For years, tobacco giant Altria Group (NYSE:MO) has looked for ways to bolster its growth. Though it has been able to use its pricing power to keep revenue and profits from its core cigarette business moving higher, Altria has had to face the reality that cigarette sales volumes have moved inexorably lower, and will likely continue to do so indefinitely. That’s made it essential for the company to seek out new opportunities, such as the roughly 10% stake it acquired in beer-maker Anheuser-Busch InBev.
Given that, and considering that one of the hottest growth businesses in the world right now is cannabis, it would seem like a natural move for a company with Altria’s history in manufacturing and distributing smokeable products to get into marijuana.
On Friday, Altria announced that it would do just that with a huge investment in Canadian marijuana producer Cronos Group (NASDAQ:CRON). At the same time, it said it will move away from some product lines that it once viewed as promising, and instead refocus its efforts on what it sees as its most lucrative businesses.
Image source: Altria Group.
What Altria and Cronos agreed to
Speculation had swirled in recent days about the possibility of a collaborative arrangement between Altria and Cronos. Some industry watchers had expected a full buyout bid, while others saw Constellation Brands‘ deal with Canopy Growth as a model Altria could follow.
In the end, Altria didn’t offer to acquire Cronos outright, but the agreement gives it the right to buy its way to majority control in the future. Specifically, the terms of the deal call for Altria to buy 146.2 million Cronos shares at $16.25 Canadian dollars per share, (roughly $12.25 in U.S. dollars at current exchange rates). That will give Altria a 45% stake in Cronos for about $1.8 billion (CA$2.4 billion). That share price is about 40% higher than where Cronos traded in late November, before news of its discussions with Altria became public.
In addition, Altria will receive warrants to purchase another 10% of Cronos’ outstanding shares, which it will have four years from the deal’s closing date to exercise. It would have to pay CA$19 per share — about $14.25 — to Cronos for those shares, when and if it chooses to exercise the warrants.
Altria’s role in the marijuana business
Along with its hefty stake in the company, Altria will get the right name four directors to Cronos’ board, which will be expanded to seven members following the transaction. One of those directors will be independent, but it’s clear that Altria is gaining considerable influence over Cronos’ strategic direction.
Image source: Cronos Group.
What Cronos gets is status as Altria’s exclusive partner in the cannabis space. Altria will also provide it with support in areas like research and development, marketing, and dealing with regulatory and government relations.
A big change in reduced-risk strategy
Given the hype surrounding the legal marijuana industry, it’s possible that many investors will overlook the other big news Altria revealed Friday. The tobacco company said it will discontinue production and distribution of all of its MarkTen and Green Smoke e-vapor products, as well as its Verve line of nicotine gum. Altria’s view is that between those products’ weak financial performance and the regulatory challenges it faces with them, it can more profitably focus its efforts elsewhere.
The company was quick to emphasize that it’s not giving up on e-cigarettes entirely. “We remain committed to being the leader in providing adult smokers innovative alternative products that reduce risk, including e-vapor,” said CEO Howard Willard. Yet as he sees it, “We do not see a path to leadership with these particular products and believe that now is the time to refocus our resources.” This strategic move could end up driving it toward a collaboration with e-cigarette specialist Juul Labs, which has enjoyed much greater commercial success for its products.
Altria’s big growth opportunities
Together, Friday’s news events indicate that Altria sees two primary ways to move forward — growing the market for the IQOS heated-tobacco device, and establishing a strong position in global cannabis production and distribution. The company still needs regulatory approval from the Food and Drug Administration to sell IQOS in the U.S. — a situation that could make this Cronos deal even more important to Altria as the two companies explore the potential of their collaboration.