Management's Discussion and Analysis of Financial Condition and Results of Operations
(Continued)
Discussion and Analysis > Financial Review
(Continued)
 Off-Balance Sheet Arrangements and Aggregate Contractual Obligations: Altria Group, Inc. has no off-balance sheet arrangements, including special purpose entities, other than guarantees and contractual obligations that are discussed below.
Guarantees: As discussed in Note 19, at December 31, 2004, Altria Group, Inc.’s third-party guarantees, which are primarily related to excise taxes, and acquisition and divestiture activities, approximated $468 million, of which $305 million have no specified expiration dates. The remainder expire through 2023, with $134 million expiring during 2005. Altria Group, Inc. is required to perform under these guarantees in the event that a third party fails to make contractual payments or achieve performance measures. Altria Group, Inc. has a liability of $44 million on its consolidated balance sheet at December 31, 2004, relating to these guarantees. In the ordinary course of business, certain subsidiaries of ALG have agreed to indemnify a limited number of third parties in the event of future litigation. At December 31, 2004, subsidiaries of ALG were also contingently liable for $1.8 billion of guarantees related to their own performance, consisting of the following:
- $1.6 billion of guarantees of excise tax and import duties related primarily to international shipments of tobacco products. In these agreements, a financial institution provides a guarantee of tax payments to the respective governments. PMI then issues a guarantee to the respective financial institution for the payment of the taxes. These are revolving facilities that are integral to the shipment of tobacco products in international markets, and the underlying taxes payable are recorded on Altria Group, Inc.’s consolidated balance sheet.
- $0.2 billion of other guarantees related to the tobacco and food businesses.
Although Altria Group, Inc.’s guarantees of its own performance are frequently short-term in nature, the short-term guarantees are expected to be replaced, upon expiration, with similar guarantees of similar amounts. These items have not had, and are not expected to have, a significant impact on Altria Group, Inc.’s liquidity.
Aggregate Contractual Obligations: The following table summarizes Altria Group, Inc.’s contractual obligations at December 31, 2004:
|
Payments Due |
|
 |
| (in millions) |
Total |
2005 |
2006-2007 |
2008-2009 |
2010 and
Thereafter |
|
| Long-term debt(1): |
|
|
|
|
|
| Consumer products |
$18,252 |
$1,751 |
$ 5,317 |
$3,791 |
$7,393 |
| Financial services |
2,221 |
|
1,722 |
499 |
|
|
|
20,473 |
1,751 |
7,039 |
4,290 |
7,393 |
|
| Operating leases(2) |
1,997 |
544 |
711 |
355 |
387 |
|
| Purchase obligations(3): |
|
|
|
|
|
| Inventory and |
|
|
|
|
|
| production costs |
9,060 |
4,847 |
2,643 |
692 |
878 |
| Other |
3,772 |
2,325 |
1,246 |
183 |
18 |
|
|
12,832 |
7,172 |
3,889 |
875 |
896 |
|
| Other long-term |
|
|
|
|
|
| liabilities(4) |
108 |
11 |
75 |
18 |
4 |
|
|
$35,410 |
$9,478 |
$11,714 |
$5,538 |
$8,680 |
|
|
|
| (1) |
Amounts represent the expected cash payments of Altria Group, Inc.'s long-term debt and do not include bond premiums or discounts, or nonrecourse debt issued by PMCC. |
| (2) |
Amounts represent the minimum rental commitments under non-cancelable operating leases. Altria Group, Inc. has no significant capital lease obligations. |
| (3) |
Purchase obligations for inventory and production costs (such as raw materials, indirect materials and supplies, packaging, co-manufacturing arrangements, storage and distribution) are commitments for projected needs to be utilized in the normal course of business. Other purchase obligations include commitments for marketing, advertising, capital expenditures, information technology and professional services. Arrangements are considered purchase obligations if a contract specifies all significant terms, including fixed or minimum quantities to be purchased, a pricing structure and approximate timing of the transaction. Most arrangements are cancelable without a significant penalty, and with short notice (usually 30 days). Any amounts reflected on the consolidated balance sheet as accounts payable and accrued liabilities are excluded from the table above. |
| (4) |
Other long-term liabilities primarily consist of specific severance and incentive compensation arrangements. The following long-term liabilities included on the consolidated balance sheet are excluded from the table above: accrued pension, postretirement health care and postemployment costs, income taxes, minority interest, insurance accruals and other accruals. Altria Group, Inc. is unable to estimate the timing of payments for these items. Currently, Altria Group, Inc. anticipates making U.S. pension contributions of approximately $780 million in 2005 and non-U.S. pension contributions of approximately $210 million in 2005, based on current tax law (as discussed in Note 16). |
The State Settlement Agreements and related legal fee payments, and payments for tobacco-growers, as discussed below and in Note 19, are excluded from the table above, as the payments are subject to adjustment for several factors, including inflation, market share and industry volume. In addition, the international tobacco E.C. agreement payments discussed below are excluded from the table above, as the payments are subject to adjustment based on certain variables including PMI’s market share in the European Union. Litigation escrow deposits, as discussed below and in Note 19, are also excluded from the table above since these deposits will be returned to PM USA should it prevail on appeal.
International Tobacco E.C. Agreement: On July 9, 2004, PMI entered into an agreement with the E.C. and 10 member states of the European Union that provides for broad cooperation with European law enforcement agencies on anti-contraband and anti-counterfeit efforts. This agreement resolves all disputes between the parties relating to these issues. Under the terms of the agreement, PMI will make 13 payments over 12 years, including an initial payment of $250 million, which was recorded as a pre-tax charge against its earnings in 2004. The agreement calls for additional payments of approximately $150 million on the first anniversary of the agreement, approximately $100 million on the second anniversary and approximately $75 million each year thereafter for 10 years, each of which is to be adjusted based on certain variables, including PMI’s market share in the European Union in the year preceding payment. Because future additional payments are subject to these variables, PMI will record charges for them as an expense in cost of sales when product is shipped. During the third quarter of 2004, PMI began accruing for payments due on the first anniversary of the agreement.
Payments Under State Settlement and Other Tobacco Agreements: As discussed previously and in Note 19, PM USA has entered into State Settlement Agreements with the states and territories of the United States and has also entered into agreements for the benefit of United States tobacco growers. During 2004, PMI entered into a cooperation agreement with the European Community. Each of these agreements calls for payments that are based on variable factors, such as cigarette volume, market shares and inflation. PM USA and PMI account for the cost of these agreements as a component of cost of sales as product is shipped.
As a result of these agreements, PM USA and PMI recorded the following amounts in cost of sales for the years ended December 31, 2004, 2003 and 2002:
| (in billions) |
PM USA |
|
PMI |
|
Total |
|
|
| 2004 |
$4.6 |
|
$0.1 |
|
$4.7 |
|
| 2003 |
4.4 |
|
|
|
4.4 |
|
| 2002 |
5.3 |
|
|
|
5.3 |
|
|
In addition, during 2004, PMI recorded a pre-tax charge of $250 million at the signing of the cooperation agreement with the European Community, and PM USA recorded a one-time pre-tax charge of $202 million in 2003 related to the settlement of litigation with tobacco growers.
Based on current agreements and current estimates of volume, market share and inflation trends, the estimated amounts that PM USA and PMI may charge to cost of sales under these agreements will be approximately as follows:
| (in billions) |
PM USA |
|
|
PMI |
|
|
Total |
|
|
|
| 2005 |
$4.9 |
|
|
$0.1 |
|
|
$5.0 |
|
|
| 2006 |
5.0 |
|
|
0.1 |
|
|
5.1 |
|
|
| 2007 |
5.6 |
|
|
0.1 |
|
|
5.7 |
|
|
| 2008 |
5.7 |
|
|
0.1 |
|
|
5.8 |
|
|
| 2009 |
5.7 |
|
|
0.1 |
|
|
5.8 |
|
|
| 2010 to 2015 |
5.9 |
annually |
|
0.1 |
annually |
|
6.0 |
annually |
|
| Thereafter |
6.0 |
annually |
|
|
|
|
6.0 |
annually |
|
|
The estimated amounts charged to cost of sales in each of the years above would generally be paid in the following year. As previously stated, the payments due under the terms of these agreements are subject to adjustment for several factors, including cigarette volume, inflation and certain contingent events and, in general, are allocated based on each manufacturer’s market share. The amounts shown in the table above are estimates, and actual amounts will differ as underlying assumptions differ from actual future results.
Litigation Escrow Deposits: As discussed in Note 19, in connection with obtaining a stay of execution in May 2001 in the Engle class action, PM USA placed $1.2 billion into an interest-bearing escrow account. The $1.2 billion escrow account and a deposit of $100 million related to the bonding requirement are included in the December 31, 2004 and 2003 consolidated balance sheets as other assets. These amounts will be returned to PM USA should it prevail in its appeal of the case. Interest income on the $1.2 billion escrow account is paid to PM USA quarterly and is being recorded as earned in interest and other debt expense, net, in the consolidated statements of earnings.
In addition, in connection with obtaining a stay of execution in the Price case, PM USA placed a pre-existing 7.0%, $6 billion long-term note from ALG to PM USA into an escrow account with an Illinois financial institution. Since this note is the result of an intercompany financing arrangement, it does not appear on the consolidated balance sheet of Altria Group, Inc. In addition, PM USA agreed to make cash deposits with the clerk of the Madison County Circuit Court in the following amounts: beginning October 1, 2003, an amount equal to the interest earned by PM USA on the ALG note ($210 million every six months), an additional $800 million in four equal quarterly installments between September 2003 and June 2004 and the payments of the principal of the note which are due in equal installments in April 2008, 2009 and 2010. Through December 31, 2004, PM USA made $1.4 billion of the cash deposits due under the judge’s order. Cash deposits into the account are included in other assets on the consolidated balance sheet. If PM USA prevails on appeal, the escrowed note and all cash deposited with the court will be returned to PM USA, with accrued interest less administrative fees payable to the court.
With respect to certain adverse verdicts and judicial decisions currently on appeal, other than the Engle and the Price cases discussed above, as of December 31, 2004, PM USA has posted various forms of security totaling $360 million, the majority of which have been collateralized with cash deposits, to obtain stays of judgments pending appeals. In addition, as discussed in Note 19, PMI placed 51 million euro in an escrow account pending appeal of an adverse administrative court decision in Italy. These cash deposits are included in other assets on the consolidated balance sheets.
As discussed above under Tobacco—Business Environment, the present legislative and litigation environment is substantially uncertain and could result in material adverse consequences for the business, financial condition, cash flows or results of operations of ALG, PM USA and PMI. Assuming there are no material adverse developments in the legislative and litigation environment, Altria Group, Inc. expects its cash flow from operations to provide sufficient liquidity to meet the ongoing needs of the business.
Equity and Dividends: During 2003, ALG completed its three-year, $10 billion share repurchase program and began a one-year, $3 billion share repurchase program that expired in March 2004. Following the rating agencies’ actions in the first quarter of 2003, discussed above in “Credit Ratings,” ALG suspended its share repurchase program. During 2003, ALG repurchased 18.7 million shares of its common stock at a cost of $0.7 billion. Cumulative repurchases under the $3 billion authority totaled approximately 7.0 million shares at an aggregate cost of $241 million.
During 2003, Kraft completed its $500 million share repurchase program and began a $700 million share repurchase program. During December 2004, Kraft completed its $700 million share repurchase program and began a $1.5 billion two-year share repurchase program. During 2004 and 2003, Kraft repurchased 21.5 million and 12.5 million shares, respectively, of its Class A common stock at a cost of $700 million and $380 million, respectively. As of December 31, 2004, Kraft had repurchased 1.4 million shares of its Class A common stock, under its $1.5 billion authority, at an aggregate cost of $50 million.
Altria Group, Inc. purchased 1.6 million shares of Kraft’s Class A common stock in open market transactions during 2002 in order to completely satisfy a one-time grant of Kraft options to employees of Altria Group, Inc. at the time of the Kraft IPO.
As discussed in Note 12 to the consolidated financial statements, in January 2004 and January 2003, Altria Group, Inc. granted approximately 1.4 million and 2.3 million shares of restricted stock, respectively, to eligible U.S.-based employees and Directors of Altria Group, Inc. and also issued to eligible non-U.S. employees and Directors rights to receive approximately 1.0 million and 1.5 million equivalent shares, respectively. Restrictions on most of the stock and rights granted in 2004 and 2003 lapse in the first quarter of 2007 and the first quarter of 2006, respectively.
Dividends paid in 2004 and 2003 were $5.7 billion and $5.3 billion, respectively, an increase of 7.3%, primarily reflecting a higher dividend rate in 2004. During the third quarter of 2004, Altria Group, Inc.’s Board of Directors approved a 7.4% increase in the quarterly dividend rate to $0.73 per share. As a result, the annualized dividend rate increased to $2.92 from $2.72.
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