TAKING STOCK: Big tobacco settles for new addiction

Dear Mr. Berko:

I have $23,000 that I want to invest for income and growth. I asked my broker about the tobacco stocks because they show pretty good yields. He told me the tobacco industry is going to be in the gutter in the next five years, and that fewer people smoke today and the hundreds of billions of dollars in settlements they made with state governments will soon hurt them very badly. I know tobacco companies were fined hundreds of billions of dollars, but it doesn't seem to affect their stock price, dividends or profits. How can this be possible? Do you think these are good stocks, and if you do, which would you buy?

HE in Akron, Ohio

Dear HE:

The seemingly huge tobacco settlements (more than $200 billion paid to the states' attorneys general) haven't cost Big Tobacco (Altria, British American Tobacco, Lorillard, Phillip Morris and Reynolds) more than a few farthings and a sixpence. Like it or not, cigarettes are essential to the health of the economy, vital to state government budgets and to millions of Americans who depend on tobacco sales and profits to earn their living.

So when the jury decided the tobacco industry was guilty as sin, Big Tobacco paid out billions - but just by increasing the price of a pack of cigarettes (POC). And in the agreement, cobbled by the tobacco lawyers over a dozen years ago, Big Tobacco got almost everything it wanted. The states agreed they would never sue Big Tobacco and tied its state payments to tobacco sales. So if tobacco sales decline, the states get less money, in effect putting the states in the tobacco business.

Remember 25 years ago, when a POC cost about 50 cents to 75 cents? Today, in many states, a POC costs about $7 to $9, which includes $1.01 in taxes for the federal government, plus taxes of $3 to $5.35 for every POC sold in states like Washington, Connecticut, Rhode Island, Hawaii and New York.

The multibillion-dollar settlement with the states was pabulum for the anti-smoking lobby; it garnered millions for education programs, cancer research and related support groups. And if Big Tobacco sales fall, the states will see smaller revenues from tobacco taxes. Our states have unwittingly become addicted to tobacco and the survival of all those programs employing more than 110,000 Americans.

Americans fail to realize how significant tobacco taxes have become to their well-being. The tiny state of Montana collected more than $85 million from cigarette taxes in 2010. New York City collected more than $1.5 billion, while the federal government was richer by more than $18 billion. Yes, billion! In 2010, states, counties, cities and the federal government collected more than $200 billion in cigarette sales taxes. What a deal - and the smokers pay 100 percent of the costs of their transgressions. The anti-smoking lobby has been a big failure, but its top management is paid big bucks.

In the past five years, Big Tobacco has increased revenues, earnings and dividends quite nicely, and their share prices have also done well. So I believe that Altria's (MO-29) $1.64 dividend yielding 5.7 percent, Lorillard's (LO-$123) $6.20 dividend yielding 4.9 percent and Phillip Morris' (PM-$82) $3.08 dividend yielding 3.9 percent represent above average investments for revenue, earnings and dividend growth. Each of these companies generates a strong cash flow that enables them to maintain sizeable payouts despite the challenges ahead. And in spite of the negative factors that surround this industry (which I believe are discounted in their current share prices), these companies have good cost management and effective pricing.

Go ahead and buy these three. I believe they will do as well in the coming few years as they have done in the past few years.


Please address your financial questions to Malcolm Berko, P.O. Box 8303, Largo, FL 33775 or e-mail him at mjberko@yahoo.com. Visit Creators Syndicate website at www.creators.com.

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Published: Wed, Mar 14, 2012