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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
When used in this Quarterly Report on Form 10-Q (“Form 10-Q”), the terms “Altria,” “we,” “us” and “our” refer to either (i) Altria Group, Inc. and its consolidated subsidiaries or (ii) Altria Group, Inc. only and not its consolidated subsidiaries, as appropriate in the context.
In this Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) section, we refer to the following “adjusted” financial measures: adjusted operating companies income (loss) (“OCI”); adjusted OCI margins; adjusted net earnings attributable to Altria; adjusted diluted earnings per share attributable to Altria; and adjusted effective tax rates. These adjusted financial measures are not required by, or calculated in accordance with, United States generally accepted accounting principles (“GAAP”) and may not be calculated the same as similarly titled measures used by other companies. These adjusted financial measures should thus be considered as supplemental in nature and not considered in isolation or as a substitute for the related financial information prepared in accordance with GAAP. For a further description of these non-GAAP financial measures, see the Non-GAAP Financial Measures section below.
Executive Summary
Our Business
We have a leading portfolio of tobacco products for U.S. tobacco consumers age 21+. Our Vision by 2030 is to responsibly lead the transition of adult smokers to a smoke-free future (“Vision”). We are Moving Beyond Smoking™, leading the way in moving adult smokers away from cigarettes by taking action to transition millions to potentially less harmful choices - believing it is a substantial opportunity for adult tobacco consumers, our businesses and society.
Our wholly owned subsidiaries include leading manufacturers of both combustible and smoke-free products. In combustibles, we own Philip Morris USA Inc. (“PM USA”), the most profitable U.S. cigarette manufacturer, and John Middleton Co. (“Middleton”), a leading U.S. cigar manufacturer.
Our smoke-free portfolio includes ownership of U.S. Smokeless Tobacco Company LLC (“USSTC”), the leading global moist smokeless tobacco (“MST”) manufacturer, and Helix Innovations LLC (“Helix”), a leading manufacturer of oral nicotine pouches. Additionally, we have a majority-owned joint venture, Horizon Innovations LLC (“Horizon”), for the U.S. marketing and commercialization of heated tobacco stick products and, through a separate agreement, we have the exclusive U.S. commercialization rights to the IQOS Tobacco Heating System and Marlboro HeatSticks through April 2024.
Our equity investments include Anheuser-Busch InBev SA/NV (“ABI”), the world’s largest brewer, Cronos Group Inc. (“Cronos”), a leading Canadian cannabinoid company, and JUUL Labs, Inc. (“JUUL”), a U.S. based e-vapor company.
The brand portfolios of our tobacco operating companies include Marlboro, Black & Mild, Copenhagen, Skoal and on!. Trademarks and service marks related to Altria referenced in this Form 10-Q are the property of Altria or our subsidiaries or are used with permission.
Trends and Developments
In this MD&A section, we discuss factors that have impacted our business as of the date of this Form 10-Q. In addition, we are aware of certain trends and developments that could, individually or in the aggregate, have a material impact on our business, including the value of our equity investments, in the future. In this Trends and Developments section, we focus on the potential effects on our business resulting from the recent rise in the rate of inflation, supply chain disruptions, foreign exchange rates, the Russian invasion of Ukraine and recent regulatory actions.
We continue to monitor the evolving macroeconomic and geopolitical landscape. High rates of inflation continued in the third quarter of 2022, driven by increasing global energy, commodity and food prices, which were further exacerbated by other factors, including supply and demand imbalances, labor shortages and the Russian invasion of Ukraine. High inflation, high gas prices, rising interest rates and the end of federal government stimulus could continue to impact our business by negatively impacting adult tobacco consumers’ disposable income and future purchasing behavior. We expect fluctuations in discount product share for cigarettes and MST products as price sensitive adult tobacco consumers react to their economic conditions. We continue to monitor the effect of these dynamics on adult tobacco consumers and their purchasing behaviors, including overall tobacco product expenditures, mix between premium and discount brand purchases and adoption of smoke-free products. Increases in inflation also have a direct and adverse impact on our Master Settlement Agreement (“MSA”) expense and other direct and indirect costs. We expect inflation to continue at increased levels for the remainder of 2022, and the extent of any effects on adult tobacco consumer purchasing behavior depends in part on the magnitude and duration of such increased inflation levels. See Operating Results by Business Segment - Tobacco Space - Business Environment for additional information on evolving trends in the tobacco industry and the impacts to our business from increased inflation.
Volatility in domestic and global economies and disruptions in the supply and distribution chains continued in the third quarter of 2022, resulting from several factors, including the on-going impacts of inflation, energy shortages in Europe, raw materials availability and the Russian invasion of Ukraine. While our operating companies focus on the manufacture and sale of tobacco products in the United States and have little direct exposure to Russia and Ukraine, we have experienced negative effects on the cost and availability of certain raw materials and component parts for our products. We continue to work to mitigate the potential negative impacts of these macroeconomic and geopolitical dynamics on our businesses through, among other actions, proactive engagement with current and potential suppliers and distributors, the development of alternative sourcing strategies, long-term supply contracts, evolution of our safety, health and environmental protocols at our facilities and prudent oversight of our liquidity. See Operating Results by Business Segment - Tobacco Space - Business Environment for additional information on the supply chain and other impacts of the macroeconomic and geopolitical environment on our business.
Tobacco companies are subject to broad and evolving regulatory and legislative frameworks that could have a material impact on our business. For example, the U.S. Food and Drug Administration (“FDA”) has issued proposed product standards regarding menthol in cigarettes and characterizing flavors in cigars, and, in June 2022, the Biden Administration published plans for future potential regulatory actions that include the FDA’s plans to develop a proposed product standard that would establish a maximum nicotine level for cigarettes and certain other combusted tobacco products. See Operating Results by
Business Segment - Tobacco Space - Business Environment for additional information on the nature, scope and potential impacts of regulatory and legislative developments.
In June 2022, the FDA issued marketing denial orders (“MDOs”) to JUUL ordering all of JUUL’s products currently marketed in the United States off the market. In July 2022, the FDA administratively stayed the MDOs on a temporary basis, citing its determination that there are scientific issues unique to the JUUL pre-market tobacco applications (“PMTA”) that warrant additional agency review. This administrative stay temporarily suspends the MDOs, and JUUL’s products currently remain on the market. See Operating Results by Business Segment - Tobacco Space - Business Environment - FSPTCA and FDA Regulation - FDA Regulatory Actions - Electronic Nicotine Delivery System Products for additional information regarding the MDOs. We considered, among other factors, the impact of the FDA’s actions in conducting our quarterly quantitative valuation of our investment in JUUL at June 30, 2022, which resulted in us recording a non-cash, pre-tax unrealized loss of $1.2 billion for the three months ended June 30, 2022. We will continue to monitor developments with the FDA’s additional review, among other factors, in our quarterly quantitative valuations of JUUL.
The adverse macroeconomic and geopolitical landscape has continued to impact global businesses, including ABI, and the global markets and we expect this dynamic to continue in the near term. While ABI’s business performance has been resilient, its business has continued to be impacted by supply chain constraints across certain markets, foreign exchange rate fluctuations, inflation, commodity cost headwinds and the Russian invasion of Ukraine (as evidenced by ABI fully impairing its joint venture with exposure to Russia and Ukraine in the first quarter of 2022). Additionally, the macroeconomic and geopolitical factors have contributed to significant changes in certain foreign exchange rates, including the Euro to U.S. dollar exchange rate, and in the global equity markets. We evaluated the factors related to the decline in the fair value of our equity investment in ABI below its carrying value at September 30, 2022, including the macroeconomic and geopolitical factors, and concluded that the decline in fair value of our equity investment in ABI at September 30, 2022 was other than temporary. As a result, we recorded a non-cash, pre-tax impairment charge of $2.5 billion for the nine and three months ended September 30, 2022.
See Note 3. Investments in Equity Securities to our condensed consolidated financial statements in Part I, Item 1. Financial Statements of this Form 10-Q (“Item 1”) and Critical Accounting Policies and Estimates for additional information on our equity investments.
In October 2022, we modified our heated tobacco portfolio of smoke-free products by (i) entering into an agreement with a subsidiary of Philip Morris International Inc. (“PMI”) to, among other things, transition and ultimately conclude our relationship with respect to the IQOS Tobacco Heating System® (“IQOS System”) in the U.S. and (ii) entering into a joint venture with a subsidiary of Japan Tobacco Inc. for the U.S. marketing and commercialization of heated tobacco stick products. For further discussion, see Note 13. Subsequent Events to our condensed consolidated financial statements in Item 1 (“Note 13”).
We continue to monitor the increased risk of cyber attacks as a result of the Russian invasion of Ukraine. We have implemented heightened cybersecurity monitoring of our systems and those of our critical suppliers designed to address the evolving threat landscape.
While the impairment of our equity investment in ABI and reduction in the fair value of our equity investment in JUUL have had a material adverse effect on our financial results, to date, we have not experienced any material adverse effects on our business or our ability to achieve our Vision as a result of the trends and developments discussed above. As the trends and developments discussed above evolve and new ones emerge, we will continue to evaluate the potential impacts on our business and our Vision.
Consolidated Results of Operations for the Nine Months Ended September 30, 2022
The changes in net earnings (losses) attributable to Altria and diluted earnings (losses) per share (“EPS”) attributable to Altria for the nine months ended September 30, 2022, from the nine months ended September 30, 2021, were due primarily to the following:
| (in millions, except per share data) | Net Earnings (Losses) | Diluted EPS | |||||||||
| For the nine months ended September 30, 2021 | $ | 851 | $ | 0.46 | |||||||
| 2021 NPM Adjustment Items | (57) | (0.03) | |||||||||
| 2021 Asset impairment, exit, implementation, acquisition and disposition-related costs | 95 | 0.05 | |||||||||
| 2021 Tobacco and health and certain other litigation items | 113 | 0.06 | |||||||||
| 2021 ABI-related special items | 4,828 | 2.60 | |||||||||
| 2021 Cronos-related special items | 205 | 0.11 | |||||||||
| 2021 Loss on early extinguishment of debt | 496 | 0.27 | |||||||||
| 2021 Income tax items | (5) | — | |||||||||
| Subtotal 2021 special items | 5,675 | 3.06 | |||||||||
| 2022 NPM Adjustment Items | 45 | 0.02 | |||||||||
| 2022 Asset impairment, exit, implementation, acquisition and disposition-related costs | (8) | — | |||||||||
| 2022 Tobacco and health and certain other litigation items | (76) | (0.04) | |||||||||
| 2022 JUUL changes in fair value | (1,355) | (0.76) | |||||||||
| 2022 ABI-related special items | (2,022) | (1.12) | |||||||||
| 2022 Cronos-related special items | (172) | (0.09) | |||||||||
| 2022 Income tax items | 33 | 0.02 | |||||||||
| Subtotal 2022 special items | (3,555) | (1.97) | |||||||||
| Fewer shares outstanding | — | 0.08 | |||||||||
| Operations | 103 | 0.06 | |||||||||
| For the nine months ended September 30, 2022 | $ | 3,074 | $ | 1.69 | |||||||
| 2022 Reported Net Earnings (Losses) | $ | 3,074 | $ | 1.69 | |||||||
| 2021 Reported Net Earnings (Losses) | $ | 851 | $ | 0.46 | |||||||
| % Change | 100%+ | 100%+ | |||||||||
| 2022 Adjusted Net Earnings and Adjusted Diluted EPS | $ | 6,629 | $ | 3.66 | |||||||
| 2021 Adjusted Net Earnings and Adjusted Diluted EPS | $ | 6,526 | $ | 3.52 | |||||||
| % Change | 1.6 | % | 4.0 | % | |||||||
For a discussion of special items and other business drivers affecting the comparability of statements of earnings (losses) amounts and reconciliations of adjusted earnings attributable to Altria and adjusted diluted EPS attributable to Altria, see the Consolidated Operating Results section below.
**▪**Fewer Shares Outstanding: Fewer shares outstanding were due to shares we repurchased under our share repurchase program.
**▪**Operations: The increase of $103 million in operations (which excludes the impact of special items shown in the table above) was due primarily to:
-
higher OCI; and
-
lower interest and other debt expense, net;
partially offset by:
- lower income from our investments in equity securities.
For further details, see the Consolidated Operating Results and Operating Results by Business Segment sections below.
Consolidated Results of Operations for the Three Months Ended September 30, 2022
The changes in net earnings (losses) attributable to Altria and diluted EPS attributable to Altria for the three months ended September 30, 2022, from the three months ended September 30, 2021, were due primarily to the following:
| (in millions, except per share data) | Net Earnings (Losses) | Diluted EPS | |||||||||
| For the three months ended September 30, 2021 | $ | (2,722) | $ | (1.48) | |||||||
| 2021 NPM Adjustment Items | (33) | (0.02) | |||||||||
| 2021 Asset impairment, exit, implementation, acquisition and disposition-related costs | 52 | 0.03 | |||||||||
| 2021 Tobacco and health and certain other litigation items | 80 | 0.04 | |||||||||
| 2021 JUUL changes in fair value | (100) | (0.05) | |||||||||
| 2021 ABI-related special items | 4,899 | 2.65 | |||||||||
| 2021 Cronos-related special items | 89 | 0.05 | |||||||||
| 2021 Income tax items | (8) | — | |||||||||
| Subtotal 2021 special items | 4,979 | 2.70 | |||||||||
| 2022 Asset impairment, exit, implementation, acquisition and disposition-related costs | (1) | — | |||||||||
| 2022 Tobacco and health and certain other litigation items | (32) | (0.02) | |||||||||
| 2022 JUUL changes in fair value | (100) | (0.06) | |||||||||
| 2022 ABI-related special items | (1,980) | (1.10) | |||||||||
| 2022 Cronos-related special items | (5) | — | |||||||||
| 2022 Income tax items | 42 | 0.02 | |||||||||
| Subtotal 2022 special items | (2,076) | (1.16) | |||||||||
| Fewer shares outstanding | — | 0.03 | |||||||||
| Change in tax rate | 1 | — | |||||||||
| Operations | 42 | 0.03 | |||||||||
| For the three months ended September 30, 2022 | $ | 224 | $ | 0.12 | |||||||
| 2022 Reported Net Earnings (Losses) | $ | 224 | $ | 0.12 | |||||||
| 2021 Reported Net Earnings (Losses) | $ | (2,722) | $ | (1.48) | |||||||
| % Change | 100%+ | 100%+ | |||||||||
| 2022 Adjusted Net Earnings and Adjusted Diluted EPS | $ | 2,300 | $ | 1.28 | |||||||
| 2021 Adjusted Net Earnings and Adjusted Diluted EPS | $ | 2,257 | $ | 1.22 | |||||||
| % Change | 1.9 | % | 4.9 | % | |||||||
For a discussion of special items and other business drivers affecting the comparability of statements of earnings (losses) amounts and reconciliations of adjusted earnings attributable to Altria and adjusted diluted EPS attributable to Altria, see the Consolidated Operating Results section below.
**▪**Fewer Shares Outstanding: Fewer shares outstanding were due to shares we repurchased under our share repurchase program.
**▪**Operations: The increase of $42 million in operations (which excludes the impact of special items shown in the table above) was due primarily to higher OCI.
For further details, see the Consolidated Operating Results and Operating Results by Business Segment sections below.
2022 Forecasted Results
We narrow our guidance for 2022 full-year adjusted diluted EPS to be in a range of $4.81 to $4.89, representing a growth rate of 4.5% to 6% over our 2021 full-year adjusted diluted EPS base of $4.61, as shown in the first table below. While the 2022 full-year adjusted diluted EPS guidance accounts for a range of scenarios, the external environment remains dynamic. We will continue to monitor conditions related to (i) the economy, including the impact of high inflation, rising interest rates and global supply chain disruptions, (ii) adult tobacco consumer dynamics, including disposable income, purchasing patterns and adoption of smoke-free products, and (iii) regulatory and legislative developments.
Our 2022 full-year adjusted diluted EPS guidance range includes planned investments in support of our Vision, such as (i) enhancement of our digital consumer engagement system, (ii) increased smoke-free product research, development and
regulatory preparation expenses and (iii) marketplace activities in support of our smoke-free products. The guidance range also includes anticipated inflationary increases in MSA expenses and direct and indirect materials costs and our current expectation that PM USA will not have access to the IQOS System in 2022.
| Reconciliation of 2021 Reported Diluted EPS to 2021 Adjusted Diluted EPS | |||||
| 2021 Reported diluted EPS | $ | 1.34 | |||
| NPM Adjustment Items | (0.03) | ||||
| Asset impairment, exit, implementation, acquisition and disposition-related costs | 0.05 | ||||
| Tobacco and health and certain other litigation items | 0.07 | ||||
| ABI-related special items | 2.66 | ||||
| Cronos-related special items | 0.25 | ||||
| Loss on early extinguishment of debt | 0.27 | ||||
| 2021 Adjusted diluted EPS | $ | 4.61 |
The following (income) expense items are excluded from our 2022 forecasted adjusted diluted EPS growth rate:
| (Income) Expense Excluded from 2022 Forecasted Adjusted Diluted EPS | |||||
| NPM Adjustment Items | $ | (0.02) | |||
| Tobacco and health and certain other litigation items | 0.04 | ||||
| JUUL changes in fair value | 0.76 | ||||
| ABI-related special items | 1.12 | ||||
| Cronos-related special items | 0.09 | ||||
| Tax items | (0.02) | ||||
| $ | 1.97 |
For a discussion of certain income and expense items excluded from the forecasted results above, see the Consolidated Operating Results section below.
Our full-year adjusted diluted EPS forecast excludes the impact of certain income and expense items, including those items noted in the Non-GAAP Financial Measures section below, that our management believes are not part of underlying operations. Our management cannot estimate on a forward-looking basis the impact of these items on our reported diluted EPS because these items, which could be significant, may be unusual or infrequent, are difficult to predict and may be highly variable. As a result, we do not provide a corresponding GAAP measure for, or reconciliation to, our adjusted diluted EPS forecast.
Non-GAAP Financial Measures
While we report our financial results in accordance with GAAP, our management reviews OCI, which is defined as operating income before general corporate expenses and amortization of intangibles, to evaluate the performance of, and allocate resources to, our segments. Our management also reviews certain financial results, including OCI, OCI margins, net earnings (losses) attributable to Altria and diluted EPS, on an adjusted basis, which excludes certain income and expense items that our management believes are not part of underlying operations. These items may include, for example, loss on early extinguishment of debt, restructuring charges, asset impairment charges, acquisition-related and disposition-related costs, equity investment-related special items (including any changes in fair value of our equity investment recorded at fair value and any changes in the fair value of related warrants and preemptive rights), certain income tax items, charges associated with tobacco and health and certain other litigation items, and resolutions of certain non-participating manufacturer (“NPM”) adjustment disputes under the MSA (such dispute resolutions are referred to as “NPM Adjustment Items”). Our management does not view any of these special items to be part of our underlying results as they may be highly variable, may be unusual or infrequent, are difficult to predict and can distort underlying business trends and results. Our management also reviews income tax rates on an adjusted basis. Our adjusted effective tax rate may exclude certain income tax items from our reported effective tax rate.
Our management believes that adjusted financial measures provide useful additional insight into underlying business trends and results, and provide a more meaningful comparison of year-over-year results. Our management uses adjusted financial measures and regularly provides these to our chief operating decision maker (“CODM”) for planning, forecasting and evaluating business and financial performance, including allocating resources and evaluating results relative to employee compensation targets. These adjusted financial measures are not required by, or calculated in accordance with GAAP and may not be calculated the same as similarly titled measures used by other companies. These adjusted financial measures should thus be considered as supplemental in nature and not considered in isolation or as a substitute for the related financial information prepared in accordance with GAAP. Except as noted in the 2022 Forecasted Results section above, when we provide a non-GAAP measure in this Form 10-Q, we also provide a reconciliation of that non-GAAP financial measure to the most directly comparable GAAP financial measure.
Discussion and Analysis
Our critical accounting policies and estimates are discussed in our Annual Report on Form 10-K for the year ended December 31, 2021 (the “2021 Form 10-K”); there have been no material changes to these critical accounting policies and estimates, except as noted below.
Critical Accounting Policies and Estimates
Investment in ABI
At September 30, 2022, our equity investment in ABI consisted of 185 million restricted shares of ABI (the “Restricted Shares”) and 12 million ordinary shares of ABI. The fair value of our equity investment in ABI is based on: (i) unadjusted quoted prices in active markets for ABI’s ordinary shares and was classified in Level 1 of the fair value hierarchy and (ii) observable inputs other than Level 1 prices, such as quoted prices for similar assets for the Restricted Shares, and was classified in Level 2 of the fair value hierarchy. We can convert the Restricted Shares to ordinary shares at our discretion. Therefore, the fair value of each Restricted Share is based on the value of an ordinary share.
At December 31, 2021, the fair value of our equity investment in ABI was $11.9 billion (carrying value of $11.1 billion), which exceeded its carrying value by $0.8 billion or approximately 7%. In May 2022, the fair value of our equity investment in ABI declined below its carrying value and has not recovered. Accounting guidance requires the evaluation of the following factors when determining if the decline in fair value is other than temporary: (i) the duration and magnitude of the fair value decline; (ii) the financial condition and near-term prospects of the investee; and (iii) the investor’s intent and ability to hold its equity investment until recovery. In preparing our financial statements for the period ended September 30, 2022, we evaluated the factors related to the fair value decline, including the macroeconomic and geopolitical factors that have significantly impacted certain foreign exchange rates and global equity markets. We concluded that the decline in fair value of our equity investment in ABI at September 30, 2022 was other than temporary. As a result, we recorded a non-cash, pre-tax impairment charge of $2.5 billion for the nine and three months ended September 30, 2022, which was recorded to (income) losses from investments in equity securities in our condensed consolidated statements of earnings (losses). This impairment charge reflects the difference between the fair value of our equity investment in ABI using ABI’s share price at September 30, 2022 and the carrying value of our equity investment in ABI at September 30, 2022, prior to recording the impairment charge. This conclusion was based on the following factors:
▪The adverse macroeconomic and geopolitical landscape has continued to impact global businesses, including ABI, and the global markets, and we expect this dynamic to continue in the near term. While ABI’s business performance has been resilient, its business has continued to be impacted by supply chain constraints across certain markets, foreign exchange rate fluctuations, inflation, commodity cost headwinds and the Russian invasion of Ukraine (as evidenced by ABI fully impairing its joint venture with exposure to Russia and Ukraine in the first quarter of 2022); and
▪Although the fair value of our investment in ABI was below its carrying value at June 30, 2022, we were optimistic about a near-term recovery given ABI’s second quarter of 2022 earnings report in which ABI’s volume and EBITDA performance in the first half of 2022 improved meaningfully versus the same period in 2021. However, during the third quarter of 2022, ABI’s share price further declined, despite its improved second quarter of 2022 results, due in part to the macroeconomic and geopolitical factors that have impacted the global equity markets discussed above. In addition, the fair value of our equity investment in ABI has been further negatively impacted by the continued decline in the Euro to U.S. dollar foreign exchange rate.
Although we recorded an impairment charge on our equity investment in ABI for the nine and three months ended September 30, 2022, we continue to believe that ABI’s share price performance is not reflective of its underlying long-term equity value and that ABI’s share price will recover. However, we believe that it will take longer than previously expected as the macroeconomic and geopolitical factors discussed above may continue to impact foreign exchange rates and ABI’s financial results and share price performance in the near term.
During October 2022, ABI’s share price continued to fluctuate and at October 24, 2022, there has not been a meaningful recovery in value from the most recent balance sheet until the date of this filing. We will continue to monitor our equity investment in ABI, including the impact of the macroeconomic and geopolitical factors and subsequent recovery on ABI’s business and market valuation.
Investment in JUUL
At September 30, 2022, the estimated fair value of our investment in JUUL was $350 million, as compared with $450 million at June 30, 2022 and $1.7 billion at December 31, 2021.
In June 2022, the FDA issued MDOs to JUUL ordering all of JUUL’s products currently marketed in the United States off the market. In July 2022, the FDA administratively stayed the MDOs on a temporary basis, citing its determination that there are scientific issues unique to the JUUL PMTAs that warrant additional review. This administrative stay temporarily suspends the MDOs and JUUL’s products currently remain on the market.
The decrease in the estimated fair value of our investment in JUUL for the nine months ended September 30, 2022 was primarily driven by (i) a decrease in the likelihood of a favorable outcome from the FDA for JUUL’s products that are currently marketed in the United States, which have received MDOs and are now under additional administrative review, (ii) a decrease in the likelihood of JUUL maintaining adequate liquidity to fund projected cash needs, which could result in JUUL seeking protection under bankruptcy or other insolvency laws, (iii) projections of higher operating expenses resulting in lower long-term operating margins and (iv) an increase in the discount rate due to changes in market factors, partially offset by the effect of passage of time on the projected cash flows.
The decrease in the estimated fair value of our investment in JUUL for the three months ended September 30, 2022 was primarily driven by an increase in the discount rate due to changes in market factors, partially offset by the effect of passage of time on the projected cash flows.
We use an income approach to estimate the fair value of our investment in JUUL. The income approach reflects the discounting of future cash flows for the United States and international markets at a rate of return that incorporates the risk-free rate for the use of those funds, the expected rate of inflation and the risks associated with realizing future cash flows.
In determining the fair value of our investment in JUUL, we made certain judgments, estimates and assumptions, the most significant of which were likelihood of certain potential regulatory and liquidity outcomes, sales volume, operating margins, discount rates and perpetual growth rates. All significant inputs used in the valuation are classified in Level 3 of the fair value hierarchy. Additionally, in determining these significant assumptions, we made judgments regarding the: (i) likelihood of certain potential regulatory actions impacting the e-vapor category and specifically whether the FDA will ultimately authorize JUUL’s products, which have received MDOs and are now under additional administrative review; (ii) likelihood of JUUL maintaining adequate liquidity to fund projected cash needs, the absence of which could result in JUUL seeking protection under bankruptcy or other insolvency laws; (iii) risk created by the number and types of legal cases pending against JUUL; (iv) expectations for the future state of the e-vapor category, including competitive dynamics; and (v) timing of international expansion plans. Due to these uncertainties, our future cash flow projections of JUUL are based on a range of scenarios that consider certain potential regulatory, liquidity and market outcomes.
Although our discounted cash flow analyses were based on assumptions that our management considered reasonable and were based on the best available information at the time that the analyses were developed, there is significant judgment used in determining future cash flows. If the following factors, in isolation, significantly deviate from current expectations, we believe that they have the potential to materially impact our significant assumptions of the likelihood of certain potential regulatory and liquidity outcomes, sales volume, operating margins, discount rates and perpetual growth rates, and thus potentially materially increase our valuation of our investment in JUUL:
▪favorable regulatory and legislative developments at the international, federal, state and local levels such as FDA authorization of (i) existing JUUL products that have received MDOs from the FDA and that are now under additional administrative review or (ii) future tobacco product applications for JUUL’s flavored e-vapor products, which are currently not permitted in the market without FDA authorization;
▪JUUL’s ability to maintain adequate financing to fund projected cash needs;
▪favorable developments related to litigation; and
▪favorable financial and market performance, including substantial changes in competitive dynamics.
While our management believes that the recorded value of our investment in JUUL at September 30, 2022 represents our best estimate of the fair value of the investment, JUUL’s actual performance in the short term or long term could be significantly different from forecasted performance due to changes in the factors noted above. Additionally, the value of our investment in JUUL could be significantly impacted by changes in the discount rate, which could be caused by numerous factors, including changes in market inputs, as well as risks specific to JUUL, including the outcome of the FDA’s additional review of the JUUL
PMTAs that have received MDOs and favorable or unfavorable developments related to JUUL’s liquidity and litigation environment.
For further discussion of our investments in ABI and JUUL, see Note 3. Investments in Equity Securities to our condensed consolidated financial statements in Item 1 (“Note 3”).
Depreciation, Amortization, Impairment Testing and Asset Valuation
We conduct a required annual review of goodwill and indefinite-lived intangible assets for potential impairment and more frequently if an event occurs or circumstances change that would require an interim review. When performing a quantitative assessment of our reporting units and indefinite-lived intangible assets, we use an income approach to estimate fair values. The income approach reflects the discounting of expected future cash flows to their present value at a rate of return that incorporates the risk-free rate for the use of those funds, the expected rate of inflation and the risks associated with realizing expected future cash flows. This calculation may be affected by several factors, including, among others, general economic conditions, U.S. risk-free interest rates, category growth rates and consumer preferences.
We continue to monitor the evolving macroeconomic and geopolitical landscape. Rising interest rates could impact the discount rates used in our estimates of fair value for our goodwill and indefinite-lived intangible assets. Additionally, Skoal’s performance has been negatively impacted due in part to the rising interest rates and other adverse macroeconomic and geopolitical factors that could continue to impact our tobacco businesses by negatively impacting adult tobacco consumers’ disposable income and future purchasing behavior.
We believe continued impacts of these factors could have a material adverse effect on the significant assumptions used in performing our valuations, including volume, operating margins, income and discount rates. Such adverse effects could result in a material non-cash impairment of our Skoal trademark, which could have a material adverse effect on our consolidated financial position or earnings.
Consolidated Operating Results
| For the Nine Months Ended September 30, | For the Three Months Ended September 30, | ||||||||||||||||||||||
| (in millions) | 2022 | 2021 | 2022 | 2021 | |||||||||||||||||||
| Net Revenues: | |||||||||||||||||||||||
| Smokeable products | $ | 17,020 | $ | 17,275 | $ | 5,882 | $ | 5,975 | |||||||||||||||
| Oral tobacco products | 1,948 | 1,945 | 670 | 626 | |||||||||||||||||||
| Wine | — | 494 | — | 177 | |||||||||||||||||||
| All other | 17 | 44 | (2) | 8 | |||||||||||||||||||
| Net revenues | $ | 18,985 | $ | 19,758 | $ | 6,550 | $ | 6,786 | |||||||||||||||
| Excise Taxes on Products: | |||||||||||||||||||||||
| Smokeable products | $ | 3,289 | $ | 3,620 | $ | 1,108 | $ | 1,218 | |||||||||||||||
| Oral tobacco products | 91 | 98 | 30 | 32 | |||||||||||||||||||
| Wine | — | 14 | — | 5 | |||||||||||||||||||
| All other | — | 1 | — | — | |||||||||||||||||||
| Excise taxes on products | $ | 3,380 | $ | 3,733 | $ | 1,138 | $ | 1,255 | |||||||||||||||
| Operating Income: | |||||||||||||||||||||||
| OCI: | |||||||||||||||||||||||
| Smokeable products | $ | 8,112 | $ | 7,901 | $ | 2,791 | $ | 2,753 | |||||||||||||||
| Oral tobacco products | 1,262 | 1,269 | 425 | 405 | |||||||||||||||||||
| Wine | — | 21 | — | (24) | |||||||||||||||||||
| All other | (27) | (56) | (7) | (30) | |||||||||||||||||||
| Amortization of intangibles | (54) | (53) | (19) | (18) | |||||||||||||||||||
| General corporate expenses | (192) | (255) | (78) | (135) | |||||||||||||||||||
| Operating income | $ | 9,101 | $ | 8,827 | $ | 3,112 | $ | 2,951 |
As discussed further in Note 8. Segment Reporting to our condensed consolidated financial statements in Item 1 (“Note 8”), our CODM reviews OCI to evaluate the performance of, and allocate resources to, our segments. Our management believes it is appropriate to disclose this measure to help investors analyze the business performance and trends of our business segments.
The following table provides a reconciliation of adjusted net earnings attributable to Altria and adjusted diluted EPS attributable to Altria for the nine months ended September 30:
| (in millions of dollars, except per share data) | Earnings (Losses) before Income Taxes | Provision (Benefit) for Income Taxes | Net Earnings (Losses) | Net Earnings (Losses) Attributable to Altria | Diluted EPS | ||||||||||||||||||
| 2022 Reported | $ | 4,685 | $ | 1,611 | $ | 3,074 | $ | 3,074 | $ | 1.69 | |||||||||||||
| NPM Adjustment Items | (60) | (15) | (45) | (45) | (0.02) | ||||||||||||||||||
| Asset impairment, exit, implementation, acquisition and disposition-related costs | 10 | 2 | 8 | 8 | — | ||||||||||||||||||
| Tobacco and health and certain other litigation items | 101 | 25 | 76 | 76 | 0.04 | ||||||||||||||||||
| JUUL changes in fair value | 1,355 | — | 1,355 | 1,355 | 0.76 | ||||||||||||||||||
| ABI-related special items | 2,560 | 538 | 2,022 | 2,022 | 1.12 | ||||||||||||||||||
| Cronos-related special items | 180 | 8 | 172 | 172 | 0.09 | ||||||||||||||||||
| Income tax items | — | 33 | (33) | (33) | (0.02) | ||||||||||||||||||
| 2022 Adjusted for Special Items | $ | 8,831 | $ | 2,202 | $ | 6,629 | $ | 6,629 | $ | 3.66 | |||||||||||||
| 2021 Reported | $ | 1,544 | $ | 693 | $ | 851 | $ | 851 | $ | 0.46 | |||||||||||||
| NPM Adjustment Items | (76) | (19) | (57) | (57) | (0.03) | ||||||||||||||||||
| Asset impairment, exit, implementation, acquisition and disposition-related costs | 117 | 22 | 95 | 95 | 0.05 | ||||||||||||||||||
| Tobacco and health and certain other litigation items | 148 | 35 | 113 | 113 | 0.06 | ||||||||||||||||||
| ABI-related special items | 6,111 | 1,283 | 4,828 | 4,828 | 2.60 | ||||||||||||||||||
| Cronos-related special items | 200 | (5) | 205 | 205 | 0.11 | ||||||||||||||||||
| Loss on early extinguishment of debt | 649 | 153 | 496 | 496 | 0.27 | ||||||||||||||||||
| Income tax items | — | 5 | (5) | (5) | — | ||||||||||||||||||
| 2021 Adjusted for Special Items | $ | 8,693 | $ | 2,167 | $ | 6,526 | $ | 6,526 | $ | 3.52 |
The following table provides a reconciliation of adjusted net earnings attributable to Altria and adjusted diluted EPS attributable to Altria for the three months ended September 30:
| (in millions of dollars, except per share data) | Earnings (Losses) before Income Taxes | Provision (Benefit) for Income Taxes | Net Earnings (Losses) | Net Earnings (Losses) Attributable to Altria | Diluted EPS | ||||||||||||||||||
| 2022 Reported | $ | 407 | $ | 183 | $ | 224 | $ | 224 | $ | 0.12 | |||||||||||||
| Asset impairment, exit, implementation, acquisition and disposition-related costs | 1 | — | 1 | 1 | — | ||||||||||||||||||
| Tobacco and health and certain other litigation items | 43 | 11 | 32 | 32 | 0.02 | ||||||||||||||||||
| JUUL changes in fair value | 100 | — | 100 | 100 | 0.06 | ||||||||||||||||||
| ABI-related special items | 2,507 | 527 | 1,980 | 1,980 | 1.10 | ||||||||||||||||||
| Cronos-related special items | 5 | — | 5 | 5 | — | ||||||||||||||||||
| Income tax items | — | 42 | (42) | (42) | (0.02) | ||||||||||||||||||
| 2022 Adjusted for Special Items | $ | 3,063 | $ | 763 | $ | 2,300 | $ | 2,300 | $ | 1.28 | |||||||||||||
| 2021 Reported | $ | (3,302) | $ | (582) | $ | (2,720) | $ | (2,722) | $ | (1.48) | |||||||||||||
| NPM Adjustment Items | (44) | (11) | (33) | (33) | (0.02) | ||||||||||||||||||
| Asset impairment, exit, implementation, acquisition and disposition-related costs | 61 | 9 | 52 | 52 | 0.03 | ||||||||||||||||||
| Tobacco and health and certain other litigation items | 105 | 25 | 80 | 80 | 0.04 | ||||||||||||||||||
| JUUL changes in fair value | (100) | — | (100) | (100) | (0.05) | ||||||||||||||||||
| ABI-related special items | 6,200 | 1,301 | 4,899 | 4,899 | 2.65 | ||||||||||||||||||
| Cronos-related special items | 89 | — | 89 | 89 | 0.05 | ||||||||||||||||||
| Income tax items | — | 8 | (8) | (8) | — | ||||||||||||||||||
| 2021 Adjusted for Special Items | $ | 3,009 | $ | 750 | $ | 2,259 | $ | 2,257 | $ | 1.22 |
The following special items affected the comparability of statements of earnings (losses) amounts for the nine and three months ended September 30, 2022 and 2021:
**▪**NPM Adjustment Items: For a discussion of NPM Adjustment Items and a breakdown of these items by segment, see Health Care Cost Recovery Litigation in Note 11. Contingencies to our condensed consolidated financial statements in Item 1 (“Note 11”) and NPM Adjustment Items in Note 8, respectively.
**▪**Asset Impairment, Exit, Implementation, Acquisition and Disposition-Related Costs: For a discussion of acquisition and disposition-related costs in our oral tobacco products segment and former wine segment, respectively, for the nine and three months ended September 30, 2021, see Note 8.
**▪**Tobacco and Health and Certain Other Litigation Items: For a discussion of tobacco and health and certain other litigation items and a breakdown of these costs by segment, see Note 11 and Tobacco and Health and Certain Other Litigation Items in Note 8, respectively.
**▪**JUUL Changes in Fair Value: We recorded non-cash, pre-tax unrealized (income) losses from investments in equity securities in our condensed consolidated statements of earnings (losses) as a result of changes in the estimated fair value of our investment in JUUL consisting of the following:
| For the Nine Months Ended September 30, | For the Three Months Ended September 30, | ||||||||||||||||||||||
| (in millions) | 2022 | 2021 | 2022 | 2021 | |||||||||||||||||||
| (Income) losses from investments in equity securities | $ | 1,355 | $ | — | $ | 100 | $ | (100) |
We recorded corresponding adjustments to the JUUL tax valuation allowance in 2022 and 2021.
For further discussion, see Note 3 and Note 10. Income Taxes to our condensed consolidated financial statements in Item 1 (“Note 10”).
**▪**ABI-Related Special Items: We recorded net pre-tax losses of $2,560 million and $2,507 million from our equity investment in ABI for the nine and three months ended September 30, 2022, respectively, substantially all of which related to an impairment of our equity investment in ABI. For further discussion, see Note 3.
We recorded net pre-tax losses of $6,111 million and $6,200 million from our equity investment in ABI for the nine and three months ended September 30, 2021, respectively, substantially all of which related to an impairment of our equity investment in ABI. For further discussion, see Note 3.
These amounts include our respective share of the amounts recorded by ABI and additional adjustments related to (i) conversion from international financial reporting standards to GAAP and (ii) adjustments to our investment required under the equity method of accounting.
**▪**Cronos-Related Special Items: We recorded net pre-tax (income) expense consisting of the following:
| For the Nine Months Ended September 30, | For the Three Months Ended September 30, | ||||||||||||||||||||||
| (in millions) | 2022 | 2021 | 2022 | 2021 | |||||||||||||||||||
| (Gain) loss on Cronos-related financial instruments (1) | $ | 14 | $ | 128 | $ | — | $ | 135 | |||||||||||||||
| (Income) losses from investments in equity securities (2) | 166 | 72 | 5 | (46) | |||||||||||||||||||
| Total Cronos-related special items - (income) expense | $ | 180 | $ | 200 | $ | 5 | $ | 89 |
(1)Amounts are related to the non-cash change in the fair value of the warrant and certain anti-dilution protections (the “Fixed-price Preemptive Rights”) acquired in the Cronos transaction.
(2)Amounts include our share of special items recorded by Cronos and additional adjustments, if required under the equity method of accounting, related to our investment in Cronos including the $107 million non-cash, pre-tax impairment of our investment in Cronos in the second quarter of 2022.
We recorded corresponding adjustments to the Cronos tax valuation allowance in 2022 and 2021 relating to the special items.
For further discussion, see Note 3 and Note 10.
**▪**Loss on Early Extinguishment of Debt: We recorded pre-tax losses of $649 million for the nine months ended September 30, 2021, as a result of the completion of debt tender offers and redemption for certain of our long-term senior unsecured notes as discussed in Note 9. Debt to our condensed consolidated financial statements in Item 1 (“Note 9”).
**▪**Income Tax Items: Income tax items for the nine and three months ended September 30, 2022 included net tax benefits of $33 million and $42 million, respectively, due primarily to tax benefits associated with the release of a valuation allowance related to our Cronos warrant, partially offset by tax expense for tax reserves related to the disallowance of certain state tax credits.
Nine Months Ended September 30, 2022 Compared with Nine Months Ended September 30, 2021
Net revenues, which include excise taxes billed to customers, decreased $733 million (3.9%), due primarily to the sale of our wine business in October 2021 and lower net revenues in the smokeable products segment.
Cost of sales decreased $479 million (9.0%), due primarily to lower shipment volume in our smokeable products segment and the sale of our wine business, partially offset by higher manufacturing costs and higher per unit settlement charges.
Excise taxes on products decreased $353 million (9.5%), due primarily to lower shipment volume in our smokeable products segment.
Marketing, administration and research costs decreased $215 million (11.6%), due primarily to the sale of our wine business (including lower disposition-related costs), lower general corporate expenses and lower spending associated with IQOS and Marlboro HeatSticks, partially offset by higher costs in our smokeable products segment.
Operating income increased $274 million (3.1%), due primarily to higher operating results in our smokeable products segment and lower general corporate expenses.
Interest and other debt expense, net decreased $37 million (4.3%), due primarily to lower interest costs as a result of debt maturities and refinancing activities in 2021 and lower interest costs on our Euro denominated debt resulting from the strengthening of the U.S. dollar versus the Euro, partially offset by NPM Adjustment Items in 2021.
(Income) losses from investments in equity securities, which were favorable $2,082 million (36.0%), were positively impacted by favorable special items from our investment in ABI (primarily due to a lower non-cash impairment of ABI), partially offset by non-cash, unrealized losses resulting from the changes in the estimated fair value of our investment in JUUL in 2022.
Provision (benefit) for income taxes increased $918 million (100%+). For further discussion, see Note 10.
Reported net earnings (losses) attributable to Altria of $3,074 million increased $2,223 million (100%+), due primarily to lower losses from investments in equity securities, the loss on early extinguishment of debt in 2021, higher operating income and lower losses on Cronos-related financial instruments. Reported basic and diluted EPS attributable to Altria of $1.69 each increased by 100%+ due to higher reported net earnings (losses) attributable to Altria and fewer shares outstanding.
Adjusted net earnings attributable to Altria of $6,629 million increased $103 million (1.6%), due primarily to higher OCI, lower interest and other debt expense, net, partially offset by lower income from our investments in equity securities. Adjusted diluted EPS attributable to Altria of $3.66 increased by 4.0%, due to fewer shares outstanding and higher adjusted net earnings attributable to Altria.
Three Months Ended September 30, 2022 Compared with Three Months Ended September 30, 2021
Net revenues, which include excise taxes billed to customers, decreased $236 million (3.5%), due primarily to the sale of our wine business in October 2021 and lower net revenues in the smokeable products segment, partially offset by higher net revenues in the oral tobacco products segment.
Cost of sales decreased $143 million (7.7%), due primarily to lower shipment volume in our smokeable products segment and the sale of our wine business, partially offset by higher manufacturing costs and NPM Adjustment Items in 2021.
Excise taxes on products decreased $117 million (9.3%), due primarily to lower shipment volume in our smokeable products segment.
Marketing, administration and research costs decreased $137 million (19.0%), due primarily to the sale of our wine business (including disposition-related costs in 2021), lower general corporate expenses and lower spending associated with IQOS and Marlboro HeatSticks, partially offset by higher costs in our smokeable products segment.
Operating income increased $161 million (5.5%), due primarily to higher operating results in our smokeable products and oral tobacco segments, lower general corporate expenses, lower spending associated with IQOS and Marlboro HeatSticks and the sale of our wine business.
(Income) losses from investments in equity securities, which were favorable $3,437 million (58.1%), were positively impacted by favorable special items from our investment in ABI (primarily due to a lower non-cash impairment of ABI).
Provision (benefit) for income taxes increased by $765 million (100%+). For further discussion, see Note 10.
Reported net earnings (losses) attributable to Altria of $224 million were favorable $2,946 million (100%+), due primarily to lower losses from investments in equity securities, higher operating income and loss on Cronos-related instruments in 2021. Reported basic and diluted EPS attributable to Altria of $0.12, each increased by 100%+ due to higher reported net earnings (losses) attributable to Altria and fewer shares outstanding.
Adjusted net earnings attributable to Altria of $2,300 million increased $43 million (1.9%) due primarily to higher OCI. Adjusted diluted EPS attributable to Altria of $1.28 increased by 4.9%, due to higher adjusted net earnings attributable to Altria and fewer shares outstanding.
Operating Results by Business Segment
Tobacco Space
Business Environment
Summary
The United States tobacco industry faces a number of business and legal challenges that have adversely affected and may adversely affect our business and our consolidated results of operations, cash flows or financial position or our ability to achieve our Vision. These challenges, some of which are discussed in more detail in Note 11, in Part I, Item 1A. Risk Factors of our Annual Report on Form 10-K for the year ended December 31, 2021 (“2021 Form 10-K”), in Part II, Item 1A. Risk Factors of our Quarterly Report on Form 10-Q for the quarter ended June 30, 2022 (“Second Quarter Form 10-Q”) and in Part II, Item 1A. Risk Factors in this Form 10-Q, include:
▪pending and threatened litigation and bonding requirements;
▪restrictions and requirements imposed by the Family Smoking Prevention and Tobacco Control Act (the “FSPTCA”), and restrictions and requirements (and related enforcement actions) that have been, and in the future will be, imposed by the FDA;
▪actual and proposed excise tax increases, as well as changes in tax structures and tax stamping requirements;
▪bans and restrictions on tobacco use imposed by governmental entities and private establishments and employers;
▪other federal, state and local government actions, including:
▪restrictions on the sale of certain tobacco products, the sale of tobacco products by certain retail establishments, the sale of tobacco products with characterizing flavors and the sale of tobacco products in certain package sizes;
▪additional restrictions on the advertising and promotion of tobacco products;
▪other actual and proposed tobacco-related legislation and regulation; and
▪governmental investigations;
▪reductions in cigarette and MST products consumption levels due to growth of innovative tobacco products;
▪increased efforts by tobacco control advocates and other private sector entities (including retail establishments) to further restrict the availability and use of tobacco products;
▪changes in adult tobacco consumer purchase behavior, which is influenced by various factors such as macroeconomic conditions (including inflation), excise taxes and price gap relationships, may result in adult tobacco consumers switching to discount products or other lower-priced tobacco products;
▪the highly competitive nature of all tobacco categories, including competitive disadvantages related to cigarette price increases attributable to the settlement of certain litigation and the proliferation of innovative tobacco products, such as e-vapor and oral nicotine pouch products;
▪illicit trade in tobacco products; and
▪potential adverse changes in prices, availability and quality of tobacco, other raw materials and component parts, including as a result of changes in macroeconomic and geopolitical conditions.
In addition to and in connection with the foregoing, evolving adult tobacco consumer preferences continue to impact the tobacco industry. We believe that a significant number of adult tobacco consumers switch among tobacco categories, use multiple forms of tobacco products and try innovative tobacco products, such as e-vapor products and oral nicotine pouches. Adult smokers continue to transition from cigarettes to exclusive use of smoke-free tobacco product alternatives, which aligns with our Vision.
We work to meet these evolving adult tobacco consumer preferences over time by developing, manufacturing, marketing and distributing products both within and outside the United States through innovation and other growth strategies (including, where appropriate, arrangements with, or investments in, third parties).
Over the past two years, the legislative and regulatory activities discussed below negatively impacted growth in the e-vapor category. Despite the challenges these activities have created and continue to create in the marketplace, the e-vapor category experienced moderate growth in 2021 and remained competitive in the first half of 2022. In the third quarter of 2022, e-vapor industry volumes flattened sequentially and declined by 4% versus the same period in 2021 as a result of FDA regulatory actions with respect to JUUL, which are discussed below.
Oral nicotine pouch retail share of the total oral tobacco category grew significantly over the prior year from 14.5% for the nine months ended September 30, 2021 to 21.0% for the nine months ended September 30, 2022. The oral nicotine pouch category continues to be increasingly competitive. In addition, oral nicotine pouch growth has primarily sourced from cigarette and smokeless tobacco consumers.
We are monitoring the sale and distribution of synthetic nicotine products, including in the form of e-vapor products and oral nicotine pouches. As a result of recent amendments to the U.S. Food, Drug and Cosmetic Act, synthetic nicotine products are now subject to FDA regulatory oversight, as discussed further below. We believe FDA regulatory actions, which may be subject to legal challenges, will further impact the competitive environment.
We believe the innovative tobacco product categories will continue to be dynamic due to competition, adult tobacco consumer exploration of a variety of tobacco product options, adult tobacco consumer perceptions of the relative risks of smoke-free products compared to cigarettes, FDA determinations on product applications and legislative actions.
For the nine months ended September 30, 2022, we estimate that, when adjusted for trade inventory movements and other factors, domestic cigarette industry volume declined by 7.5%. We expect 2022 cigarette industry volume trends to continue to be most influenced by (i) disposable income, purchasing patterns and adoption of smoke-free products, (ii) macroeconomic conditions (including continuing high inflation and gasoline prices, partially offset by low unemployment and wage inflation), (iii) cross-category movement, (iv) the potential impact of COVID-19 variants and (v) regulatory and legislative (including excise tax) developments.
Macroeconomic conditions (including a high inflationary environment) can also impact adult tobacco consumer purchasing behavior. For example, economic downturns have coincided with adult tobacco consumers modifying purchase behavior at retail, potentially reducing the amount of their regular brand purchases or selecting discount products and other lower priced tobacco brands. Beginning in January 2022, the Omicron variant of COVID-19 impacted consumer purchasing behavior, resulting in a short-term decrease in retail trips and tobacco sales volume. In addition, gas prices increased due in part to the Russian invasion of Ukraine. Increases in inflation as a result of macroeconomic and geopolitical conditions put pressure on
discretionary income as the Consumer Price Index reached a 40 year high in June 2022 and remained above 8% through the end of the third quarter. Throughout the first nine months of 2022, these economic headwinds were partially offset by positive wage inflation, increases in federal tax refund payments and low unemployment in comparison to the nine months ended September 30, 2021. We believe that adult tobacco consumers adapted their purchasing patterns across a variety of goods and services to compensate for the pressures on disposable income. We expect potential fluctuations in discount product share for cigarettes and MST products as price sensitive adult tobacco consumers react to their economic conditions. However, if macroeconomic conditions or other factors cause greater than expected discount share growth or a reduction in purchases at retail, such factors could have a material adverse effect on our business and our consolidated results of operations, cash flows or financial position, including an adverse effect on the carrying value of our assets such as our tobacco product trademarks.
FSPTCA and FDA Regulation
**▪**The Regulatory Framework: The FSPTCA, its implementing regulations and its 2016 deeming regulations establish broad FDA regulatory authority over all tobacco products and, among other provisions:
▪impose restrictions on the advertising, promotion, sale and distribution of tobacco products (see Final Tobacco Marketing Rule below);
▪establish pre-market review pathways for new and modified tobacco products (see Pre-Market Review Pathways for Tobacco Products and Market Authorization Enforcement below);
▪prohibit any express or implied claims that a tobacco product is or may be less harmful than other tobacco products without FDA authorization;
▪authorize the FDA to impose tobacco product standards that are appropriate for the protection of the public health; and
▪equip the FDA with a variety of investigatory and enforcement tools, including the authority to inspect product manufacturing and other facilities.
The FSPTCA also bans descriptors such as “light,” “low” or “mild” when used as descriptors of modified risk, unless expressly authorized by the FDA. In connection with a 2016 lawsuit initiated by Middleton, the U.S. Department of Justice, on behalf of the FDA, informed Middleton that the FDA does not intend to bring an enforcement action against Middleton for the use of the term “mild” in the trademark “Black & Mild.” Consequently, Middleton dismissed its lawsuit without prejudice. If the FDA were to change its position at some later date, Middleton would have the opportunity to bring another lawsuit.
In March 2022, the U.S. Congress expanded the statutory definition of tobacco products to include products containing nicotine derived from any source, including synthetic nicotine. We advocated for FDA regulatory oversight of synthetic nicotine products. The amendment became effective in April 2022. See Pre-Market Review Pathways for Tobacco Products and Market Authorization Enforcement below for additional information on the effects of the statutory change.
**▪**Final Tobacco Marketing Rule: As required by the FSPTCA, in March 2010, the FDA promulgated a wide range of advertising and promotion restrictions for cigarettes and smokeless tobacco (1) products (the “Final Tobacco Marketing Rule”). The May 2016 deeming regulations amended the Final Tobacco Marketing Rule to expand specific provisions to all tobacco products, including cigars, pipe tobacco and e-vapor and oral nicotine products containing tobacco-derived nicotine or other tobacco derivatives.
The Final Tobacco Marketing Rule, as amended, among other things:
▪restricts the use of non-tobacco trade and brand names on cigarettes and smokeless tobacco products;
▪prohibits sampling of all tobacco products except that sampling of smokeless tobacco products is permitted in qualified adult-only facilities;
▪prohibits the sale or distribution of items such as hats and tee shirts with cigarette or smokeless tobacco brands or logos;
▪prohibits cigarettes and smokeless tobacco brand name sponsorship of any athletic, musical, artistic or other social or cultural event, or any entry or team in any event; and
▪requires the development by the FDA of graphic warnings for cigarettes, establishes warning requirements for other tobacco products, and gives the FDA the authority to require new warnings for any type of tobacco product (see FDA Regulatory Actions - Graphic Warnings below).
(1) “Smokeless tobacco,” as used in this section of this Form 10-Q, refers to smokeless tobacco products first regulated by the FDA in 2009, including MST. It excludes oral nicotine pouches, which were first regulated by the FDA in 2016.
Subject to certain limitations arising from legal challenges, the Final Tobacco Marketing Rule took effect in June 2010 for cigarettes and smokeless tobacco products, in August 2016 for all other tobacco products, including e-vapor and oral nicotine pouch products containing tobacco-derived nicotine, and in April 2022 for tobacco products, including e-vapor and oral nicotine pouch products, that contain synthetic nicotine.
**▪**Rulemaking and Guidance: From time to time, the FDA issues proposed regulations and guidance, which may be issued in draft or final form, generally involve public comment and may include scientific review. The FDA also may request comments on broad topics through an Advanced Notice of Proposed Rulemaking (“ANPRM”). We actively engage with the FDA to develop and implement the FSPTCA’s regulatory framework, including submission of comments to various FDA policies and proposals and participation in public hearings and engagement sessions.
The FDA’s implementation of the FSPTCA and related regulations and guidance also may have an impact on enforcement efforts by states, territories and localities of their laws and regulations as well as of the State Settlement Agreements discussed below (see State Settlement Agreements below). Such enforcement efforts may adversely affect our ability to market and sell regulated tobacco products in those states, territories and localities.
**▪**FDA’s Comprehensive Plan for Tobacco and Nicotine Regulation: In July 2017, the FDA announced a “Comprehensive Plan for Tobacco and Nicotine Regulation” (“Comprehensive Plan”) designed to strike a balance between regulation and encouraging the development of innovative tobacco products that may be less risky than cigarettes. Since then, the FDA has issued additional information about its Comprehensive Plan in response to concerns associated with the rise in the use of e-vapor products by youth and the potential youth appeal of flavored tobacco products (see FDA Regulatory Actions - Underage Access and Use of Certain Tobacco Products below). As part of the Comprehensive Plan, the FDA:
▪issued ANPRMs relating to potential product standards for nicotine in cigarettes, flavors in all tobacco products (including menthol in cigarettes and characterizing flavors in all cigars) and, for e-vapor products, to protect against known public health risks such as concerns about youth exposure to liquid nicotine;
▪took actions to restrict youth access to e-vapor products; and
▪reconsidered the processes used by the FDA to review certain reports and new product applications.
**▪**Pre-Market Review Pathways for Tobacco Products and Market Authorization Enforcement: The FSPTCA permits the sale of tobacco products on the market as of February 15, 2007 and not subsequently modified (“Pre-existing Tobacco Products”) and new or modified products authorized through the PMTA, Substantial Equivalence (“SE”) or SE Exemption pathways. Subsequent FDA rules also provide a Supplemental PMTA pathway designed to increase the efficiency of submission and review for modified versions of previously authorized products.
The FDA pre-market authorization enforcement policy varies based on product type and date of availability in the market, specifically:
▪Pre-existing Tobacco Products are exempt from the pre-market authorization requirement;
▪cigarette and smokeless tobacco products that were modified or first introduced into the market between February 15, 2007 and March 22, 2011 are generally considered “Provisional Products” for which SE reports were required to be filed by March 22, 2011. These reports must demonstrate that the product has the same characteristics as a product on the market as of February 15, 2007 or to a product previously determined to be substantially equivalent, or has different characteristics but does not raise different questions of public health;
▪tobacco products that were first regulated by the FDA in 2016, including cigars, e-vapor products and oral nicotine pouches that are not Pre-existing Tobacco Products, are generally products for which either an SE report or PMTA needed to be filed by September 9, 2020; and
**▪**tobacco products containing nicotine from any source other than tobacco (e.g., synthetic nicotine) that were on the market between March 15, 2022 and April 14, 2022 and are not Pre-existing Tobacco Products are generally products for which a manufacturer must have filed a PMTA by May 14, 2022. A manufacturer was permitted to keep such a product on the market until July 13, 2022 provided that a PMTA was filed by May 14, 2022. Thereafter, unless the FDA granted the product a marketing order, the product is unlawful and subject to possible FDA enforcement.
Modifications to currently marketed products, including modifications that result from, for example, changes to the quantity of tobacco product(s) in a package, a manufacturer being unable to acquire ingredients or a supplier being unable to maintain the consistency required in ingredients, could trigger the FDA’s pre-market review processes. Through these processes, a manufacturer could receive (i) a “not substantially equivalent” determination, (ii) a denial of a PMTA or (iii) a marketing order withdrawal by the FDA on one or more products, which would require the removal of the product or products from the market. In addition, new scientific data continues to be developed relating to innovative tobacco products, which could impact FDA’s determination as to whether a product is, or continues to be, appropriate for the protection of public health and could, therefore,
result in the removal of one or more products from the market. Any such actions affecting our products could have a material adverse impact on our business and our consolidated results of operations, cash flows or financial position.
Products Regulated in 2009: Most cigarette and smokeless tobacco products currently marketed by PM USA and USSTC are “Provisional Products.” PM USA and USSTC timely submitted SE reports for these Provisional Products and have received SE determinations on certain Provisional Products. Those products that were found by the FDA to be not substantially equivalent (certain smokeless tobacco products) had been discontinued for business reasons prior to the FDA’s determinations; therefore, those determinations did not impact business results. PM USA and USSTC have other Provisional Products that continue to be subject to the FDA’s pre-market review process. In the meantime, they can continue marketing these products unless the FDA determines that a specific Provisional Product is not substantially equivalent.
In addition, the FDA has communicated that it will not review a certain subset of Provisional Product SE reports and that the products that are the subject of those reports can continue to be legally marketed without further FDA review. PM USA and USSTC have Provisional Products included in this subset of products.
While we believe PM USA’s and USSTC’s current Provisional Products meet the statutory requirements of the FSPTCA, we cannot predict how the FDA will ultimately apply law, regulation and guidance to their various SE reports. Should PM USA or USSTC receive unfavorable determinations on any SE reports currently pending with the FDA, we believe PM USA and USSTC can replace the vast majority of these product volumes with other FDA authorized products or with Pre-existing Tobacco Products.
Cigarette and smokeless tobacco products introduced into the market or modified after March 22, 2011 are “Non-Provisional Products” and must receive a marketing order from the FDA prior to being offered for sale. Marketing orders for Non-Provisional Products may be obtained by filing an SE report, PMTA or using another pre-market pathway established by the FDA. PM USA and USSTC may not be able to obtain a marketing order for non-provisional products because the FDA may determine that any such product does not meet the statutory requirements for approval.
Products Regulated in 2016: Manufacturers of products first regulated by the FDA in 2016, including cigars, oral nicotine pouches and e-vapor products, that were on the market as of August 8, 2016 and not subsequently modified must have filed an SE report or PMTA by the filing deadline of September 9, 2020 in order for their products to remain on the market. These products can remain on the market during FDA review through court-allowed, case-by-case discretion, so long as the report or application was timely filed with the FDA. Due to the large number of applications received by September 9, 2020, the FDA did not complete its review of all submitted applications by September 9, 2021. In September 2022, the FDA represented that it had resolved more than 99% of the timely applications it had received, with the vast majority resulting in a denial. A number of the denials are subject to litigation challenges initiated by the affected manufacturers. For those products still under FDA review, it is uncertain when and for how long the FDA may permit continued marketing and sale of those products pursuant to its case-by-case discretion. For products (new or modified) not on the market as of August 8, 2016, manufacturers must file an SE report or PMTA and receive FDA authorization prior to marketing and selling the product.
Helix submitted PMTAs for on! oral nicotine pouches in May 2020. As of October 24, 2022, the FDA has not issued marketing order decisions for any on! products. JUUL submitted PMTAs for its e-vapor device and the related tobacco and menthol flavors in July 2020. In June 2022, the FDA issued MDOs to JUUL for all of JUUL’s products currently marketed in the United States. These MDOs are currently stayed. See FDA Regulatory Actions - Electronic Nicotine Delivery System Products below for further discussion. In addition, as of October 24, 2022, Middleton has received market orders or exemptions that cover over 99% of its cigar product volume.
In December 2013, we entered into a series of agreements with PMI, including an agreement that grants us an exclusive right to commercialize certain of PMI’s heated tobacco products in the United States, subject to FDA authorization of the applicable products. PMI submitted a PMTA and a modified risk tobacco product (“MRTP”) application with the FDA for its electronically heated tobacco products comprising the IQOS Tobacco Heating System. The IQOS devices heat, but do not burn tobacco. In April 2019, the FDA authorized the PMTA for the IQOS Tobacco Heating System and in July 2020, the FDA authorized the marketing of this system as an MRTP with a reduced exposure claim. In December 2020, the FDA authorized the PMTA for IQOS 3, an updated version of the IQOS devices, and in March 2022 authorized the marketing of the IQOS 3 device as an MRTP with the same reduced exposure claim.
In September 2021, in connection with a patent dispute, the U.S. International Trade Commission (“ITC”) issued a cease and desist order, effective as of November 29, 2021, banning (i) the importation of the IQOS devices, Marlboro HeatSticks and infringing components into the United States and (ii) the sale, marketing and distribution of such imported products in the United States. As a result, PM USA removed the products from the marketplace. For a further discussion of the ITC decision, see Note 11.
In October 2021, the FDA authorized the marketing and sale of four of USSTC’s Verve oral nicotine products, including Green Mint and Blue Mint varieties, representing the first flavored product authorizations issued by the FDA for newly deemed innovative products. These products are not currently marketed or sold.
Post-Market Surveillance: Manufacturers that receive product authorizations through the PMTA process must adhere to the FDA post-market record keeping and reporting requirements, as detailed in market orders and in the final PMTA rule that went into effect in November 2021. This includes notification of all marketing activities. The IQOS Tobacco Heating System is subject to this post-market surveillance requirement. The FDA may amend requirements of a market order or withdraw the market order based on this information if, among other reasons, it determines that the continued marketing of the products is no longer appropriate for the protection of the public health.
Effect of Adverse FDA Determinations: FDA review time frames have varied. It is therefore difficult to predict the duration of FDA reviews of SE reports or PMTAs. An unfavorable determination on an application, the withdrawal by the FDA of a prior marketing order or other changes in FDA regulatory requirements could result in the removal of products from the market. These manufacturers would have the option of marketing their products that have received FDA pre-market authorization or Pre-existing Tobacco Products. A “not substantially equivalent” determination, a denial of a PMTA or a marketing order withdrawal by the FDA on one or more products (which would require the removal of the product or products from the market) could have a material adverse impact on our business and our consolidated results of operations, cash flows or financial position. Also, adverse FDA determinations on innovative tobacco products could impede our ability to achieve our Vision.
**▪**FDA Regulatory Actions
▪Graphic Warnings: In March 2020, the FDA issued a final rule requiring 11 textual warnings accompanied by color graphics depicting certain negative health consequences of smoking on cigarette packaging and advertising. The final rule is currently set to become effective on October 6, 2023. PM USA and other cigarette manufacturers have filed lawsuits challenging the final rule on substantive and procedural grounds.
In the preamble to the final rule, the FDA stated that it would not exempt Marlboro HeatSticks, a heated tobacco product used with the IQOS devices, as part of the rulemaking, but would consider the Marlboro HeatSticks marketing order, and other marketing orders, on a case-by-case basis. To date, the FDA has not taken any action to exempt Marlboro HeatSticks from the graphic health warnings requirements.
▪Underage Access and Use of Certain Tobacco Products: The FDA announced regulatory actions in September 2018 to address underage access and use of e-vapor products. We have engaged with the FDA on this topic and have reaffirmed to the FDA our ongoing and long-standing commitment to preventing underage use. For example, during 2019, we advocated raising the minimum legal age to purchase all tobacco products to 21 at the federal and state levels to further address underage use, which is now federal law. See Federal, State and Local Legislation to Increase the Legal Age to Purchase Tobacco Products below for further discussion. In addition, through our retailer incentive program, stores representing over 70% of PM USA’s cigarette volume have implemented point-of-sale age validation technology.
Additionally, the FDA issued final guidance in April 2020, stating that it intends to prioritize enforcement action against certain product categories, including cartridge-based, flavored e-vapor products and products targeted to minors.
▪Electronic Nicotine Delivery System Products: In June 2022, the FDA issued MDOs to JUUL ordering all of JUUL’s products currently marketed in the United States off the market. JUUL filed a petition for review of the MDOs with the U.S. Court of Appeals for the D.C. Circuit. JUUL subsequently moved the D.C. Circuit for a temporary administrative stay of the MDOs, which the court granted to provide sufficient opportunity for the court to consider JUUL’s emergency motion for a stay pending the court’s consideration of JUUL’s challenge to the MDOs. In July 2022, the FDA administratively stayed the MDOs on a temporary basis, citing its determination that there are scientific issues unique to the JUUL PMTAs that warrant additional review. This administrative stay temporarily suspends the MDOs, and JUUL’s products currently remain on the market. The proceedings in the U.S. Court of Appeals for the D.C. Circuit are being held in abeyance pending completion of the FDA’s additional review, and JUUL has withdrawn its motion for an emergency stay with respect to the MDOs, without prejudice to refiling at a later date. In light of these developments, the D.C. Circuit dissolved the administrative stay it had previously granted and directed the parties to file motions to govern further proceedings within 14 days of FDA’s completion of its additional review process.
▪As of October 24, 2022, many manufacturers of flavored e-vapor products received MDOs for failure to provide sufficiently strong product-specific scientific evidence to demonstrate that the benefit of their products to adult smokers overcomes the risk that their products pose to youth. The FDA has communicated in these MDOs that vapor products with non-tobacco flavors present unique questions relevant to the FDA’s “Appropriate for the Protection of
Public Health” standard and that successful applications require strong, product-specific evidence. A number of these manufacturers are appealing the MDOs for their products.
**▪**Potential Product Standards
▪Nicotine in Cigarettes and Other Combustible Tobacco Products: In March 2018, the FDA issued an ANPRM seeking comments on the potential public health benefits and any possible adverse effects of lowering nicotine in combustible cigarettes to non-addictive or minimally addictive levels. Among other issues, the FDA sought comments on (i) whether smokers would compensate by smoking more cigarettes to obtain the same level of nicotine as with their current product and (ii) whether the proposed rule would create an illicit trade of cigarettes containing nicotine at levels higher than a non-addictive threshold that may be established by the FDA. The FDA also sought comments on whether a nicotine product standard should apply to other combustible tobacco products, including cigars. In June 2022, the Biden Administration published its Spring 2022 Unified Regulatory Agenda, which includes the FDA’s plans to propose, by May 2023, a product standard that would establish a maximum nicotine level in cigarettes and other combustible tobacco products. Any proposed product standard would proceed through the rulemaking process, which we believe will take multiple years to complete.
▪Flavors in Tobacco Products: In April 2022, the FDA issued two proposed product standards: (i) banning menthol in cigarettes and (ii) banning all characterizing flavors (including menthol) in cigars. We submitted comments during the notice-and-comment period and plan to continue engaging with the FDA through the rulemaking process, which we believe will take multiple years to complete. The FDA could propose an additional product standard for flavors in innovative tobacco products, including e-vapor products and oral nicotine products.
▪N-nitrosonornicotine (“NNN”) in Smokeless Tobacco: In January 2017, the FDA proposed a product standard for NNN levels in finished smokeless tobacco products.
If any one or more of the foregoing potential product standards were to become final and was appealed and upheld in the courts, it could have a material adverse effect on our business and our consolidated results of operations, cash flows or financial position, including an adverse effect on the carrying value of our assets such as our cigar trademarks.
**▪**Good Manufacturing Practices: The FSPTCA requires that the FDA promulgate good manufacturing practice regulations (referred to by the FDA as “Requirements for Tobacco Product Manufacturing Practice”) for tobacco product manufacturers, but does not specify a timeframe for such regulations. Compliance with any such regulations could result in increased costs, which could have a material adverse effect on our business and our consolidated results of operations, cash flows or financial position.
**▪**Impact on Our Business; Compliance Costs and User Fees: FDA regulatory actions under the FSPTCA could have a material adverse effect on our business and our consolidated results of operations, cash flows or financial position in various ways. For example, actions by the FDA could:
▪impact the consumer acceptability of tobacco products;
▪delay, discontinue or prevent the sale or distribution of existing, new or modified tobacco products;
▪limit adult tobacco consumer choices;
▪impose restrictions on communications with adult tobacco consumers;
▪create a competitive advantage or disadvantage for certain tobacco companies;
▪impose additional manufacturing, labeling or packaging requirements;
▪impose additional restrictions at retail;
▪result in increased illicit trade in tobacco products; and/or
▪otherwise significantly increase the cost of doing business.
The FSPTCA imposes user fees on cigarette, cigarette tobacco, smokeless tobacco, cigar and pipe tobacco manufacturers and importers to pay for the cost of regulation and other matters. The FSPTCA does not impose user fees on e-vapor or oral nicotine pouch manufacturers. The cost of the FDA user fee is allocated first among tobacco product categories subject to FDA user fees and then among manufacturers and importers within each respective category based on their relative market shares, all as prescribed by the FSPTCA and FDA regulations. Payments for user fees are adjusted for several factors, including market share and industry volume. See Liquidity and Capital Resources - Payments Under State Settlement Agreements and FDA Regulation below for a discussion of our FDA user fee payments. In addition, compliance with the FSPTCA’s regulatory requirements has resulted, and will continue to result, in additional costs. The amount of additional compliance and related costs has not been material in any given quarter or year-to-date period but could become material, either individually or in the aggregate. The failure to comply with FDA regulatory requirements, even inadvertently, and FDA enforcement actions also could have a material adverse effect on our business and our consolidated results of operations, cash flows or financial position.
**▪**Investigation and Enforcement: The FDA has a number of investigatory and enforcement tools available to it, including document requests and other required information submissions, facility inspections, facility closures, examinations and investigations, injunction proceedings, monetary penalties, product withdrawal and recall orders, and product seizures. Investigations or enforcement actions could result in significant costs or otherwise have a material adverse effect on our business and our consolidated results of operations, cash flows or financial position.
Excise Taxes
Tobacco products are subject to substantial excise taxes in the United States. Significant increases in tobacco-related taxes or fees have been proposed or enacted (including with respect to e-vapor products) and are likely to continue to be proposed or enacted at the federal, state and local levels within the United States. The frequency and magnitude of excise tax increases can be influenced by various factors, including the composition of executive and legislative bodies.
During 2021, the U.S. Congress considered legislation that would have significantly increased the federal excise tax for all tobacco products and created a new tax for e-vapor products and other products containing nicotine that are not currently subject to a tobacco federal excise tax (“novel tobacco products”). The U.S. House of Representatives removed the proposal to increase the federal excise tax on tobacco products currently subject to the tax from the legislation it was considering, but retained the proposed nicotine tax for novel tobacco products. The U.S. Senate debated the legislation and removed the nicotine tax for novel tobacco products; however, as of October 24, 2022, the legislation is still pending before the Senate and could be subject to further tax related amendments.
Federal, state and local cigarette excise taxes have increased substantially over the past two decades, far outpacing the rate of inflation. Between the end of 1998 and October 24, 2022, the weighted-average state cigarette excise tax increased from $0.36 to $1.89 per pack. As of October 24, 2022, no state has enacted new legislation increasing cigarette excise taxes in 2022, but various increases are under consideration or have been proposed.
A majority of states currently tax MST using an ad valorem method, which is calculated as a percentage of the price of the product, typically the wholesale price. This ad valorem method results in more tax being paid on premium products than is paid on lower-priced products of equal weight. We support legislation to convert ad valorem taxes on MST to a weight-based methodology because, unlike the ad valorem tax, a weight-based tax subjects cans of equal weight to the same tax. As of October 24, 2022, the federal government, 23 states, Puerto Rico, Philadelphia, Pennsylvania and Cook County, Illinois have adopted a weight-based tax methodology for MST.
An increasing number of states and localities also are imposing excise taxes on e-vapor and oral nicotine pouches. As of October 24, 2022, 30 states, the District of Columbia, Puerto Rico and a number of cities and counties have enacted legislation to tax e-vapor products. These taxes are calculated in varying ways and may differ based on the e-vapor product form. Similarly, 11 states and the District of Columbia have enacted legislation to tax oral nicotine pouches.
Tax increases are expected to continue to have an adverse impact on sales of our products through lower consumption levels and the potential shift in adult tobacco consumer purchases from premium to non-premium or discount cigarettes, to lower taxed tobacco products or to counterfeit and contraband products. Lower sales volume and reported share performance of our products could have a material adverse effect on our consolidated financial position or earnings. In addition, substantial excise tax increases on e-vapor and oral nicotine products, may negatively impact adult smokers’ transition to these products, which could adversely affect our ability to achieve our Vision.
International Treaty on Tobacco Control
The World Health Organization’s Framework Convention on Tobacco Control (the “FCTC”) entered into force in February 2005. As of October 24, 2022, 181 countries, as well as the European Union, have become parties to the FCTC. While the United States is a signatory of the FCTC, it is not currently a party to the agreement, as the agreement has not been submitted to, or ratified by, the U.S. Senate. The FCTC is the first international public health treaty and its objective is to establish a global agenda for tobacco regulation with the purpose of reducing initiation of tobacco use and encouraging cessation. The treaty recommends (and in certain instances, requires) signatory nations to enact legislation that would address various tobacco-related issues.
There are a number of proposals currently under consideration by the governing body of the FCTC, some of which call for substantial restrictions on the manufacture, marketing, distribution and sale of tobacco products. It is not possible to predict the outcome of these proposals or the impact of any FCTC actions on legislation or regulation in the United States, either indirectly or as a result of the United States becoming a party to the FCTC, or whether or how these actions might indirectly influence FDA regulation and enforcement.
State Settlement Agreements
As discussed in Note 11, during 1997 and 1998, PM USA and other major domestic cigarette manufacturers entered into the State Settlement Agreements. These settlements require participating manufacturers to make substantial annual payments,
which are adjusted for several factors, including inflation, operating income, market share and industry volume. Increases in inflation can increase our financial liability under the State Settlement Agreements. The State Settlement Agreements’ inflation calculations require us to apply the higher of 3% or the U.S. Bureau of Labor Statistics’ Consumer Price Index for All Urban Consumers (“CPI-U”) percentage rate as published in January of each year. As of December 2021, the inflation calculation was approximately 7% based on the latest CPI-U data; however, the increase in the annual payments did not have a material impact on our financial position. We believe that inflation will continue at increased levels through the remainder of 2022, but do not expect the corresponding increase in annual payments to result in a material financial impact. However, we will continue to monitor the impact of increased inflation on the macroeconomic environment and our businesses.
For a discussion of the impact of the State Settlement Agreements on us, see Liquidity and Capital Resources - Payments Under State Settlement Agreements and FDA Regulation below and Note 11. The State Settlement Agreements also place numerous requirements and restrictions on participating manufacturers’ business operations, including prohibitions and restrictions on the advertising and marketing of cigarettes and smokeless tobacco products. Among these are prohibitions of outdoor and transit brand advertising, payments for product placement and free sampling (except in adult-only facilities). The State Settlement Agreements also place restrictions on the use of brand name sponsorships and brand name non-tobacco products and prohibitions on targeting youth and the use of cartoon characters. In addition, the State Settlement Agreements require companies to affirm corporate principles directed at reducing underage use of cigarettes; impose requirements regarding lobbying activities; limit the industry’s ability to challenge certain tobacco control and underage use laws; and provide for the dissolution of certain tobacco-related organizations and place restrictions on the establishment of any replacement organizations.
In November 1998, USSTC entered into the Smokeless Tobacco Master Settlement Agreement (the “STMSA”) with the attorneys general of various states and United States territories to resolve the remaining health care cost reimbursement cases initiated against USSTC. The STMSA required USSTC to adopt various marketing and advertising restrictions. USSTC is the only smokeless tobacco manufacturer to sign the STMSA.
Other International, Federal, State and Local Regulation and Governmental and Private Activity
**▪**International, Federal, State and Local Regulation: Various states and localities have enacted or proposed legislation that imposes restrictions on tobacco products (including cigarettes, smokeless tobacco, cigars, e-vapor products and oral nicotine pouches), such as legislation that (i) prohibits the sale of all tobacco products or certain tobacco categories, such as e-vapor, (ii) prohibits the sale of tobacco products with characterizing flavors, such as menthol cigarettes and flavored e-vapor products, (iii) requires the disclosure of health information separate from or in addition to federally mandated health warnings and (iv) restricts commercial speech or imposes additional restrictions on the marketing or sale of tobacco products. The legislation varies in terms of the type of tobacco products, the conditions under which such products are or would be restricted or prohibited, and exceptions to the restrictions or prohibitions. For example, a number of proposals involving characterizing flavors would prohibit smokeless tobacco products with characterizing flavors without providing an exception for mint- or wintergreen-flavored products. As of October 24, 2022, multiple states and localities are considering legislation to ban flavors in one or more tobacco products, and six states (California, Massachusetts, New Jersey, Utah, New York and Illinois) and the District of Columbia have passed such legislation. Some of these states, such as New York, Utah and Illinois, exempt certain products that have received FDA market authorization through the PMTA pathway.
The legislation in California bans the sale of most tobacco products with characterizing flavors, including menthol, mint and wintergreen. Following enactment of the flavor ban in August 2020, several registered California voters filed a referendum against the legislation. In January 2021 the requisite number of registered California voters signed a petition to place the question of whether the legislation should be affirmed or overturned on the next statewide general election ballot, which we expect to occur in November 2022. As a result, the implementation of the legislation is delayed until after a vote on the referendum occurs.
Massachusetts passed legislation capping the amount of nicotine in e-vapor products. Similar legislation is pending in two other states.
Restrictions on e-vapor and oral nicotine pouch products also have been instituted or proposed internationally.
We have challenged and will continue to challenge certain federal, state and local legislation and other governmental action, including through litigation. It is possible, however, that legislation, regulation or other governmental action could be enacted or implemented that could have a material adverse impact on our business and our consolidated results of operations, cash flows or financial position. Such action also could negatively impact adult smokers’ transition to these products, which could adversely affect our ability to achieve our Vision.
**▪**Federal, State and Local Legislation to Increase the Legal Age to Purchase Tobacco Products: After a number of states and localities proposed and enacted legislation to increase the minimum age to purchase all tobacco products, including e-vapor products, in December 2019, the federal government passed legislation increasing the minimum age to purchase all
tobacco products, including e-vapor products, to 21 nationwide. As of October 24, 2022, 41 states, the District of Columbia and Puerto Rico have enacted laws increasing the legal age to purchase tobacco products to 21. Although an increase in the minimum age to purchase tobacco products may have a negative impact on our sales volume, as discussed above under Underage Access and Use of Certain Tobacco Products, we support raising the minimum legal age to purchase all tobacco products to 21 at the federal and state levels, reflecting our longstanding commitment to combat underage tobacco use.
**▪**Health Effects of Tobacco Products, Including E-vapor Products: Reports with respect to the health effects of smoking have been publicized for many years, including various reports by the U.S. Surgeon General. We believe that the public should be guided by the messages of the U.S. Surgeon General and public health authorities worldwide in making decisions concerning the use of tobacco products, including e-vapor products.
Most jurisdictions within the United States have restricted smoking in public places and some have restricted vaping in public places. Some public health groups have called for, and various jurisdictions have adopted or proposed, bans on smoking and vaping in outdoor places, in private apartments and in cars transporting children. It is not possible to predict the results of ongoing scientific research or the types of future scientific research into the health risks of tobacco exposure and the impact of such research on legislation and regulation.
**▪**Other Legislation or Governmental Initiatives: In addition to the actions discussed above, other regulatory initiatives affecting the tobacco industry have been adopted or are being considered at the federal level and in a number of state and local jurisdictions. For example, in recent years, legislation has been introduced or enacted at the state or local level to subject tobacco products to various reporting requirements and performance standards; establish educational campaigns relating to tobacco consumption or tobacco control programs or provide additional funding for governmental tobacco control activities; restrict the sale of tobacco products in certain retail establishments and the sale of tobacco products in certain package sizes; prohibit the sale of tobacco products based on environmental concerns; impose responsibility on manufacturers for the disposal, recycling or other treatment of post-consumer goods such as plastic packaging; require tax stamping of smokeless tobacco products; require the use of state tax stamps using data encryption technology; and further restrict the sale, marketing and advertising of cigarettes and other tobacco products. Such legislation may be subject to constitutional or other challenges on various grounds, which may or may not be successful. In addition, if the COVID-19 pandemic resurges, state and local governments may reimpose additional health and safety requirements for all businesses, which could result in the potential temporary closure of certain businesses and/or facilities. It is possible that tobacco manufacturing and other facilities and the facilities of our and JUUL’s suppliers, our and JUUL’s suppliers’ suppliers and our and JUUL’s trade partners could be subject to additional government-mandated temporary closures and restrictions.
It is not possible to predict what, if any, additional legislation, regulation or other governmental action will be enacted or implemented (and, if challenged, upheld) relating to the manufacturing, design, packaging, marketing, advertising, sale or use of tobacco products, or the tobacco industry generally. Any such legislation, regulation or other governmental action could have a material adverse impact on our business and our consolidated results of operations, cash flows or financial position.
**▪**Governmental Investigations: From time to time, we are subject to governmental investigations on a range of matters. For example: (i) the FTC issued a Civil Investigative Demand (“CID”) to us while conducting its antitrust review of our investment in JUUL seeking information regarding, among other things, our role in the resignation of JUUL’s former chief executive officer and the hiring by JUUL of any current or former Altria director, executive or employee (see Note 11 for a description of the FTC’s administrative complaint against us and JUUL); (ii) the U.S. Securities and Exchange Commission (“SEC”) commenced an investigation relating to our acquisition, disclosures and accounting controls in connection with the JUUL investment; and (iii) the New York State Office of the Attorney General and the Commonwealth of Massachusetts Office of the Attorney General, separately, issued independent subpoenas to us seeking documents relating to our investment in and provision of services to JUUL.
Additionally, JUUL is currently under investigation by various federal and state agencies, including the SEC, the FDA and the FTC, and state attorneys general. Such investigations vary in scope but at least some include JUUL’s marketing practices, particularly as such practices relate to youth, and we may be asked in the context of those investigations to provide information concerning our investment in JUUL or relating to our marketing of Nu Mark LLC e-vapor products.
In September 2022, JUUL agreed to settle an investigation by 33 states and Puerto Rico regarding its marketing practices. In the settlement, JUUL agreed to pay approximately $440 million to the states over a period of six to 10 years and refrain from certain marketing practices. As of October 24, 2022, one state has opted out of the multistate settlement in objection to certain conditions. We remain a party to lawsuits initiated by the attorneys general of Alaska, Hawaii, Minnesota and New Mexico. JUUL is also named in other attorneys general lawsuits in which we currently are not named.
Private Sector Activity on Tobacco Products
A number of retailers, including national chains, have discontinued the sale of all tobacco products, and others have discontinued the sale of e-vapor products. Reasons for the discontinuation include change in corporate policy and, with respect
to e-vapor products, reported illnesses and the uncertain regulatory environment. It is possible that if this private sector activity becomes more widespread it could have a material adverse effect on our business and our consolidated results of operations, cash flows or financial position.
Illicit Trade in Tobacco Products
Illicit trade in tobacco products can have an adverse impact on our business. Illicit trade can take many forms, including the sale of counterfeit tobacco products; the sale of tobacco products in the United States that are intended for sale outside the country; the sale of untaxed tobacco products over the Internet and by other means designed to avoid the collection of applicable taxes; and diversion into one taxing jurisdiction of tobacco products intended for sale in another. Counterfeit tobacco products, for example, are manufactured by unknown third parties in unregulated environments. Counterfeit versions of our products can negatively affect adult tobacco consumer experiences with and opinions of those brands. Illicit trade in tobacco products also harms law-abiding wholesalers and retailers by depriving them of lawful sales and undermines the significant investment we have made in legitimate distribution channels. Moreover, illicit trade in tobacco products results in federal, state and local governments losing tax revenues. Losses in tax revenues can cause such governments to take various actions, including increasing excise taxes, imposing legislative or regulatory requirements, or asserting claims against manufacturers of tobacco products or members of the trade channels through which such tobacco products are distributed and sold, each of which may have a material adverse effect on our business and our consolidated results of operations, cash flows or financial position.
We communicate with wholesale and retail trade members regarding illicit trade in tobacco products and how we can help prevent such activities, enforce wholesale and retail trade programs and policies that address illicit trade in tobacco products and, when necessary, litigate to protect our trademarks.
Price, Availability and Quality of Tobacco, Other Raw Materials, Ingredients and Component Parts
Shifts in crops (such as those driven by economic conditions and adverse weather patterns), government restrictions and mandated prices, production control programs, economic trade sanctions, import duties and tariffs, international trade disruptions, inflation, geopolitical instability, climate and environmental changes and disruptions due to man-made or natural disasters may increase the cost or reduce the supply or quality of tobacco, other raw materials, ingredients or component parts used to manufacture our products. Any significant change in such factors could restrict our ability to continue manufacturing and marketing existing products or impact adult consumer product acceptability and have a material adverse effect on our profitability and business.
As with other agricultural commodities, tobacco price, quality and availability can be influenced by variations in weather patterns, including those caused by climate change, and macroeconomic conditions and imbalances in supply and demand, among other factors. For varieties of tobacco only available in limited geographies, government-mandated prices and production control programs, political instability or government prohibitions on the import or export of tobacco in certain countries pose additional risks to price, availability and quality. The unavailability or unacceptability of any particular variety of tobacco leaf necessary to manufacture our products could impair our ability to continue marketing existing products or impact adult tobacco consumer product acceptability. In addition, as consumer demand increases for smoke-free products and decreases for combustible products, the volume of tobacco leaf required for production may decrease. The reduced demand for tobacco leaf may result in the reduced supply and availability of domestic tobacco as growers divert resources to other crops, which could result in increased costs to us.
Current macroeconomic conditions and geopolitical instability (including historically high inflation, high gas prices, labor shortages, the continued impact of the COVID-19 pandemic and the Russian invasion of Ukraine) are causing worldwide disruptions and delays to supply chains and commercial markets, which limit access to, and increase the cost of, raw materials, ingredients and component parts (for example, tobacco leaf and resins and aluminum used in our packaging). We are implementing various strategies to help secure sufficient supplies of raw materials, ingredients and component parts for production.
In addition, government taxes, restrictions and prohibitions on the sale and use of certain products may limit access to, and increase the costs of, raw materials and component parts and, potentially, impede our ability to sell certain of our products. For example, additional taxes on the use of certain single-use plastics have been proposed by the U.S. Congress, which, if passed, could increase the costs of, and impair our ability to, source certain materials used in the packaging for our products.
We work to mitigate these risks by maintaining inventory levels of certain tobacco varieties that cover several years, purchasing raw materials, ingredients and component parts from disperse geographic regions throughout the world and entering into long-term contracts with some of our tobacco growers and direct material suppliers. To date, the impact on us of changes in the price, availability and quality of tobacco, other raw materials, ingredients and component parts has not been material. However, the effects of the current macroeconomic and geopolitical conditions on prices, availability and quality of such items may
continue, which could have a material adverse effect on our business and our consolidated results of operations, cash flows or financial position.
Timing of Sales
In the ordinary course of business, we are subject to many influences that can impact the timing of sales to customers, including the timing of holidays and other annual or special events, the timing of promotions, customer incentive programs and customer inventory programs, as well as the actual or speculated timing of pricing actions and tax-driven price increases.
Operating Results
Smokeable Products Segment
Financial Results
The following table summarizes operating results, includes reported and adjusted OCI margins, and provides a reconciliation of reported OCI to adjusted OCI for our smokeable products segment:
| Operating Results | |||||||||||||||||||||||||||||||||||
| For the Nine Months Ended September 30, | For the Three Months Ended September 30, | ||||||||||||||||||||||||||||||||||
| (in millions) | 2022 | 2021 | Change | 2022 | 2021 | Change | |||||||||||||||||||||||||||||
| Net revenues | $ | 17,020 | $ | 17,275 | (1.5) | % | $ | 5,882 | $ | 5,975 | (1.6) | % | |||||||||||||||||||||||
| Excise taxes | (3,289) | (3,620) | (1,108) | (1,218) | |||||||||||||||||||||||||||||||
| Revenues net of excise taxes | $ | 13,731 | $ | 13,655 | $ | 4,774 | $ | 4,757 | |||||||||||||||||||||||||||
| Reported OCI | $ | 8,112 | $ | 7,901 | 2.7 | % | $ | 2,791 | $ | 2,753 | 1.4 | % | |||||||||||||||||||||||
| NPM Adjustment Items | (60) | (53) | — | (21) | |||||||||||||||||||||||||||||||
| Tobacco and health and certain other litigation items | 71 | 72 | 21 | 29 | |||||||||||||||||||||||||||||||
| Adjusted OCI | $ | 8,123 | $ | 7,920 | 2.6 | % | $ | 2,812 | $ | 2,761 | 1.8 | % | |||||||||||||||||||||||
| Reported OCI margins (1) | 59.1 | % | 57.9 | % | 1.2 pp | 58.5 | % | 57.9 | % | 0.6 pp | |||||||||||||||||||||||||
| Adjusted OCI margins (1) | 59.2 | % | 58.0 | % | 1.2 pp | 58.9 | % | 58.0 | % | 0.9 pp |
(1) Reported and adjusted OCI margins are calculated as reported and adjusted OCI, respectively, divided by revenues net of excise taxes.
Nine Months Ended September 30, 2022 Compared with Nine Months Ended September 30, 2021
Net revenues, which include excise taxes billed to customers, decreased $255 million (1.5%), due primarily to lower shipment volume ($1,745 million), partially offset by higher pricing ($1,461 million), which includes lower promotional investments.
Reported and adjusted OCI increased $211 million (2.7%) and $203 million (2.6%), respectively, due primarily to higher pricing ($1,472 million), which includes lower promotional investments, partially offset by lower shipment volume ($1,068 million), higher costs ($150 million) and higher per unit settlement charges.
Three Months Ended September 30, 2022 Compared with Three Months Ended September 30, 2021
Net revenues, which include excise taxes billed to customers, decreased $93 million (1.6%), due primarily to lower shipment volume ($584 million), partially offset by higher pricing ($480 million), which includes higher promotional investments.
Reported OCI increased $38 million (1.4%), due primarily to higher pricing ($491 million), which includes higher promotional investments, partially offset by lower shipment volume ($362 million), higher costs ($78 million) and NPM Adjustment Items in 2021 ($21 million).
Adjusted OCI increased $51 million (1.8%), due primarily to higher pricing, which includes higher promotional investments, partially offset by lower shipment volume and higher costs.
Shipment Volume and Retail Share Results
The following table summarizes our smokeable products segment’s shipment volume performance:
| Shipment Volume | |||||||||||||||||||||||||||||||||||
| For the Nine Months Ended September 30, | For the Three Months Ended September 30, | ||||||||||||||||||||||||||||||||||
| (sticks in millions) | 2022 | 2021 | Change | 2022 | 2021 | Change | |||||||||||||||||||||||||||||
| Cigarettes: | |||||||||||||||||||||||||||||||||||
| Marlboro | 57,809 | 63,122 | (8.4) | % | 19,484 | 21,368 | (8.8) | % | |||||||||||||||||||||||||||
| Other premium | 2,951 | 3,180 | (7.2) | % | 997 | 1,042 | (4.3) | % | |||||||||||||||||||||||||||
| Discount | 4,211 | 5,068 | (16.9) | % | 1,364 | 1,640 | (16.8) | % | |||||||||||||||||||||||||||
| Total cigarettes | 64,971 | 71,370 | (9.0) | % | 21,845 | 24,050 | (9.2) | % | |||||||||||||||||||||||||||
| Cigars: | |||||||||||||||||||||||||||||||||||
| Black & Mild | 1,303 | 1,356 | (3.9) | % | 438 | 424 | 3.3 | % | |||||||||||||||||||||||||||
| Other | 3 | 5 | (40.0) | % | 1 | 1 | — | % | |||||||||||||||||||||||||||
| Total cigars | 1,306 | 1,361 | (4.0) | % | 439 | 425 | 3.3 | % | |||||||||||||||||||||||||||
| Total smokeable products | 66,277 | 72,731 | (8.9) | % | 22,284 | 24,475 | (9.0) | % |
Note: Cigarettes shipment volume includes Marlboro; Other premium brands, such as Virginia Slims, Parliament, Benson & Hedges and Nat’s; and Discount brands, which include L&M, Basic and Chesterfield. Cigarettes volume includes units sold as well as promotional units, but excludes units sold for distribution to Puerto Rico, and units sold in U.S. Territories, to overseas military and by Philip Morris Duty Free Inc., none of which, individually or in the aggregate, is material to our smokeable products segment.
The following table summarizes cigarettes retail share performance:
| Retail Share | |||||||||||||||||||||||||||||||||||
| For the Nine Months Ended September 30, | For the Three Months Ended September 30, | ||||||||||||||||||||||||||||||||||
| 2022 | 2021 | Percentage Point Change | 2022 | 2021 | Percentage Point Change | ||||||||||||||||||||||||||||||
| Cigarettes: | |||||||||||||||||||||||||||||||||||
| Marlboro | 42.6 | % | 43.0 | % | (0.4) | 42.6 | % | 43.0 | % | (0.4) | |||||||||||||||||||||||||
| Other premium | 2.3 | 2.3 | — | 2.3 | 2.3 | — | |||||||||||||||||||||||||||||
| Discount | 3.2 | 3.5 | (0.3) | 3.0 | 3.5 | (0.5) | |||||||||||||||||||||||||||||
| Total cigarettes | 48.1 | % | 48.8 | % | (0.7) | 47.9 | % | 48.8 | % | (0.9) | |||||||||||||||||||||||||
Note: Retail share results for cigarettes are based on data from IRI/Management Science Associates, Inc., a tracking service that uses a sample of stores and certain wholesale shipments to project market share and depict share trends. This service tracks sales in the food, drug, mass merchandisers, convenience, military, dollar store and club trade classes. For other trade classes selling cigarettes, retail share is based on shipments from wholesalers to retailers through the Store Tracking Analytical Reporting System (“STARS”). This service is not designed to capture sales through other channels, including the internet, direct mail and some illicitly tax-advantaged outlets. It is IRI’s standard practice to periodically refresh its services, which could restate retail share results that were previously released in this service.
For a discussion of volume trends and factors that impact volume and retail share performance, see Tobacco Space - Business Environment above.
Nine Months Ended September 30, 2022 Compared with the Nine Months Ended September 30, 2021
Our smokeable products segment’s reported domestic cigarettes shipment volume decreased 9.0%, driven primarily by the industry’s decline rate and retail share losses (both of which were impacted by macroeconomic pressures on adult tobacco consumers’ disposable income) and other factors, partially offset by trade inventory movements. When adjusted for trade inventory movements and other factors, our smokeable products segment’s reported domestic cigarettes shipment volume decreased by an estimated 9.5%. When adjusted for trade inventory movements and other factors, total estimated domestic cigarette industry volume decreased by an estimated 7.5%.
Shipments of premium cigarettes accounted for 93.5% and 92.9% of our smokeable products segment’s reported domestic cigarettes shipment volume for the nine months ended September 30, 2022 and 2021, respectively.
Our smokeable products segment’s reported cigar shipment volume decreased 4.0%, driven by trade inventory movements, macroeconomic pressures on adult tobacco consumers’ disposable income and other factors.
Marlboro retail share of the total cigarette category decreased 0.4 share points to 42.6%, primarily due to increased macroeconomic pressures on adult tobacco consumers’ disposable income. However, Marlboro share of the premium segment grew to 58.1%, an increase of 0.4 share points.
Total cigarette industry discount retail share increased 1.3 share point to 26.6%, primarily due to increased macroeconomic pressures on adult tobacco consumers’ disposable income.
Three Months Ended September 30, 2022 Compared with Three Months Ended September 30, 2021
Our smokeable products segment’s reported domestic cigarettes shipment volume decreased 9.2%, driven primarily by the industry’s decline rate and retail share losses (both of which were impacted by macroeconomic pressures on adult tobacco consumers’ disposable income) and other factors, partially offset by trade inventory movements. When adjusted for trade inventory movements, our smokeable products segment’s reported domestic cigarettes shipment volume decreased by an estimated 10%. When adjusted for trade inventory movements and other factors, total estimated domestic cigarette industry volume decreased by an estimated 8%.
Shipments of premium cigarettes accounted for 93.8% and 93.2% of our smokeable products segment’s reported domestic cigarettes shipment volume for the three months ended September 30, 2022 and 2021, respectively.
Our smokeable products segment’s reported cigar shipment volume increased 3.3%, primarily driven by trade inventory movements.
Marlboro retail share of the total cigarette category decreased 0.4 share points and 0.1 share point sequentially to 42.6%, primarily due to increased macroeconomic pressures on adult tobacco consumers’ disposable income. However, Marlboro share of the premium segment grew to 58.4%, an increase of 0.7 share points versus the prior year and 0.4 share points sequentially.
Total cigarette industry discount retail share increased 1.6 share points to 27.1%, primarily due to increased macroeconomic pressures on adult tobacco consumers’ disposable income.
For a discussion regarding the cigarette industry discount retail share dynamics in 2022 and the economic conditions, including a high inflationary environment, that impact adult tobacco consumer purchasing behavior, see Operating Results by Business Segment - Tobacco Space - Business Environment - Summary above.
Pricing Actions
PM USA and Middleton executed the following pricing and promotional allowance actions during 2022 and 2021:
▪Effective July 17, 2022, PM USA increased the list price on all of its cigarette brands by $0.15 per pack.
▪Effective May 22, 2022, Middleton increased various list prices across substantially all of its cigar brands resulting in a weighted-average increase of approximately $0.17 per five-pack.
▪Effective April 24, 2022, PM USA increased the list price of Marlboro, L&M, Basic and Chesterfield by $0.15 per pack. PM USA also increased the list price of all its other cigarette brands by $0.20 per pack.
▪Effective January 9, 2022, Middleton increased various list prices across substantially all of its cigar brands resulting in a weighted-average increase of approximately $0.13 per five-pack.
▪Effective December 12, 2021, PM USA increased the list price of Marlboro, L&M and Chesterfield by $0.15 per pack. In addition, PM USA increased the list price of all of its other cigarette brands by $0.20 per pack.
▪Effective August 15, 2021, PM USA increased the list price of Marlboro, L&M and Chesterfield by $0.14 per pack. In addition, PM USA increased the list price of all of its other cigarette brands by $0.17 per pack.
▪Effective January 24, 2021, PM USA increased the list price on all of its cigarette brands by $0.14 per pack.
▪Effective January 10, 2021, Middleton increased various list prices across substantially all of its cigar brands resulting in a weighted-average increase of approximately $0.07 per five-pack.
In addition:
▪Effective October 16, 2022, PM USA increased the list price of Marlboro, L&M, Basic and Chesterfield by $0.15 per pack. PM USA also increased the list price of all its other cigarette brands by $0.20 per pack.
Oral Tobacco Products Segment
Financial Results
The following table summarizes operating results, includes reported and adjusted OCI margins, and provides a reconciliation of reported OCI to adjusted OCI for our oral tobacco products segment:
| Operating Results | |||||||||||||||||||||||||||||||||||
| For the Nine Months Ended September 30, | For the Three Months Ended September 30, | ||||||||||||||||||||||||||||||||||
| (in millions) | 2022 | 2021 | Change | 2022 | 2021 | Change | |||||||||||||||||||||||||||||
| Net revenues | $ | 1,948 | $ | 1,945 | 0.2 | % | $ | 670 | $ | 626 | 7.0 | % | |||||||||||||||||||||||
| Excise taxes | (91) | (98) | (30) | (32) | |||||||||||||||||||||||||||||||
| Revenues net of excise taxes | $ | 1,857 | $ | 1,847 | $ | 640 | $ | 594 | |||||||||||||||||||||||||||
| Reported OCI | $ | 1,262 | $ | 1,269 | (0.6) | % | $ | 425 | $ | 405 | 4.9 | % | |||||||||||||||||||||||
| Asset impairment, exit, implementation, acquisition and disposition-related costs | — | 37 | — | — | |||||||||||||||||||||||||||||||
| Adjusted OCI | $ | 1,262 | $ | 1,306 | (3.4) | % | $ | 425 | $ | 405 | 4.9 | % | |||||||||||||||||||||||
| Reported OCI margins (1) | 68.0 | % | 68.7 | % | (0.7) pp | 66.4 | % | 68.2 | % | (1.8) pp | |||||||||||||||||||||||||
| Adjusted OCI margins (1) | 68.0 | % | 70.7 | % | (2.7) pp | 66.4 | % | 68.2 | % | (1.8) pp |
(1) Reported and adjusted OCI margins are calculated as reported and adjusted OCI, respectively, divided by revenues net of excise taxes.
Nine Months Ended September 30, 2022 Compared with Nine Months Ended September 30, 2021
Net revenues, which include excise taxes billed to customers, were essentially unchanged as higher pricing ($72 million), which includes higher promotional investments in on!, was mostly offset by lower shipment volume and a higher percentage of on! shipment volume relative to MST versus 2021 (“volume/mix” - $67 million).
Reported OCI decreased $7 million (0.6%), due primarily to lower volume/mix ($78 million) and higher costs ($34 million), partially offset by higher pricing, which includes higher promotional investments in on!, and acquisition-related costs in 2021 ($37 million).
Adjusted OCI decreased $44 million (3.4%), due primarily to volume/mix and higher costs, partially offset by higher pricing, which includes higher promotional investments in on!.
Three Months Ended September 30, 2022 Compared with Three Months Ended September 30, 2021
Net revenues, which include excise taxes billed to customers, increased $44 million (7.0%), due primarily to higher pricing ($43 million), which includes higher promotional investments in on!.
Reported and adjusted OCI increased $20 million (4.9%), due primarily to higher pricing, which includes higher promotional investments in on!, partially offset by higher costs ($15 million) and lower volume/mix.
Shipment Volume and Retail Share Results
The following table summarizes our oral tobacco products segment’s shipment volume performance:
| Shipment Volume | |||||||||||||||||||||||||||||||||||
| For the Nine Months Ended September 30, | For the Three Months Ended September 30, | ||||||||||||||||||||||||||||||||||
| (cans and packs in millions) | 2022 | 2021 | Change | 2022 | 2021 | Change | |||||||||||||||||||||||||||||
| Copenhagen | 356.5 | 378.4 | (5.8) | % | 118.2 | 121.4 | (2.6) | % | |||||||||||||||||||||||||||
| Skoal | 136.1 | 148.2 | (8.2) | % | 45.3 | 47.7 | (5.0) | % | |||||||||||||||||||||||||||
| on! | 59.6 | 34.6 | 72.3 | % | 21.0 | 12.5 | 68.0 | % | |||||||||||||||||||||||||||
| Other | 51.3 | 53.1 | (3.4) | % | 16.9 | 17.2 | (1.7) | % | |||||||||||||||||||||||||||
| Total oral tobacco products | 603.5 | 614.3 | (1.8) | % | 201.4 | 198.8 | 1.3 | % |
Note: Oral tobacco products shipment volume includes cans and packs sold, as well as promotional units, but excludes international volume, which is currently not material to our oral tobacco products segment. New types of oral tobacco products, as well as new packaging configurations of existing oral tobacco products, may or may not be equivalent to existing MST products on a can-for-can basis. To calculate volumes of cans and packs shipped, one pack of snus or one can of oral nicotine pouches, irrespective of the number of pouches in the pack or can, is assumed to be equivalent to one can of MST.
The following table summarizes our oral tobacco products segment’s retail share performance (excluding international volume):
| Retail Share | |||||||||||||||||||||||||||||||||||
| For the Nine Months Ended September 30, | For the Three Months Ended September 30, | ||||||||||||||||||||||||||||||||||
| 2022 | 2021 | Percentage Point Change | 2022 | 2021 | Percentage Point Change | ||||||||||||||||||||||||||||||
| Copenhagen | 27.3 | % | 29.8 | % | (2.5) | 26.7 | % | 29.2 | % | (2.5) | |||||||||||||||||||||||||
| Skoal | 11.4 | 12.6 | (1.2) | 11.1 | 12.3 | (1.2) | |||||||||||||||||||||||||||||
| on! | 4.8 | 2.2 | 2.6 | 5.2 | 3.0 | 2.2 | |||||||||||||||||||||||||||||
| Other | 3.1 | 3.2 | (0.1) | 3.2 | 3.2 | — | |||||||||||||||||||||||||||||
| Total oral tobacco products | 46.6 | % | 47.8 | % | (1.2) | 46.2 | % | 47.7 | % | (1.5) |
Note: Our oral tobacco products segment’s retail share results exclude international volume, which is currently not material. Retail share results for oral tobacco products are based on data from IRI InfoScan, a tracking service that uses a sample of stores to project market share and depict share trends. This service tracks sales in the food, drug, mass merchandisers, convenience, military, dollar store and club trade classes on the number of cans and packs sold. Oral tobacco products is defined by IRI as MST, snus and oral nicotine pouches. New types of oral tobacco products, as well as new packaging configurations of existing oral tobacco products, may or may not be equivalent to existing MST products on a can-for-can basis. For example, one pack of snus or one can of oral nicotine pouches, irrespective of the number of pouches in the pack or can, is assumed to be equivalent to one can of MST. Because this service represents retail share performance only in key trade channels, it should not be considered a precise measurement of actual retail share. It is IRI’s standard practice to periodically refresh its InfoScan services, which could restate retail share results that were previously released in this service.
For a discussion of volume trends and factors that impact volume and retail share performance, see Tobacco Space - Business Environment above.
Nine Months Ended September 30, 2022 Compared with the Nine Months Ended September 30, 2021
Our oral tobacco products segment’s reported domestic shipment volume decreased 1.8%, driven primarily by retail share losses and trade inventory movements, partially offset by calendar differences, the industry’s growth rate and other factors. When adjusted for trade inventory movements and calendar differences, our oral tobacco products segment’s reported domestic shipment volume decreased by an estimated 1.5%.
Total oral tobacco products category industry volume was essentially unchanged for the six months ended September 30, 2022, as the growth in oral nicotine pouches was offset by declining MST volumes.
Our oral tobacco products segment’s retail share was 46.6%, and Copenhagen continued to be the leading oral tobacco brand with a retail share of 27.3%. In our oral tobacco products segment, macroeconomic pressures on adult tobacco consumers’ disposable income for MST products resulted in share declines for MST products, which were partially offset by the growth of oral nicotine pouches.
Three Months Ended September 30, 2022 Compared with Three Months Ended September 30, 2021
Our oral tobacco products segment’s reported domestic shipment volume increased 1.3%, driven primarily by trade inventory movements, the industry’s growth rate and calendar differences, partially offset by retail share losses and other factors. When adjusted for trade inventory movements and calendar differences, our oral tobacco products segment’s reported domestic shipment volume decreased by an estimated 2%.
Our oral tobacco products segment’s retail share was 46.2%, and Copenhagen continued to be the leading oral tobacco brand with a retail share of 26.7%. In the oral tobacco products segment, macroeconomic pressures on adult tobacco consumers’ disposable income resulted in share declines for MST products, which were partially offset by the growth of oral nicotine pouches.
Pricing Actions
USSTC executed the following pricing actions during 2022 and 2021:
▪Effective July 26, 2022, USSTC increased the list price on its Copenhagen popular price products by $0.13 per can. USSTC also decreased the list price on select Copenhagen brands by $0.11 per can. In addition, USSTC increased the list price on its Skoal and Red Seal brands and the balance of its Copenhagen brands by $0.09 per can and increased the list price on its Husky brand by $0.12 per can.
▪Effective May 24, 2022, USSTC increased the list price on its Copenhagen, Skoal and Red Seal brands by $0.09 per can. USSTC also increased the list price on its Husky brand by $0.12 per can.
▪Effective February 22, 2022, USSTC increased the list price on its Copenhagen, Skoal and Red Seal brands by $0.08 per can. USSTC also increased the list price on its Husky brand by $0.12 per can.
▪Effective October 26, 2021, USSTC increased the list price on its Copenhagen and Skoal brands by $0.08 per can. USSTC also increased the list price on its Husky brand by $0.12 per can. In addition, USSTC decreased the price on its Red Seal brand by $0.17 per can.
▪Effective June 29, 2021, USSTC increased the list price on its Skoal Blend products by $0.46 per can. USSTC also increased the list price on its Red Seal and Copenhagen brands and the balance of its Skoal products by $0.05 per can. In addition, USSTC decreased the price on its Husky brand by $1.65 per can.
▪Effective March 2, 2021, USSTC increased the list price on its Skoal Blend products by $0.16 per can. USSTC also increased the list price on its Husky, Red Seal and Copenhagen brands and the balance of its Skoal products by $0.08 per can.
Liquidity and Capital Resources
We are a holding company that is primarily dependent on the capital resources of our subsidiaries to satisfy our liquidity requirements. Our access to the operating cash flows of our wholly owned subsidiaries consists of cash received from the payment of dividends and distributions, and the payment of interest on intercompany loans. At September 30, 2022, our significant wholly owned subsidiaries were not limited by contractual obligations in their ability to pay cash dividends or make other distributions with respect to their equity interests. In addition, we receive cash dividends on our interest in ABI and will continue to do so as long as ABI pays dividends.
At September 30, 2022, we had $2.5 billion of cash and cash equivalents. In addition to having access to the operating cash flows of our wholly owned subsidiaries, our capital resources include access to credit markets in the form of commercial paper, availability under our $3.0 billion Credit Agreement (as defined below), which we use for general corporate purposes, and access to credit markets through the issuance of long-term senior unsecured notes. For additional information, see Capital Markets and Other Matters below.
In addition to funding current operations, we primarily use our net cash from operating activities for payment of dividends, share repurchases under our share repurchase programs, repayment of debt, acquisitions of or investments in businesses and assets, and capital expenditures.
We believe our cash and cash equivalents balance, along with our future cash flows from operations, capacity for borrowings under the Credit Agreement and access to credit markets, provide sufficient liquidity to meet the needs of our business operations and to satisfy our projected cash requirements for the next 12 months and the foreseeable future.
Capital Markets and Other Matters
Credit Ratings - Our cost and terms of financing and our access to commercial paper markets may be impacted by applicable credit ratings. The impact of credit ratings on the cost of borrowings under the Credit Agreement is discussed in Note 9.
At September 30, 2022, the credit ratings and outlook for our indebtedness by major credit rating agencies were:
| Short-term Debt | Long-term Debt | Outlook | |||||||||||||||
| Moody’s Investors Service, Inc. (“Moody’s”) | P-2 | A3 | Stable | ||||||||||||||
| Standard & Poor’s Financial Services LLC (“S&P”) | A-2 | BBB | Stable | ||||||||||||||
| Fitch Ratings Inc. | F2 | BBB | Stable |
Credit Lines - From time to time, we have short-term borrowing needs to meet our working capital requirements arising from the timing of annual MSA payments, quarterly income tax payments and quarterly dividend payments, and generally use our commercial paper program to meet those needs.
In August 2022, we entered into an extension and amendment to our $3.0 billion senior unsecured 5-year revolving credit agreement (as amended, the “Credit Agreement”).
At September 30, 2022, we had availability under the Credit Agreement for borrowings of up to an aggregate principal amount of $3.0 billion, and we were in compliance with the covenants in the Credit Agreement. We expect to continue to meet the covenants in the Credit Agreement. We monitor the credit quality of our bank group and are not aware of any potential non-performing credit provider in that group. For further discussion, see Note 9.
Debt - At September 30, 2022 and December 31, 2021, our total debt was $26.3 billion and $28.0 billion, respectively. In August 2022, we repaid in full our 2.85% senior unsecured notes in the aggregate principal amount of $1.1 billion at maturity. As a result of the repayment and changes in the Euro exchange rate, the weighted-average coupon interest rate on total long-
term debt increased to approximately 4.1% at September 30, 2022 from approximately 4.0% at December 31, 2021. For further details on long-term debt, see Note 9.
Guarantees and Other Similar Matters - As discussed in Note 11, we had unused letters of credit obtained in the ordinary course of business and guarantees (including third-party guarantees) outstanding at September 30, 2022. From time to time, we also issue lines of credit to affiliated entities. In addition, as discussed below in Supplemental Guarantor Financial Information and in Note 9, PM USA has issued guarantees relating to our obligations under our outstanding debt securities, borrowings under the Credit Agreement and amounts outstanding under the commercial paper program. These items have not had, and are not expected to have, a significant impact on our liquidity.
Payments Under State Settlement Agreements and FDA Regulation - As discussed in Note 11, PM USA has entered into State Settlement Agreements with the states and territories of the United States that call for certain payments. In addition, PM USA, Middleton and USSTC are subject to quarterly user fees imposed by the FDA as a result of the FSPTCA. For further discussion of the resolutions of certain disputes with states and territories related to the NPM adjustment provision under the MSA, see Health Care Cost Recovery Litigation - NPM Adjustment Disputes in Note 11.
Based on current agreements, estimated market share, estimated annual industry volume decline rates and inflation rates, the estimated amounts that we may charge to cost of sales for payments related to State Settlement Agreements and FDA user fees are $4.2 billion on average for the next three years. These amounts exclude the potential impact of any NPM Adjustment Items.
The estimated amounts due under the State Settlement Agreements charged to cost of sales in each year are generally paid in April of the following year. The amounts charged to cost of sales for FDA user fees are generally paid in the quarter in which the fees are incurred. We paid $3.8 billion and $3.9 billion for the nine months ended September 30, 2022 and 2021, respectively, in connection with the State Settlement Agreements and FDA user fees, primarily all of which was paid in the second quarter of each period. We recorded $3.2 billion and $3.4 billion of charges to cost of sales for the nine months ended September 30, 2022 and 2021, respectively, and $1.1 billion and $1.2 billion of charges to cost of sales for the three months ended September 30, 2022 and 2021, respectively, in connection with the State Settlement Agreements and FDA user fees. As previously stated, the payments due under the terms of the State Settlement Agreements and FDA user fees are subject to adjustment for several factors, including volume, operating income, inflation and certain contingent events and, in general, are allocated based on each manufacturer’s market share. The future payment amounts discussed above are estimates, and actual payment amounts will differ to the extent underlying assumptions differ from actual future results. For further discussion on the potential impact of inflation on future payments, see Operating Results by Business Segment - Tobacco Space - State Settlement Agreements.
Litigation-Related Deposits and Payments - With respect to certain adverse verdicts currently on appeal, to obtain stays of judgments pending appeals, as of September 30, 2022, PM USA had posted appeal bonds totaling $42 million, which have been collateralized with restricted cash that is included in assets on our condensed consolidated balance sheet.
Litigation is subject to uncertainty, and an adverse outcome or settlement of litigation could have a material adverse effect on our consolidated financial position, cash flows or results of operations in a particular fiscal quarter or fiscal year, as more fully disclosed in Note 11.
Altria and PMI Purchase Agreement & Altria and Japan Tobacco Joint Venture
▪In October 2022, we entered into a purchase agreement with Triaga, Inc., a subsidiary of PMI, to, among other things, transition and ultimately conclude our relationship with respect to the IQOS System in the U.S. We received a payment of $1.0 billion and expect to receive an additional payment of $1.7 billion (plus interest) by July 2023 for a total cash payment of approximately $2.7 billion (plus interest). We expect to use the cash proceeds for several items, which may include investments in pursuit of our Vision, debt repayment, share repurchases and general corporate purposes. Share repurchases depend on marketplace conditions and other factors and remain subject to the discretion of our Board of Directors (“Board of Directors” or “Board”).
▪In October 2022, we entered into a joint venture with JTI (US) Holding, Inc. (“JTIUH”), a subsidiary of Japan Tobacco Inc., for the U.S. marketing and commercialization of heated tobacco stick products. PM USA holds a 75% economic interest in Horizon, the joint venture entity, with JTIUH having a 25% economic interest. PM USA is responsible for making initial capital contributions to Horizon of up to $150 million, as charges are incurred.
For further discussion of these events, see Note 13.
Equity and Dividends
During the first nine months of 2022 and 2021, we paid dividends of $4,908 million and $4,787 million, respectively, an increase of 2.5%, reflecting a higher dividend rate, partially offset by fewer shares outstanding as a result of shares we repurchased under our share repurchase program.
In August 2022, our Board of Directors declared a 4.4% increase in the quarterly dividend rate to $0.94 per share of our common stock versus the previous rate of $0.90 per share. Our current annualized dividend rate is $3.76 per share. We maintain our long-term objective of a dividend payout ratio target of approximately 80% of our adjusted diluted EPS. Future dividend payments remain subject to the discretion of our Board.
For a discussion of our share repurchase program, see Note 1. Background and Basis of Presentation to our condensed consolidated financial statements in Item 1 and Part II, Item 2. Unregistered Sales of Equity Securities and Use of Proceeds of this Form 10-Q.
Financial Review
Cash Provided by/Used in Operating Activities
During the first nine months of 2022, net cash provided by operating activities was $5,637 million compared with $5,742 million during the first nine months of 2021. This decrease was due primarily to the sale of our wine business in October 2021.
We had a working capital deficit at September 30, 2022 and December 31, 2021. Our management believes that we have the ability to fund working capital deficits with cash provided by operating activities, borrowings under the Credit Agreement and access to credit markets.
Cash Provided by/Used in Investing Activities
During the first nine months of 2022, net cash used in investing activities was $215 million compared with $42 million during the first nine months of 2021. This increase was due primarily to the purchase of certain intellectual property in 2022, lower proceeds from finance asset sales and higher capital expenditures.
Capital expenditures for 2022 are expected to be in the range of $175 million to $225 million, a reduction from the previous range of $200 million to $250 million, and are expected to be funded from operating cash flows.
Cash Provided by/Used in Financing Activities
During the first nine months of 2022, net cash used in financing activities was $7,476 million compared with $7,668 million during the first nine months of 2021. This decrease was due primarily to the following:
▪repayment of $1.5 billion in full of our senior unsecured notes at scheduled maturity in May 2021;
▪2021 debt tender offers and redemption transactions, which included proceeds of $5.5 billion from the issuance of long-term senior unsecured notes used to repurchase and redeem $5.0 billion of our senior unsecured notes and payment of $0.6 billion for the premiums and fees; and
▪purchase of the remaining 20% interest in Helix in 2021;
partially offset by:
▪repayment of $1.1 billion in full of our senior unsecured notes at scheduled maturity in August 2022;
▪higher repurchases of common stock in 2022; and
▪higher dividends paid in 2022.
New Accounting Guidance Not Yet Adopted
See Note 12. New Accounting Guidance Not Yet Adopted to our condensed consolidated financial statements in Item 1 for a discussion of issued accounting guidance applicable to, but not yet adopted by, us.
Contingencies
See Note 11 for a discussion of contingencies.
Supplemental Guarantor Financial Information
PM USA (the “Guarantor”), which is a 100% owned subsidiary of Altria Group, Inc. (the “Parent”), has guaranteed the Parent’s obligations under its outstanding debt securities, borrowings under its Credit Agreement and amounts outstanding under its commercial paper program (the “Guarantees”). Pursuant to the Guarantees, the Guarantor fully and unconditionally guarantees, as primary obligor, the payment and performance of the Parent’s obligations under the guaranteed debt instruments (the “Obligations”), subject to release under certain customary circumstances as noted below.
The Guarantees provide that the Guarantor guarantees the punctual payment when due, whether at stated maturity, by acceleration or otherwise, of the Obligations. The liability of the Guarantor under the Guarantees is absolute and unconditional irrespective of: any lack of validity, enforceability or genuineness of any provision of any agreement or instrument relating thereto; any change in the time, manner or place of payment of, or in any other term of, all or any of the Obligations, or any other amendment or waiver of or any consent to departure from any agreement or instrument relating thereto; any exchange, release or non-perfection of any collateral, or any release or amendment or waiver of or consent to departure from any other
guarantee, for all or any of the Obligations; or any other circumstance that might otherwise constitute a defense available to, or a discharge of, the Parent or the Guarantor.
Under applicable provisions of federal bankruptcy law or comparable provisions of state fraudulent transfer law, the Guarantees could be voided, or claims in respect of the Guarantees could be subordinated to the debts of the Guarantor, if, among other things, the Guarantor, at the time it incurred the Obligations evidenced by the Guarantees:
▪received less than reasonably equivalent value or fair consideration therefor; and
▪either:
▪was insolvent or rendered insolvent by reason of such occurrence;
▪was engaged in a business or transaction for which the assets of the Guarantor constituted unreasonably small capital; or
▪intended to incur, or believed that it would incur, debts beyond its ability to pay such debts as they mature.
In addition, under such circumstances, the payment of amounts by the Guarantor pursuant to the Guarantees could be voided and required to be returned to the Guarantor, or to a fund for the benefit of the Guarantor, as the case may be.
The measures of insolvency for purposes of the foregoing considerations will vary depending upon the law applied in any proceeding with respect to the foregoing. Generally, however, the Guarantor would be considered insolvent if:
▪the sum of its debts, including contingent liabilities, was greater than the saleable value of its assets, all at a fair valuation;
▪the present fair saleable value of its assets was less than the amount that would be required to pay its probable liability on its existing debts, including contingent liabilities, as they become absolute and mature; or
▪it could not pay its debts as they become due.
To the extent the Guarantees are voided as a fraudulent conveyance or held unenforceable for any other reason, the holders of the guaranteed debt obligations would not have any claim against the Guarantor and would be creditors solely of the Parent.
The obligations of the Guarantor under the Guarantees are limited to the maximum amount as will not result in the Guarantor’s obligations under the Guarantees constituting a fraudulent transfer or conveyance, after giving effect to such maximum amount and all other contingent and fixed liabilities of the Guarantor that are relevant under Bankruptcy Law, the Uniform Fraudulent Conveyance Act, the Uniform Fraudulent Transfer Act or any similar federal or state law to the extent applicable to the Guarantees. For this purpose, “Bankruptcy Law” means Title 11, U.S. Code, or any similar federal or state law for the relief of debtors.
The Guarantor will be unconditionally released and discharged from the Obligations upon the earliest to occur of:
▪the date, if any, on which the Guarantor consolidates with or merges into the Parent or any successor;
▪the date, if any, on which the Parent or any successor consolidates with or merges into the Guarantor;
▪the payment in full of the Obligations pertaining to such Guarantees; and
▪the rating of the Parent’s long-term senior unsecured debt by S&P of A or higher.
The Parent is a holding company; therefore, its access to the operating cash flows of its wholly owned subsidiaries consists of cash received from the payment of dividends and distributions, and the payment of interest on intercompany loans by its subsidiaries. Neither the Guarantor nor other 100% owned subsidiaries of the Parent that are not guarantors of the debt (“Non-Guarantor Subsidiaries”) are limited by contractual obligations on their ability to pay cash dividends or make other distributions with respect to their equity interests.
The following tables include summarized financial information for the Parent and the Guarantor. Transactions between the Parent and the Guarantor (including investment and intercompany balances as well as equity earnings) have been eliminated. The Parent’s and the Guarantor’s intercompany balances with Non-Guarantor Subsidiaries have been presented separately. This summarized financial information is not intended to present the financial position or results of operations of the Parent or the Guarantor in accordance with GAAP.
Summarized Balance Sheets
(in millions of dollars)
| Parent | Guarantor | |||||||||||||||||||||||||
| September 30, 2022 | December 31, 2021 | September 30, 2022 | December 31, 2021 | |||||||||||||||||||||||
| Assets | ||||||||||||||||||||||||||
| Due from Non-Guarantor Subsidiaries | $ | 152 | $ | 25 | $ | 240 | $ | 240 | ||||||||||||||||||
| Other current assets | 2,613 | 4,635 | 862 | 874 | ||||||||||||||||||||||
| Total current assets | $ | 2,765 | $ | 4,660 | $ | 1,102 | $ | 1,114 | ||||||||||||||||||
| Due from Non-Guarantor Subsidiaries | $ | 4,790 | $ | 4,790 | $ | — | $ | — | ||||||||||||||||||
| Other assets | 9,077 | 11,195 | 1,739 | 1,764 | ||||||||||||||||||||||
| Total non-current assets | $ | 13,867 | $ | 15,985 | $ | 1,739 | $ | 1,764 | ||||||||||||||||||
| Liabilities | ||||||||||||||||||||||||||
| Due to Non-Guarantor Subsidiaries | $ | 1,299 | $ | 1,179 | $ | 923 | $ | 778 | ||||||||||||||||||
| Other current liabilities | 3,437 | 3,339 | 3,849 | 4,452 | ||||||||||||||||||||||
| Total current liabilities | $ | 4,736 | $ | 4,518 | $ | 4,772 | $ | 5,230 | ||||||||||||||||||
| Total non-current liabilities | $ | 26,446 | $ | 28,865 | $ | 994 | $ | 979 |
Summarized Statements of Earnings (Losses)
(in millions of dollars)
| For the Nine Months Ended September 30, 2022 | ||||||||||||||||||||
| Parent (1) | Guarantor | |||||||||||||||||||
| Net revenues | $ | — | $ | 16,225 | ||||||||||||||||
| Gross profit | — | 8,672 | ||||||||||||||||||
| Net earnings (losses) | (2,313) | 5,662 | ||||||||||||||||||
(1) For the nine months ended September 30, 2022, net earnings (losses) include $171 million of intercompany interest income from non-guarantor subsidiaries.
Cautionary Factors That May Affect Future Results
Forward-Looking and Cautionary Statements
This Form 10-Q contains statements concerning our expectations, plans, objectives, future financial performance and other statements that are not historical facts. You can identify these forward-looking statements by use of words such as “strategy,” “expects,” “continues,” “plans,” “anticipates,” “believes,” “will,” “estimates,” “forecasts,” “intends,” “projects,” “goals,” “objectives,” “guidance,” “targets” and other words of similar meaning. You can also identify them by the fact that they do not relate strictly to historical or current facts.
We cannot guarantee that any forward-looking statement will be realized, although we believe we have been prudent in our plans, estimates and assumptions. Achievement of future results is subject to risks, uncertainties and assumptions that may prove to be inaccurate. Should known or unknown risks or uncertainties materialize, or should underlying estimates or assumptions prove inaccurate, actual results could differ materially from those anticipated, estimated or projected. You should bear this in mind as you consider forward-looking statements and whether to invest in or remain invested in our securities. In connection with the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995, we are identifying important factors that, individually or in the aggregate, could cause actual results and outcomes, including with respect to our ability to achieve our Vision, to differ materially from those contained in, or implied by, any forward-looking statements we made. Any such statement is qualified by reference to the following cautionary statements. We elaborate on these important factors and the risks we face throughout this Form 10-Q, particularly in the “Executive Summary” and “Business Environment” sections preceding our discussion of the operating results of our segments above, in Part II, Item 1A. Risk Factors in this Form
10-Q and in our publicly filed reports, including our 2021 Form 10-K and our Second Quarter Form 10-Q. These factors and risks include the following:
▪unfavorable litigation outcomes, including risks associated with adverse jury and judicial determinations, courts and arbitrators reaching conclusions at variance with our or any of our investees’ understanding of applicable law, bonding requirements in the jurisdictions that do not limit the dollar amount of appeal bonds and certain challenges to bond cap statutes;
▪government (including the FDA) and private sector actions that impact adult tobacco consumer acceptability of, or access to, tobacco products;
▪tobacco product taxation, including lower tobacco product consumption levels and potential shifts in adult tobacco consumer purchases as a result of federal, state and local excise tax increases, and excise taxes on e-vapor and oral nicotine products and the impact on adult tobacco consumers’ transition to lower priced tobacco products;
▪unfavorable outcomes of any government investigations of us or our investees;
▪a successful challenge to our tax positions, an increase to the corporate income tax rate or other changes to federal or state tax laws;
▪the risks related to our and our investees’ international business operations, including failure to prevent violations of various United States and foreign laws and regulations such as foreign privacy laws and laws prohibiting bribery and corruption;
▪the risks associated with health epidemics and pandemics, including the COVID-19 pandemic and similar outbreaks, such as their impact on our and our investees’ ability to continue manufacturing and distributing products (directly or indirectly due to their impact on suppliers, distributors and distribution chain service providers) and their impact on macroeconomic conditions and, in turn, adult tobacco consumer purchasing behavior;
▪the failure of our and our investees’ efforts to compete effectively in their respective markets;
▪the growth of the e-vapor category and other innovative tobacco products, including oral nicotine pouches, contributing to reductions in cigarette and MST consumption levels and sales volume;
▪our ability to promote brand equity successfully; anticipate and respond to evolving adult tobacco consumer preferences; develop, manufacture, market and distribute products that appeal to adult tobacco consumers; promote productivity; and protect or enhance margins through cost savings and price increases;
▪our failure to develop and commercialize innovative products, including innovative tobacco products that may reduce the health risks associated with cigarettes and other traditional tobacco products, that appeal to adult tobacco consumers;
▪changes, including in macroeconomic and geopolitical conditions (including inflation), that result in shifts in adult tobacco consumer disposable income and purchasing behavior, including choosing lower-priced and discount brands;
▪significant changes in price, availability or quality of tobacco, other raw materials or component parts, including as a result of changes in macroeconomic, climate and geopolitical conditions, including the Russian invasion of Ukraine;
▪the risks, including FDA regulatory risks, related to our and our investees’ reliance on a few significant facilities and a small number of key suppliers, distributors and distribution chain service providers, and the risk of an extended disruption at a facility of, or of service by, a supplier, distributor or distribution chain service provider of our tobacco subsidiaries or our investees;
▪required or voluntary product recalls or prohibition on the marketing or sale of our or any of our investees’ products as a result of various circumstances such as FDA or other regulatory action or product contamination;
▪the failure of our information systems or the information systems of key suppliers or service providers to function as intended, or cyber attacks or security breaches;
▪our inability to attract and retain the best talent due to the impact of decreasing social acceptance of tobacco usage, tobacco control actions and other factors, including current labor market dynamics;
▪impairment losses as a result of the write down of intangible assets, including goodwill;
▪the adverse effect of acquisitions, investments, dispositions or other events on our credit rating;
▪our inability to acquire attractive businesses or make attractive investments on favorable terms, or at all, or to realize the anticipated benefits from an acquisition or investment and our inability to dispose of businesses or investments on favorable terms or at all;
▪the risks related to disruption and uncertainty in the credit and capital markets, including risk of losing access to these markets, which may adversely affect our earnings or dividend rate or both;
▪our inability to attract and retain investors due to the impact of decreasing social acceptance of tobacco usage or unfavorable environmental, social and governance ratings;
▪the risk that any challenge to our investment in JUUL, if successful, could result in a broad range of resolutions, including divestiture of the investment or rescission of the transaction;
▪the risks generally related to our investments in JUUL and Cronos, including our inability to realize the expected benefits of our investments in the expected time frames, or at all, due to the risks encountered by our investees in their businesses, such as operational, competitive, compliance, litigation and reputational risks, and legislative and regulatory risks at the international, federal, state and local levels; and changes in the fair value of our investment in JUUL and impairment of our investment in Cronos;
▪the risks related to our inability to acquire a controlling interest in JUUL as a result of standstill restrictions or to control the material decisions of JUUL and restrictions on our ability to sell or otherwise transfer our shares of JUUL until December 20, 2024;
▪the risks associated with our investment in ABI, including effects of the COVID-19 pandemic, foreign currency exchange rates and macroeconomic and geopolitical conditions, including the Russian invasion of Ukraine, on ABI’s business and the impact on our earnings from, and carrying value of, our investment in ABI;
▪the risks related to our ownership percentage in ABI decreasing below certain levels, including additional tax liabilities, a reduction in the number of directors that we have the right to have appointed to the ABI board of directors and our potential inability to use the equity method of accounting for our investment in ABI;
▪the risk of a successful challenge to the tax treatment of our equity investment in ABI; and
▪the risks, including criminal, civil or tax liability, related to our or Cronos’s failure to comply with applicable laws, including cannabis laws.
You should understand that it is not possible to predict or identify all factors and risks. Consequently, you should not consider the foregoing list to be complete. We do not undertake to update any forward-looking statement that we may make from time to time except as required by applicable law.
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