The ability of tobacco giant Altria (MO) to grow earnings consistently, each year, is nothing short of remarkable.

Altria faces a number of operational challenges. Tobacco companies are not allowed to advertise on television, and there is always the threat of lawsuits.

And yet, all Altria does is grow earnings-per-share each year, in good economies and bad. Its steady profit growth has allowed the company to raise its dividend like clockwork every year, going back several decades.

Altria is a Dividend Achiever, a group of 264 stocks with 10+ years of consecutive dividend increases.

It has increased its dividend 50 times in the past 48 years.

Altria reported first-quarter earnings on May 2nd, and it was once again a quarter of reliable earnings growth.

However, there is one lingering concern that Altria investors should watch closely moving forward—the declining smoking rate.

This article will rundown Altria’s latest earnings report, and why it still has the opportunity for growth, despite falling smoking rates.

Quarterly Performance Overview

First, a quick rundown of Altria’s key metrics:

• Revenue: $6.08 billion (up 0.2% year over year)
• Earnings-per-share: $0.73 as adjusted (up 1.4% year over year)

Altria managed growth in both revenue and adjusted earnings-per-share, but the company’s growth came up short of expectations.

Altria’s adjusted earnings-per-share of $0.73, came in one penny below analyst expectations. Revenue missed analyst projections by about $100 million.

To be sure, some of the reasons why Altria’s results missed analyst targets, is because of operational issues that are not expected to recur going forward.

For example, during the first quarter Altria issued a voluntary product recall for smokeless tobacco products that were manufactured at the company’s Franklin Park, Illinois facility.

The recall reduced smokeless products segment adjusted operating profit by approximately $60 million.

However, of greater concern for investors is the decline in Altria’s smokeable products business. Its domestic cigarettes shipment volume declined by 2.7% in the first quarter.

This affects Altria’s core operating segment. The Marlboro brand has come to dominate the cigarette industry over the past several decades.

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Source: 2017 CAGNY Presentation, page 42

Marlboro by itself accounts for almost half of U.S. retail cigarette market share.

Altria’s updated forecast for full-year 2017 also came in light. Altria now expects adjusted earnings-per-share in a range of $3.26-$3.32.

At the midpoint, Altria expects adjusted earnings-per-share of $3.29 this year. Analysts were expecting adjusted earnings-per-share of $3.30 for 2017.

Altria stock fell 1% in pre-market trading initially after reporting quarterly results, but ended the day up fractionally.

Despite the initial disappointment over the earnings miss, Altria investors presumably are focusing on Altria’s future growth potential.

Growth Prospects

Falling cigarette volumes are a significant concern for investors. Smokeable products represent nearly 90% of Altria’s revenue and operating profit, led by the flagship Marlboro brand.

According to Brandirectory, Marlboro is the 26th most valuable brand in the world, worth approximately $32.47 billion.

As a result, Altria would take a significant hit from a continued decline in smoking.

The good news for investors is that Altria has a plan to offset declining cigarette sales. First, is through price increases.

The average price for a pack of Marlboro cigarettes last quarter was $6.36, up 2.7% from $6.20 in the same quarter last year.

Similarly, Altria’s core smokeless tobacco brand Copenhagen boosted prices by 2.7% last quarter.

Raising prices is a key component of Altria’s ability to grow revenue.

Tobacco is a highly inelastic product; that is, demand for cigarettes does not fluctuate highly, even if prices rise. Altria owes this benefit to the addictive nature of tobacco products.

In addition, Altria is looking to product innovation to offset declining smoking rates.

Altria is teaming up with Philip Morris International (PMI), which manufactures Marlboro outside the U.S.

PMI is developing a new line of products called iQOS, which it believes are reduced-risk products that heat tobacco rather than burn it. This results in less harmful residue such as ash.

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Source: 2016 Morgan Stanley Presentation, page 5

Altria is partnering with PMI on the technology to bring the iQOS line of products to the U.S.

Progress has been faster in the international markets than in the U.S., which should be no surprise given the more restrictive regulatory environment in the U.S.

But the iQOS system could be the future for Altria’s core smokeable segment.

Until then, Altria is also moving aggressively into e-vapor. Its Nu Mark subsidiary expanded its MarkTen product line to an additional 10,000 retail stores last quarter.

Heated tobacco and e-vapor give Altria its best shot at combating the decline in its traditional cigarette business. Success in this endeavor will be critical to Altria’s future dividend growth.

Dividend Analysis

Altria is a very shareholder-friendly company. While some companies are stingy with dividends, sometimes preferring to lavish executives with huge stock-option bonuses, Altria puts its shareholders first.

Altria has a current dividend payout of $2.44 per share. Based on its current share price, Altria’s dividend yield is 3.4%.

Considering the S&P 500 Index has an average dividend yield of roughly 2.1%, Altria offers an attractive dividend yield.

That said, Altria’s dividend yield is lower than it has been for several years. Altria’s share price has increased far above its rate of dividend growth in the past few years.

As a result, while Altria was a 5% yielding dividend stock as recently as early 2014.

Still, Altria investors are receiving a market-beating yield. And, Altria has among the clearest and most transparent dividend programs of any company.

The company has a stated policy of distributing 80% of annual adjusted-earnings-per-share. This makes Altria’s annual dividend hikes fairly predictable, as it is highly reliant on the company’s earnings results throughout the year.

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Source: 2017 CAGNY Presentation, page 85

From 2007-2016, Altria raised its dividend by 8% per year, which mirrored its rate of adjusted earnings growth over that 10-year period.

If Altria reaches $3.29 in adjusted earnings-per-share in 2017 (the midpoint of its forecast), its target dividend payout would be approximately $2.63.

This would mean investors are in line for another 8% increase, later this year.

Final Thoughts

Altria’s core business model has a difficult road ahead. Smoking rates are falling in the U.S., which has forced Altria’s hand.

Fortunately for investors, the company has a plan to grow, despite falling smoking rates. The new line of heated tobacco and reduced-risk products is a promising catalyst for the future.

Altria’s dividend yield is not nearly as high as it has been over the past several years, but its dividend payout is still much higher than the average stock’s yield in the S&P 500 Index.

Altria is facing significant challenges, but it remains a strong dividend stock.