Tobacco stocks have been phenomenal performers over the long term. They have strong profit margins and the consistent ability to raise prices, so shareholders who have held on for multiple decades have seen total returns (stock price appreciation plus dividends) that trounce the broad market by a wide margin.

However, in the last 10 years, the largest tobacco companies have struggled. Altria Group (NYSE: MO), which controls the Marlboro brand within the U.S., has posted a 103% total return for the past decade, less than half what the S&P 500 returned over the same period.

Even with this recent underperformance, Altria has grown its earnings and quarterly dividend payout. It now sports a sky-high dividend yield of 8.7%, making it one of the most generous dividend payers in the entire stock market.

There’s a core problem with Altria’s business, though, and it’s only getting worse. Should investors be worried about the longevity of this ultra-high-yield dividend stock?

Data by YCharts.

Accelerating cigarette volume decline

The fundamental issue for Altria is declining cigarette usage in the U.S. Management estimated the U.S. cigarette industry saw a 9% volume decline in the first quarter of 2024. This is an acceleration from an estimated 8% decline in 2023.

Before the COVID-19 pandemic, Altria’s cigarette volumes were declining around 3% to 4% each year, so the pace has more than doubled. This shift is likely due to the growing popularity of tobacco-free nicotine pouches and vaping products.

Historically, Altria was able to offset its 3% to 4% volume declines by raising the price of a pack of cigarettes slightly above the rate of inflation. With lower volumes and slow but steady revenue growth, the company consistently raised its profit margins and grew earnings.

However, that model is now broken with operating earnings stagnating and even falling in recent quarters. Even worse, with these competing cigarette alternatives, the faster Altria raises prices, the more incentive consumers have to switch to another product.

This is a tough position to be in, and one that will likely get more difficult every year.

Can new products replace tobacco?

Management is well aware of this predicament, and Altria has invested in many new products to help stem the decline of cigarettes.

In nicotine pouches, Altria has the on! brand. Volumes for these nicotine pouches grew 32% year over year last quarter and helped the oral tobacco segment deliver about 5% growth to its adjusted operating income (reported as OCI by the company).

In vaping, Altria owns NJOY, which it acquired last year. First-quarter volumes for the vaping brand hit 1.0 million for vaping devices and 10.9 million for the consumable pods. The company doesnt reportprofit figures for NJOY, but the brand’s retail market share increased to 4.3% last quarter.

However, Altria’s nascent nicotine brands are much smaller than the market leaders, which happen to be owned by Phillip Morris International. The latter’s Zyn brand has a 75% market share of nicotine pouches in the U.S., and the company recently introduced its popular IQOS heat-not-burn technology to the U.S. market.

Altria may be making progress with its other nicotine offerings, but close to 90% of its revenue still comes from smokeable products.

Data by YCharts.

The dividend is safe (for now)

Despite these challenges, Altria’s 8.7% dividend yield should be safe for at least the next few years. In fact, management can continue raising it.

Altria’s free cash flow per share — which funds the dividend — was $5.09 over the last 12 months, compared to a payout of $3.88 per share. With a heavy stock buyback program, the company is shrinking its share count and reducing its overall dividend burden while still growing the per-share payout. This gives Altria the breathing room to maintain its 50-plus year streak of annual dividend raises, even if cigarette volume declines remain at elevated levels.

To be clear, investors should keep a close eye on Altria’s volume declines going forward. If they keep accelerating, the company will eventually run into trouble.

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Brett Schafer has no position in any of the stocks mentioned. The Motley Fool recommends Philip Morris International. The Motley Fool has a disclosure policy.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.