OREANDA-NEWS. Fitch Ratings has affirmed Altria Group, Inc.'s (Altria) 'BBB+' Issuer Default Rating (IDR). The ratings apply to approximately $12.9 billion of total outstanding debt on Sept. 30, 2015. The Rating Outlook is Stable.

A complete list of ratings follows at the end of this release.

KEY RATING DRIVERS

Cigarette Volume Decline Decelerates: The secular cigarette decline in the U.S., typically in the range of 3% to 4% per year, has decelerated to less than 1% during 2015. Fitch expects the current 1% decrease in cigarette volume to sustain in 2015 and stay below the historical run rate in 2016, especially as more disposable income remains in the hands of the smoking population, mainly driven by falling gas prices. Because of continued low oil pricing, cigarette consumers are smoking more often and have up-trended to premium cigarettes. While there will clearly be some benefit during 2016 as oil prices remain subdued, Fitch estimates a return to the historical annual rate of cigarette decline by 2017.

Operational Leverage Drives Earnings: Operating leverage coupled with moderating cigarette volume declines has driven an increase of 11.1% in operating income in the first nine months of 2015 from a 6.0% increase in sales, net of excise taxes. Additionally, the company benefitted from the expiration of a federal tobacco grower buy-out program in the fourth quarter of 2014 that had cost around $100 million per quarter. As a result, EBITDA margin rose to 44.3% for the latest-12-month (LTM) as of Sept. 30, 2015 from 43.3% in the same period last year. Fitch sees higher EBITDA margin sustained through 2016, but modestly easing annually as cigarette volume declines revert to historical levels.

Heavy Shareholder Rewards Manageable: Fitch expects Altria to maintain its shareholder-friendly posture through the ratings horizon, which includes dividend payouts around 80% (of adjusted EPS) supplemented with active share repurchasing. The company gains flexibility for heavy shareholder returns from limited acquisition opportunities and light capital spending Altria increases its dividend yearly by 8% to 9% (currently topping $4 billion) and spends around $1 billion for share repurchases that is determined annually. Fitch sees the strategy as manageable at current cash flows and with leverage (total debt to EBITDA) sustained around 2.0x.

Capital Structure Well Managed: Altria has worked down $8.3 billion of high coupon notes (due in 2018, 2019, 2038, and 2039) issued for the U.S. Tobacco (UST) acquisition in 2009. Since 2012, the company re-financed and tendered for nearly $4.9 billion of the expensive debt, leaving a balance of approximately $3.4 billion as of Sept. 30, 2015. As such, Altria's weighted average interest rate on its debt, all fixed rate, decreased to 5.7% in 2014 from 8.3% in 2011. The company also chose to pay off $1 billion maturing debt in 2015 as opposed to refinancing the notes, yielding total debt of $12.9 billion on Sept. 30, 2015 (from $14.7 billion at the end of 2014) and gross debt leverage of 1.5x for the LTM ending Sept. 30, 2015. Fitch anticipates sustained low leverage over the next few years, as the company maintains financial discipline while benefiting from strong operational performance. Altria's next significant long-term debt maturity is the balance of 9.7% unsecured notes ($863.5 million) due in November 2018.

SABMiller Investment Change: Altria's liquidity has been supported by an approximately 27% ownership in SABMiller plc (SABMiller), valued around $23 billion, that provides annual dividends in the range of $400 million to $500 million. The proposed agreement whereby Anheuser-Busch InBev (AB InBev) will acquire SABMiller in a cash and stock transaction valued at $107 billion will effectively reduce Altria's ownership to approximately 10.5% of the economic and voting interest in the combined entity. In addition, Altria will receive $2.5 billion in cash before taxes from partial share redemption, with the final ownership stake and cash proceeds subject to proration.

Fitch sees Altria continuing to account for its investment in the merged entity through the equity method of accounting given board representation and continued ability to exercise significant influence in the combined company. Fitch sees a credit neutral impact from the transaction as cash dividends from the new entity are forecasted to remain relatively steady with present levels despite the likelihood that the AB InBev-SABMiller firm will reduce dividends to focus on debt reduction over the intermediate term.

Industry Factors Limit Momentum: Positive action to current credit ratings is restrained by key factors in the mature industry, specifically secular volume declines, high litigation exposure, rising regulatory risks and an accommodative shareholder stance. Reversal of positive price realization for tobacco products such that secular volume declines are not offset leading to compression in profitability and cash flow generation would have negative consequences for Altria's ratings.

KEY ASSUMPTIONS

Fitch's key assumptions within our rating case for Altria include:

--Consolidated revenue increases by a CAGR of 3.0% from FY2014 to FY2017 given a moderation in cigarette volume declines, mainly in 2015 and 2016.

--Consolidated EBITDA and EBITDA margin approximate $8.5 billion and 44.6%, respectively in 2015, and $8.5 billion and 44.1% in 2016, as cigarette volumes move closer toward the historical rate of decline.

--Total debt to EBITDA around 1.5x in 2015 and 2016, from a steady debt load and stable EBITDA generation.

--FCF of $750 million to $850 million in 2015 and 2016, respectively, representing margin around 4% including annual increases to the dividends and capital intensity maintained around 1%.

RATING SENSITIVITIES

Future development that may individually or collectively, lead to a positive rating action:

--Mitigation of negative industry factors with an emphasis on the slowing or reversal of secular volume declines;
--Altria fully offsetting cigarette volume pressures with meaningful portfolio diversification, such as alternative smoking products including E-cigarettes;
--Significantly reducing litigation risk, most notably the Engle progeny exposure;
--A commitment to a conservative financial strategy demonstrated by lower dividend payouts and less-aggressive share repurchasing.

Future development that may individually or collectively, lead to a negative rating action:

--Altria has flexibility to accommodate a more aggressive shareholder-friendly stance or acquisition activity, but gross debt leverage exceeding 2.5x would warrant a one-notch downgrade;
--EBITDA pressures arising from greater-than-expected market contraction or a heightened competitive environment, such that gross debt leverage rises and stays above 2.5x;
--Regulatory decisions immediately banning sale of mentholated cigarettes or meaningfully increasing state or federal excise taxes on smoking products that significantly accelerates volume declines;
--Substantial changes in the litigation process, whereby legal cases may reach verdict quicker and/or material adverse judgments significantly increase in number and amount.

LIQUIDITY

Liquidity remains solid with cash of $1.9 billion and full availability under a recently extended $3 billion five-year revolver due August 2020 at Sept. 30, 2015. Internal liquidity is provided by strong operating cash flows that increase annually and were $5.7 billion for the LTM period ending Sept. 30, 2015 rising from $4.7 billion in 2014 and $4.4 billion in 2013. Altria's liquidity is supported by the company's approximate 27% share of SABMiller, worth around $23 billion, which provides annual dividends in the range of $400 million to $500 million. The current holding may convert to a 10.5% ownership in an AB InBev-SABMiller merged entity, potentially the world's largest brewer, in the intermediate term. Excess liquidity is important given Altria's annual payment to the Master Settlement Agreement (MSA) of approximately $4 billion in April

FULL LIST OF RATING ACTIONS

Fitch affirms Altria's rating as follows:

Altria Group Inc. (Parent)

--Long-term Issuer Default Rating (IDR) at 'BBB+';
--Guaranteed bank credit facility at 'BBB+';
--Guaranteed senior unsecured debt at 'BBB+';
--Short-term IDR at 'F2';
--Commercial paper (CP) at 'F2.'

Philip Morris Capital Corp. (a wholly owned subsidiary of Altria)

--Long-term IDR at 'BBB+';
--Short-term IDR at 'F2';
--CP at 'F2'.