Management's Discussion and Analysis of Financial Condition and Results of Operations

(Continued)

Discussion and Analysis Financial Review

Net Cash Provided by Operating Activities: During 2003, net cash provided by operating activities was $10.8 billion compared with $10.6 billion during 2002. The increase of $204 million was due primarily to a lower use of cash to fund working capital, partially offset by a use of cash to fund the Price escrow.

During 2002, net cash provided by operating activities was higher than 2001, due primarily to PM USA’s 2001 establishment of an escrow account related to the Engle case (see Note 18) and an increase in deferred taxes in 2002 (due primarily to the Miller transaction), partially offset by 2002 contributions to U.S. and non-U.S. pension funds.

Net Cash Used in Investing Activities: One element of the growth strategy of ALG’s subsidiaries is to strengthen their brand portfolios through active programs of selective acquisitions and divestitures. ALG’s subsidiaries are constantly investigating potential acquisition candidates and from time to time sell businesses that are outside their core categories or that do not meet their growth or profitability targets.

During 2003, 2002 and 2001, net cash used in investing activities was $2.4 billion, $2.5 billion and $2.9 billion, respectively. The decrease in 2003 reflects fewer investments in finance assets during 2003, partially offset by a higher level of acquisitions made in 2003. The decrease in 2002 primarily reflects lower levels of cash used for acquisitions and an increase in cash provided by the sales of businesses.

Capital expenditures for 2003 decreased 1.7% to $2.0 billion. Approximately 40% related to tobacco operations and approximately 50% related to food operations; the expenses were primarily for modernization and consolidation of manufacturing facilities, and expansion of certain production capacity. In 2004, capital expenditures are expected to be at or slightly above 2003 expenditures and are expected to be funded by operating cash flows.

Net Cash Used in Financing Activities: During 2003, net cash used in financing activities was $5.5 billion, compared with $8.2 billion in 2002 and $6.4 billion in 2001. The decrease of $2.7 billion from 2002 was due primarily to a lower level of ALG payments for common stock repurchases in 2003 ($5.4 billion), partially offset by a lower net issuance of consumer products debt in 2003. The increase in net cash used in financing activities in 2002 over 2001 was due primarily to the use of approximately $1.7 billion of cash flow from the Miller transaction to repurchase shares of ALG common stock.

Debt and Liquidity:

Credit Ratings: Following a $10.1 billion judgment on March 21, 2003 against PM USA in the Price litigation, which is discussed in Note 18, the three major credit rating agencies took a series of ratings actions resulting in the lowering of ALG’s short-term and long-term debt ratings. During 2003, Moody’s lowered ALG’s short-term debt rating from “P-1” to “P-3” and its long-term debt rating from “A2” to “Baa2.” Standard & Poor’s lowered ALG’s short-term debt rating from “A-1” to “A-2” and its long-term debt rating from “A-” to “BBB.” Fitch Rating Services lowered ALG’s short-term debt rating from “F-1” to “F-2” and its long-term debt rating from “A” to “BBB.”

While Kraft is not a party to, and has no exposure to, this litigation, its credit ratings were also lowered, but to a lesser degree. As a result of the rating agencies’ actions, borrowing costs for ALG and Kraft have increased. None of ALG’s or Kraft’s debt agreements require accelerated repayment as a result of a decrease in credit ratings.

Credit Lines: ALG and Kraft each maintain separate revolving credit facilities that they have historically used to support the issuance of commercial paper. However, as a result of the rating agencies’ actions discussed above, ALG’s and Kraft’s access to the commercial paper market was temporarily eliminated. Subsequently, in April 2003, ALG and Kraft began to borrow against existing credit facilities to repay maturing commercial paper and to fund normal working capital needs. By the end of May 2003, Kraft regained its access to the commercial paper market, and in November 2003, ALG regained limited access to the commercial paper market.

At December 31, 2003, credit lines for ALG and Kraft, and the related activity were as follows (in billions of dollars):

		ALG
	Type		Credit Lines				Amount Drawn			Commerical Paper Outstanding			Lines Available
	364-day		$1.3				$ —			$ —			$1.3
	Multi-year		5.0				0.5			0.5			4.0
			$6.3				$0.5			$0.5			$5.3

		Kraft
	Type		Credit Lines				Amount Drawn			Commerical Paper Outstanding			Lines Available
	364-day		$2.5				$ —			$0.3			$2.2
	Multi-year		2.0							1.9			0.1
			$4.5				$ —			$2.2			$2.3

The ALG multi-year revolving credit facility requires the maintenance of a fixed charges coverage ratio. The Kraft multi-year revolving credit facility, which is for the sole use of Kraft, requires the maintenance of a minimum net worth. ALG and Kraft met their respective covenants at December 31, 2003, and expect to continue to meet their respective covenants. The multi-year facilities both expire in July 2006 and enable the respective companies to reclassify short-term debt on a long-term basis. At December 31, 2003, $1.9 billion of commercial paper borrowings that Kraft intends to refinance were reclassified as long-term debt. The ALG 364-day revolving credit facility expires in July 2004. It requires the maintenance of a fixed charges coverage ratio and prohibits ALG from repurchasing its common stock while borrowings are outstanding against either ALG’s 364-day or multi-year facility. In addition, the size of the 364-day facility will be reduced by 50% of the amount of the net proceeds of any long-term capital markets transactions completed by ALG. As a result of ALG’s issuance of $1.5 billion of long-term debt in November 2003, the ALG 364-day revolving credit facility was reduced from $2.0 billion to $1.3 billion. The Kraft 364-day revolving credit facility also expires in July 2004. It requires the maintenance of a minimum net worth. These facilities do not include any additional financial tests, any credit rating triggers or any provisions that could require the posting of collateral.

In addition to the above, certain international subsidiaries of ALG and Kraft maintain uncommitted credit lines to meet their respective working capital needs. These credit lines, which amounted to approximately $1.4 billion for ALG subsidiaries (other than Kraft) and approximately $0.7 billion for Kraft subsidiaries, are for the sole use of these international businesses. Borrowings on these lines amounted to approximately $0.4 billion at December 31, 2003.

Debt: Altria Group, Inc.’s total debt (consumer products and financial services) was $24.5 billion and $23.3 billion at December 31, 2003 and 2002, respectively. Total consumer products debt was $22.3 billion and $21.2 billion at December 31, 2003 and 2002, respectively. At December 31, 2003 and 2002, Altria Group, Inc.’s ratio of consumer products debt to total equity was 0.89 and 1.09, respectively. The ratio of total debt to total equity was 0.98 and 1.20 at December 31, 2003 and 2002, respectively. Fixed-rate debt constituted approximately 80% of total consumer products debt at December 31, 2003 and 2002. The weighted average interest rate on total consumer products debt, including the impact of swap agreements, was approximately 5.2% and 5.1% at December 31, 2003 and 2002, respectively.

In November 2003, ALG completed the issuance of $1.5 billion in long-term notes under an existing shelf registration statement. The borrowings included $500 million of 5-year notes bearing interest at a rate of 5.625% and $1.0 billion of 10-year notes bearing interest at a rate of 7.0%. The net proceeds from this transaction were used to retire borrowings against the ALG revolving credit facilities. At December 31, 2003, ALG had $2.8 billion of capacity remaining under its shelf registration.

In April 2002, Kraft filed a Form S-3 shelf registration statement with the SEC, under which Kraft may sell debt securities and/or warrants to purchase debt securities in one or more offerings up to a total amount of $5.0 billion. In September 2003, Kraft issued $1.5 billion of fixed rate notes under the shelf registration. At December 31, 2003, Kraft had $250 million of capacity remaining under its shelf registration.

In May 2002, Miller borrowed $2.0 billion under a one-year bank term loan agreement. At the closing of the Miller transaction on July 9, 2002, ALG received 430 million shares of SABMiller in exchange for Miller. The Miller borrowing was outstanding as of the closing of the Miller transaction. ALG does not guarantee the debt of Miller or Kraft.