Can iQOS Be A Key Growth Driver For Philip Morris In The Future?

Philip Morris International (NYSE:PM) uses the term Reduced Risk Products (RRPs) to refer to products with the “potential to reduce individual risk and population harm, in comparison to smoking cigarettes.” The company has a number of products in various stages of development and commercialization, with numerous scientific studies being carried out to determine whether the claims for reduced risks can be substantiated. The firm’s aim is to garner 10%-15% of its sales from its RRPs portfolio within a decade. The company is betting on one such product, iQOS, a black pen-shaped device that heats sticks containing tobacco, and feels it will become more popular than e-cigarettes sold by other companies. Philip Morris has collaborated with Altria (NYSE:MO) for developing its RRP portfolio, which includes joint research, development, and a technology sharing agreement, wherein the e-vapor products developed would be commercialized in the US by Altria, and in markets outside the US by PMI. The company is also leveraging the popularity of the Marlboro brand by deploying Marlboro heatsticks in iQOS. Based on favorable tests in Italy and Japan, the company decided to accelerate its rollout in 2015, to more geographies than initially planned.

Japan is the only country where the national roll-out of iQOS has occurred, and it has witnessed exceptional performance. The market share has steadily climbed since it was first introduced in the country. During FY 2015, the iQOS launch was expanded in Japan to reach 60% of the adult smoking population, and the national roll-out was completed in the beginning of the second quarter. For the second quarter, the HeatSticks market share increased to 2.2%, more than twice its share in the first quarter. Furthermore, the share in the last week of June reached an estimated 2.7%, and an even higher 5% in Tokyo, with a volume growth of over 20% on a monthly basis.

The company also noted that the level of cannibalization from its own cigarette portfolio had reduced, from 40% when the initial geographic expansion started last September, to 35%. Moreover, the growth of these HeatSticks is also resulting in uptrading by adult smokers, as those across all price segments are switching to the premium-priced product. What is an even more compelling argument is that 70% of iQOS purchasers have either fully, or predominantly, converted to it. According to company estimates, this would mean about 600,000 people in Japan, who are exclusive or fully-switched users of iQOS.

The commercialization is progressing well in other regions as well. Even in Italy and Switzerland, the company is witnessing high levels of conversion, and lower levels of cannibalization, as seen in Japan. In the German-speaking part of Switzerland, the volume growth witnessed by the product was over 50% quarter-on-quarter, and a market share of 2% was attained in the French-speaking part. Moreover, in the cities of Italy where the product was launched, the conversions reached ~70% by the end of the second quarter.  iQOS is now present in ten markets, as of the end of June, following launches in select cities of Denmark, Germany, and Monaco. The total shipments for the product reached 1.6 million in the quarter, four times the level of the first quarter, signifying not only higher volumes as a result of the city launches, but also implying higher acceptance of the product, notably in Japan. Buoyed by the success in its current markets, the company is expected to launch iQOS in key cities in around 20 markets by the end of FY 2016.

According to a Wells Fargo analysis of the iQOS platform, the product has the potential for expanding the profit pool growth of combustible cigarettes and RRPs in the next decade by 400 basis points, to a 12.5% CAGR for Philip Morris. Further, it was also found that iQOS could displace up to 30% of the cigarette industry in developed markets by 2025, speeding up the premiumization of the market.  This lends credence to the fact that iQOS could be a game-changer for Philip Morris in the years to come.

Have more questions on Philip Morris? See the links below:

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• Philip Morris Q2 2016 Earnings: Currency Headwinds Leave The Company Flat
• How Will Philip Morris Perform In Q2 2016?
• Which Is A Better Dividend Bet – Altria Or Philip Morris?
• What Is The State Of The Illicit Cigarette Market In The European Union?
• How Will The Brexit Impact Philip Morris?
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• What Effect Will A Tobacco Tax Hike Have In New Zealand?
• How Will Philip Morris Perform In 2016?
• Why Has Philip Morris’ Price Risen ~17% This Year Despite An Earnings Miss?
• How Did The Market Share For Philip Morris Change in Q1 2016 In EU And Its Key Markets, As Compared To Q1 2015?
• How Did The Revenue And Operating Companies Income In Each Region Change In Q1 2016, As Compared To Q1 2015?
• Philip Morris Misses Q1 Revenue And EPS Estimates
• Will Philip Morris Beat Expectations This Earnings Season?
• How Did Philip Morris Perform In The European Union, And Its Key Markets There, In 2015?
• How Did Philip Morris Perform In Russia, Given The Currency Headwinds And Excise Tax Rise?
• How Has Philip Morris Fared In Comparison To Its Peers?
• How Has Philip Morris’ Shipment Volume, By Brand, Changed Over The Past 3 Years?
• How Has Philip Morris’ Revenue And EBITDA Composition Changed In The Last 5 Years?
• How Will Philip Morris’ Revenue And EBITDA Change In The Next 3 Years?
• Philip Morris: Year 2015 In Review
• By What Percentage Did Philip Morris’ Revenue & EBITDA Change In The Last 5 Years?
• What is Philip Morris’ Fundamental Value Based On Expected 2016 Results?
• What is Philip Morris’ Revenue And EBITDA Breakdown?

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