US smoking rates are at all-time lows, and the FDA is pushing to restrict sales of menthol products and flavored e-cigarettes. Meanwhile General Motors has announced an accelerated restructuring plan, and concerns have cropped up regarding steel demand in China.
By Kris Rosemann
The Centers for Disease Control and Prevention (CDC) estimates that 14% of US adults, or roughly 34.3 million people, smoked cigarettes in 2017, a record low, compared to 15.5% in 2016 and 42.4% in 1965, the first year the figure was tracked. Public health initiatives have clearly played a role in the decline, but the CDC also estimates that 47 million people still use some form of tobacco product. The US Food and Drug Administration (FDA) is not done in its efforts to curb tobacco use as it recently announced plans to proceed with a multiyear regulatory plan to restrict sales of flavored e-cigarettes and ban menthol cigarettes and flavored cigars.
Menthol cigarettes currently account for approximately 20% of total cigarettes sold in the US, and simulated newsletter portfolio holding Altria (MO) generates roughly 10% of its retail share from menthol cigarette sales. The potential for a full ban on menthol cigarettes has the potential to eat into profits for big tobacco, even as there is no sure way of forecasting how many menthol cigarette smokers would switch to non-menthol cigarettes rather than quitting smoking altogether and the process is likely to be a long and drawn out legal battle. Factors for future profit erosion include the higher level of premium brand exposure menthol cigarettes have relative to non-menthol cigarettes, potential escalation of price wars for companies battling to retain share, and of course the ongoing threat of material volume declines. The potential for price wars in the big tobacco space is one of the more interesting potential factors given the investment thesis on the space has been centered around pricing power for some time as volumes remain in secular decline.
Iron ore and steel prices in China (FXI) continue to face notable pressure as concerns over the potentially slowing Chinese economy have many market observers questioning whether or not demand for such metal consumption will pick up following the seasonally-slow winter months. Slowing consumer spending and property sales are being pointed to as evidence for a potentially weakening economy, and exports to the US are expected to only face greater pressure as trade tensions persist. China is the world’s largest producer and consumer of steel, making its economic performance vital to the evaluation of global metals markets.
Shares of simulated newsletter portfolios idea General Motors (GM) received a shot in the arm after the company released an accelerated transformation plan November 26 that it expects to result in annual run-rate cash savings of ~$6 billion by the end of 2020. The annual savings target includes $4.5 billion in cost reductions and a lowering of annual run-rate capital spending of $1.5 billion. GM expects to record pre-tax charges of $3-$3.8 billion related to its transformation plan, the majority of which will be considered one-time items for the calculation of adjusted profit measures such as EBIT-adjusted and will be incurred in the fourth quarter of 2018 and first quarter of 2019.
Key facets of the plan include the transformation of product development, optimization of its product portfolio, and increasing capacity utilization. The company plans to prioritize investments in next-generation battery-electric architectures, and it expects more than 75% of its global sales volume will come from five vehicle architectures by the early 2020s. In addition to its efforts to increase capacity utilization via not allocating resources to five plants across North America and two additional plants internationally in 2019, GM plans to reduce its salaried and salaried contract staff by 15%, including a 25% cut to the number of executives in an attempt to streamline decision making.
On the surface, we like what the transformation plan should mean for GM’s bottom line–management expects $6 billion in adjusted automotive free cash flow improvement by the end of 2020–and we continue to feel that the market is not giving it enough credit for its investments in next-generation vehicle technology. We’re placing our fair value estimate for GM under review as we digest the accelerated transformation plan, but we continue to highlight the company as an idea in both simulated newsletter portfolios. Shares yield ~4% as of this writing.
Auto Manufacturers: F, GM, HMC, HOG, TM, TSLA
Tobacco: BTI, MO, PM, SWM, VGR
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Kris Rosemann does not own shares in any of the securities mentioned above. Some of the companies written about in this article may be included in Valuentum’s simulated newsletter portfolios. Contact Valuentum for more information about its editorial policies.