Vector Group - Q2 2024

Executive Summary

• Q2 2024 was cleanly ahead of expectations: EPS $0.34 and revenue $371.9M, with operating income up 36.5% YoY on net pricing, lower litigation expense and resilient deep-discount demand; EPS and revenue beat third‑party published consensus by ~$0.04 and ~$9M, respectively (S&P Global consensus unavailable).
• Mix and pricing drove margin expansion despite a 5.1% decline in wholesaler shipments; tobacco gross profit rose to $127.3M and gross margin (as reported) to ~34.2% (50.6% ex-FET), while tobacco operating income rose 37% YoY.
• Montego remained the key growth engine: ~72% of unit mix in Q2; retail share reached ~4.1% with distribution >103k stores per call commentary, underpinning Vector’s share gains in deep discount.
• Potential stock catalysts: continued pricing-led earnings resilience and, subsequently (post-quarter), announced agreement to be acquired by Japan Tobacco at $15.00/share in cash (pending customary approvals).

What Went Well and What Went Wrong

What Went Well

• Pricing/mix drove margin expansion despite volume declines: tobacco gross profit +9.1% YoY; ex-FET tobacco gross margin expanded to 50.6% from 48.8%.
• Litigation expense normalization: absence of the prior-year Mississippi settlement ($18M) aided YoY operating income, with total operating expenses down 34% YoY in Q2.
• Montego momentum and deep discount leadership: Montego ~72% of units; management highlighted a compelling 45–50% price discount vs Marlboro supporting trade-down and retention in value segments (“the price gap remains stable… between a 45% to 50% discount to Marlborough”).

What Went Wrong

• Volumes declined: wholesaler shipments down 5.1% in Q2, reflecting industry declines and mix shifts, partially offset by pricing (+7.1% per call).
• MSA cost inflation: per-pack MSA increased to ~$0.59 (Q2) on higher CPI adjustment and lower U.S. industry volumes; management estimates ~$1.7M P&L sensitivity per 1% change in U.S. shipments.
• Real estate equity losses persisted: equity losses from real estate ventures of $1.2M in Q2 and $11.9M YTD, reflecting softness and impairments in certain ventures.

Transcript

Operator (participant)

Welcome to Vector Group Limited's Second Quarter 2024 Earnings Conference Call. This call is being recorded and simultaneously webcast. An archived version of the webcast will be available on the investor relations section of the company's website located at www.vectorgroupltd.com. During this call, the terms adjusted operating income, adjusted net income, adjusted EBITDA, and tobacco adjusted operating income will be used. These terms are non-GAAP financial measures and should be considered in addition to, but not as a substitute for, other measures of financial performance prepared in accordance with GAAP. Reconciliations to adjusted operating income, adjusted net income, adjusted EBITDA, and tobacco adjusted operating income are contained in the company's earnings release, which has been posted to the investor relations section of the company's website. Before the call begins, I would like to read a Safe Harbor statement.

The statements made during this conference call that are not historical facts are forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ materially from those set forth in or implied by forward-looking statements. These risks are described in more detail in the company's Securities and Exchange Commission filings. Now, I would like to turn the call over to the President and Chief Executive Officer of Vector Group, Howard Lorber.

Howard Lorber (President and CEO)

Good morning, and thank you for joining us for Vector Group's Second Quarter 2024 Earnings Conference Call. With me today are Richard Lampen, our Chief Operating Officer; Bryant Kirkland, our Chief Financial Officer; and Nick Anson, President and Chief Operating Officer of Liggett Vector Brands. I will start the call with an update on our balance sheet and review our consolidated financial results for the second quarter of 2024. Then, I will ask Nick to summarize the performance of our tobacco business. I will close with final comments and open the call for questions. As of June 30th, 2024, we maintained significant liquidity with cash and cash equivalents of approximately $391 million, including cash of $150 million at Liggett. We also held investment securities and long-term investments with a fair market value of approximately $188 million.

Turning to Vector's consolidated results for the three months ended June 30th, 2024, Vector's revenues for the second quarter of 2024 were $371.9 million, up from $365.7 million in the corresponding 2023 period. Net income increased to $54.2 million, or $0.34 per diluted common share, up from $38.1 million, or $0.24 per diluted common share in the 2023 period. Adjusted EBITDA increased to $103.3 million, up from $94.1 million in the 2023 period. Adjusted net income increased to $53.3 million, or $0.34 per diluted share, up from $50.8 million, or $0.32 per diluted share in the 2023 period. Turning to Vector's consolidated results for the six months ended June 30th, 2024, revenues for the six months ended June 30th, 2024, were $696.5 million compared to $699.8 million in the corresponding 2023 period.

Net income was $89.56 per diluted common share, up from $72.8 million, or $0.46 per diluted common share in the 2023 period. Adjusted EBITDA increased to $186.0 million, up from $172.2 million in the 2023 period. Adjusted net income was $90.5 million, or $0.57 per diluted share, compared to $84.8 million, or $0.54 per diluted share in the 2023 period. I will now turn the call over to Nick to discuss our tobacco operations. Nick.

Nick Anson (President and COO)

Thank you, Howard, and good morning. Liggett delivered strong results in the second quarter and first half of 2024 as we continue to reap the benefits of our strategic investment in Montego while also delivering substantial income from our other core brands, Eagle 20's and Pyramid. Adjusted Operating Income from the tobacco segment in the second quarter was $103.0 million, an increase of $9.8 million, or 10.5% compared to the prior year period. Liggett's total retail market share remained stable at 5.8% during the second quarter of 2024. At the same time, Montego's national retail market share grew to 4.1%, up from 3.5% in the prior year period. Our portfolio of brands provides for a substantial income base. Eagle 20's and Pyramid offer significant market presence while Montego enhances our potential for long-term earnings growth. Montego, which is now delivering incremental margin, is demonstrating strong consumer demand.

The brand remains the largest discount cigarette brand in the United States and the country's fourth largest brand. Our ability to consistently improve our gross profit margin while maintaining our market share is a result of our diligent market analysis, strategic brand positioning, broad-based distribution, and excellent retail execution. As a result, we are pleased to note that in the second quarter of 2024, Montego's distribution expanded to more than 103,000 stores, up from approximately 89,000 stores in the prior year period. Despite cooling inflation, prices remain elevated, and disposable income among many consumers remains under pressure. As a result, the deep discount market segment remains strong and continues to outperform the overall U.S. cigarette market. During the second quarter of 2024, based on Management Science Associates' retail data, volumes in the deep discount category increased 5.4% while industry volumes declined 10% compared to the prior year period.

The deep discount segment comprised 16.3% of the overall market in the second quarter, up from 13.9% in the same period a year ago and 15.9% in the first quarter of 2024. This segment continues to present an attractive price option for consumers, and we are confident that our value-focused brand portfolio and nationwide footprint provide Liggett with a meaningful competitive advantage as the migration to lower-priced products continues. Liggett's second quarter retail shipments declined by 9.6% compared to the same period in 2023, while industry retail shipments declined by 10% according to data from Management Science Associates. While our second quarter retail shipments modestly outperformed the industry, Liggett's wholesale shipments were stronger, declining by 5.1%, while the industry wholesale shipments declined by 10.5% compared to the same period in 2023. The difference between our retail and wholesale shipment performance reflects the inconsistent nature of short-term wholesaler purchasing patterns.

In the second quarter, wholesalers' purchasing patterns were primarily driven by speculation surrounding the timing of manufacturers' price increases and offsetting inventory reductions we faced in the first quarter. As we have noted in the past, we believe that retail shipments are a significantly more reliable indicator of industry volume performance. For the six months ended June 30th, 2024, Liggett's wholesale shipments declined 7.8% compared to a 10.1% decline in industry shipments. As a result, Liggett's longer-term wholesale market share reflects the same stability as our retail share. I will now turn to the consolidated tobacco financials for Liggett Group and Vector Tobacco. For the three months ended June 30th, 2024, revenues increased 1.7% to $371.9 million from $365.7 million in the second quarter of 2023. The increase was the result of a 7.1% increase in pricing, partially offset by a 5.1% decrease in wholesaler shipments during the period.

For the six months ended June 30th, 2024, revenues were $696.5 million, a 0.5% decrease from $699.8 million for the corresponding period in 2023. The roughly flat results reflect a 7.8% increase in pricing, offset by a similar 7.8% decrease in wholesale shipment volumes. Liggett's operating income for the three months ended June 30th, 2024, was $102.9 million compared to $75.1 million in the corresponding 2023 period. This $27.8 million increase in operating income was primarily the result of a lack of an $18 million accrual related to our second quarter settlement last year with the state of Mississippi, along with higher gross margins. Liggett's adjusted operating income for the three months ended June 30th, 2024, increased 10.5% to $103 million compared to $93.2 million in the corresponding 2023 period.

During the same period, our second quarter gross margin equated to 34.2% of revenues, representing an increase of approximately 230 basis points compared to the corresponding 2023 period. Tobacco Adjusted EBITDA in the second quarter increased 10.2% to $104.4 million compared to $94.7 million for the corresponding 2023 period. For the six months ended June 30th, 2024, Tobacco Adjusted EBITDA increased 8.1% to $188.8 million compared to $174.6 million for the corresponding 2023 period. In summary, the operational and financial performance of our tobacco business remains strong, and our stable retail market share and profit growth validate our long-term strategy and ongoing competitive advantages in the discount segment. We are the leader in the only growth segment in the U.S. market and remain committed to providing American consumers with the best value propositions in the industry.

With our leadership in the discount segment and proven track record, we are ideally positioned to sustain our momentum and strengthen our foundation for long-term earnings growth. Thanks for your attention, and back to you, Howard.

Howard Lorber (President and CEO)

Thank you, Nick. In summary, we are pleased with our second quarter operating results, as well as our longstanding practice of paying a quarterly cash dividend. We expect that this dividend policy will continue. Now, Operator, please open the call for questions.

Operator (participant)

Thank you. At this time, if you would like to ask a question, please press the star and one on your telephone keypad. You may remove yourself from the queue at any time by pressing star and two. We will pause for a moment to allow questions to queue. We will take our first question from Ian Zaffino with Oppenheimer.

Ian Zaffino (Managing Director)

Hi, great, Austin. Thank you very much for a very strong quarter.

Howard Lorber (President and CEO)

Thanks, Ian.

Ian Zaffino (Managing Director)

Wanted to ask you, what's been driving the really strong market share? I don't know, maybe give us the relative pricing at Montego versus the relative pricing at non-Montego brands. Just trying to understand this a little bit better. Thank you.

Howard Lorber (President and CEO)

Nick, maybe you want to answer that?

Nick Anson (President and COO)

Sure. Yeah, absolutely. Look, as I alluded to, Ian, in my earlier remarks, we're continuing to reap the benefits of the strategic investment in Montego while at the same time managing our two other core brands of Eagle 20's and Pyramid. Look, we're laser-focused on the right segment of the market and our ability to improve the margins while at the same time maintaining the market share. It's the result of our retail execution and brand positioning. I mean, we've done an excellent job in this second quarter, and we're expecting those results to continue. From a pricing perspective, the price gap remains stable. With respect to Montego, you're looking at between a 45%-50% discount to Marlboro, and that's obviously a compelling value proposition for those smokers looking for value in this day and age.

Ian Zaffino (Managing Director)

Okay, thank you. Then I guess the second question would be, if I heard this right, you said that you're enjoying right now a trade down because of, I guess, economic conditions. How does the business eventually do if economic conditions continue to deteriorate? Does that low end then fall off, or how do we think about it? Maybe you could reference the financial crisis or the 2002 recession. Basically, how this category would then do if we see continued economic weakness? Thanks.

Nick Anson (President and COO)

I mean, I would say, Ian, if we see continued economic weakness, we're going to see continued downtrading as the pressure gets on the pressure continues on the consumer. So again, we're in a very good place to take advantage of that kind of situation. Even if the economic environment improves, I would argue that the premium segment at the moment is not a good option under any economic scenario for smokers. Prices are high, and with our 45%-50% discount, again, it's a good value proposition and an alternative for smokers. So I mean, we've seen as well, when conditions do, in fact, improve, based on the quality of your cigarettes, people stay with the discount segment. I mean, it's a good quality cigarette. It provides the same kind of satisfaction as a premium cigarette.

We're confident in the long term that we can sustain this momentum.

Ian Zaffino (Managing Director)

All right, great. Thank you very much. Good quarter again.

Speaker 6

Thanks, Ian.

Operator (participant)

Thank you. Our next question comes from Hale Holden with Barclays.

Hale Holden (Managing Director)

Hey, good morning. Nick, I was wondering if you could talk a little bit about what you're seeing by different retail channels. We've heard some that are softer than others, and I was wondering if there were places where you were seeing strength or if it was just sort of universal across different channels and outlets or regions?

Nick Anson (President and COO)

Yeah, sure. I mean, certainly, our independents remain very, very strong where Montego is doing well. But certainly, we've got very strong presence in both Dollar General and Family Dollar, and those kind of discount stores at the moment are performing very, very well. And our placement and the visibility that we have in those stores and the partnerships that we have are really paying dividends. So very pleased with the way those key chains are operating at the moment, I am.

Hale Holden (Managing Director)

Great. And I just sort of as a follow-up to the first question you guys got, I think a couple of years ago, if we'd said that the discount share was going to be 16%, 17%, it would have seemed a little heroic, but here you are. So I guess the question is, do you kind of continue to see that expanding as core stick numbers continue to decline from the premium sector? Is that the way to think about it over the next five years?

Nick Anson (President and COO)

So from my perspective, Ian, again, I mean, you're seeing that the premium players continue to take higher price increases, more frequent price increases as the volumes in that channel decrease. They also need those price increases to sustain the investments in their reduced-risk products. So again, I do not see the premium segment being a good option for the smoker over the long term. So again, we're feeling good about the trends in the marketplace. And certainly, as the leaders of the discount segment, we're feeling good about our position within that.

Hale Holden (Managing Director)

Great. Thank you so much. I appreciate it, fellas.

Operator (participant)

Thank you. Our next question comes from Karru Martinson with Jefferies.

Karru Martinson (Managing Director)

Good morning. We've seen growth in the pouch segment of tobacco such as ZYN. Is this a challenge to the deep discount market, or would this be an area of potential growth for you?

Howard Lorber (President and CEO)

Yeah, I mean, we're not seeing necessarily that the pouch segment is impacting the combustible segment and certainly not the discount segment. I mean, it's certainly growing, Karru, but it's off a very, very small base at the moment. So we're not concerned about the growth segment. I mean, we're looking at it as we do with all new reduced-risk products, Karru. We evaluate it, and certainly, if the right investment opportunity came along, we would take advantage of it. But at the moment, we continue to remain focused on our core competencies in the discount segment, in the only growing segment of the combustible market, and remain laser-focused on that at the moment.

Karru Martinson (Managing Director)

All right. And then on the regulatory front, is there anything new? It seems to have gone quiet there.

Howard Lorber (President and CEO)

Yeah, I'll answer that. Yes. The fact is, it seems to have gone quiet because it has gone quiet. And so obviously, politics plays a role in that, and that may be why. It's just like on the you wouldn't want to be in the marijuana business these days because every few months they say it's going to be federally legalized. And then when the Democrats came into office, they were positive it was going to be legalized. And guess what? No. So it's hard to say. It's hard to play that game. But I think, as Nick has said, we're really in a perfect position at this particular point.

Karru Martinson (Managing Director)

With that perfect position, how are you guys thinking about the capital structure these days?

Nick Anson (President and COO)

Well, we're going to have bonds that come due, and we're ready to maybe get started on working on that. I think the capital structure is good. I think we're building cash, which is good. It's always good. We'll see if we can do something with the cash that makes sense.

Karru Martinson (Managing Director)

Thank you very much, guys. Appreciate it.

Nick Anson (President and COO)

Okay, thank you.

Operator (participant)

Thank you. Ladies and gentlemen, those are all the questions that we have for today. Thank you for joining us on Vector Group's quarterly earnings conference call. On behalf of all of us at Vector Group and Liggett, we thank you for your participation, and this concludes today's call.

Nick Anson (President and COO)

Thank you.