ultimately, until December of this year, we really didn't have the product portfolio to fully achieve our harm reduction aspiration. And the opportunity to invest in JUUL, I think, really makes that harm reduction aspiration a reality. And if you look at it, we've got IQOS in the heat not burn category, the number one product and brand in that category. We've got Copenhagen and Skoll in the oral tobacco products category.
And we had a hole in the e vapor category, and we've now filled that with our 35 percent economic interest in Juul. So I think that we are finally going to be able to achieve our harm reduction aspiration and I think we can do that over the next 10 years and still deliver our long term 7% to 9% EPS growth algorithm and give 80% of that adjusted EPS back to shareholders in the form of dividends. And I think our ability to achieve both harm reduction and secure our long term financial performance was enhanced by the investment in Juul.
Can I so thank you very much for that answer? Can I just very quickly ask again, have you actually done focus groups that have found out what might happen if you put coupons or other material in your cigarettes?
We've done a variety of work to understand the interaction between cigarette smokers and Juul. I don't know that we've done something as specifically to what you're referencing, but we think we have a pretty firm understanding of what the interaction between the two categories is.
Okay. Thank you very much.
Thank you.
Our next question is from Nik Modi with RBC Capital Markets.
Yes, thanks. I'll try to make this quick because I know we're going a little long here. Howard, you've obviously, a lot of decisions have been made, a lot of portfolio transformation. I'm just curious where the wine business fits into kind of your vision of the future of Altria. The second question is just on the pricing.
I mean very, very strong at least relative to what we're looking for. Maybe you can provide some context around that. Was that the loyalty program kind of making you a little bit more efficient in terms of promo spend? And then the third is just on Cronos, is this a kind of a platform strategy, meaning you will look to get into all types of products? Or is this going to really be just focused on your existing categories?
Thanks.
Sure. I think with regard to wine, I don't know that there's a real change there. I think that we have long said that we very much like the wine business and we are committed to returning it to strong income growth. But we've also said that it's not core like the rest of our tobacco businesses are. And that's been the case for quite some time and there hasn't been a change there.
So we remain committed to running that business well. It's had a bit of a downturn over the last 2 years, but we're confident that the employees there have strategies in place to turn that around. With regard to Cronos, I think that you shouldn't assume that our existing product portfolio at Cronos is where we're going to stop. I think that both we and Cronos think there are opportunities really across the world in a variety of product categories, both recreational and medicinal that would involve them entering new product forms and developing new products and new product brands. I think it's early days there and we have really not restricted our thinking with regard to that.
I think I'll hand over to Billy the question on cigarette pricing.
Yes, Nick. I would point you to on pricing. It's the process of data analytics that we've enhanced here that allows us to be more efficient and effective the way we think about the total value equation is specifically the promotional piece that we run at retail. So that drives the overall price realization up through time.
Great. Thanks.
Thanks, Dave.
Thank you. At this time, I would like to turn the call back over to Ms. Paige Magnus for closing comments.
Thank you all for joining our call this morning. If you have any follow-up questions, please call us at Investor Relations. Thank you.
Thank you. This concludes today's conference call. You may now disconnect.