Altria’s nationwide e-cig rollout begins in q2: why it could be huge for shareholders (mo)

Altria Group (NYSE MO ) is playing catch up in the e cigarette market after being the last of the big three tobacco companies to enter the space. However, during a presentation to analysts Wednesday at the Consumer Analyst Group of New York conference, Altria announced that it is finally ready for a nationwide rollout of its MarkTen e cigarette. At the same conference, Lorillard (NYSE LO ) announced its intentions to expand to the European Union after having already captured a dominant share of the U.S. market.

Meanwhile, Reynolds American (NYSE RAI ) plans to distribute its Vuse e cigarette nationwide later this year. The scramble to get a foothold in the market is evidence that e cigarettes are the real deal.

What it means for investors
The e cigarette market is still in its infancy Euromonitor estimates worldwide sales to reach $2.5 billion in 2013, just a fraction of Altria’s $22 billion in sales of smokable tobacco products. However, Wells Fargo estimates the e cigarette market could grow to more than $20 billion in the U.S. by 2023. If Altria were to capture a 25% share, it would add another $5 billion in annual revenue at a time when revenue growth is hard to come by.

E cigarette sales are bound to cannibalize traditional cigarette sales, so entering the market is as much a defensive move as a growth initiative. The Wall Street Journal reports that «e cigarettes drove total industry cigarette volumes down by about 600 million cigarettes, or about 1 percent» during the first quarter of 2013. That estimate excludes Internet sales, which is a popular distribution channel among smaller manufacturers.

Altria’s MarkTen e cigarette has so far been tested in Indiana and Arizona. It captured a 48% share of the Arizona market in just seven weeks suggesting that Altria’s significant distribution capabilities and product’s desirability are strong enough to capture a large share of the nationwide e cigarette market. Altria’s CEO says the company will make small adjustments to the flavor profile, among other minor improvements, before distributing MarkTen nationwide in this year’s second quarter.

Altria packs a powerful one two punch with a discount e cigarette and a premium e cigarette. MarkTen is a disposable e cigarette that operates at the lower end of the market. The starter pack will sell for $9.50 consumers will have to pay extra for refill cartridges. By comparison, Altria’s most recent acquisition Green Smoke sells starter packs for its premium e cigarettes at prices ranging from $30 to $170, with the most popular pack costing $100. Green Smoke, which likely fetches higher margins than MarkTen, could eventually become Altria’s flagship e cigarette brand.

However, for the time being, Lorillard dominates the market. Blu captured a 47% market share in 2013. Blu and privately owned brands Njoy and Logic capture three fourths of the retail market for e cigarettes. However, with Altria’s and Reynolds American’s vast distribution capabilities, the market may soon be split five ways between the leading e cigarette brands.

Although competition could spark a destructive price war, there is enough room for growth that competition may be relatively light over the next few years. According to the Centers for Disease Control and Prevention, half of the more than 45 million American cigarette smokers try to quit each year. E cigarettes are believed to be effective smoking cessation devices because they mimic the look and feel of a real cigarette but are believed to be less harmful. This may also allow the devices to escape the high taxes and strict regulations that have led to declining traditional cigarette volume.

Even though a rising tide will lift all boats, it is crucial that MarkTen gets into the hands of as many consumers as possible early on if Altria is to dominate the market. Although consumers are still experimenting with different brands, they may eventually become as loyal to one e cigarette brand as many are to their traditional cigarette brand. Altria knows firsthand how valuable brand loyalty is Marlboro has a dominant 44% share of the cigarette market and has tremendous pricing power. Altria needs to lock in consumers to MarkTen and Green Smoke before they get hooked on another brand.

Foolish takeaway
Altria is about to enter the fastest growing market the tobacco industry has seen in decades. Its 48% market share capture in Arizona is a sign that it could eventually dominate the nationwide market investors should monitor management’s quarterly comments to see if the nationwide introduction goes as smoothly as it did in Arizona. Although traditional cigarette volumes will continue to decline and e cigarettes may accelerate that decline Altria’s multibillion dollar revenue opportunity in e cigarettes could give the stock new life if the company executes.

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