Philip Morris Q3 2016: Flat Earnings Driven By Shipment Volume Decline

Philip Morris International (NYSE:PM) reported its third quarter results on October 18, 2016. While the company beat the EPS consensus estimate by a penny, it missed out on revenue.

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Philip Morris reported a flat earnings performance in the quarter as shipment volumes fell across its geographic segments, besides in the EU, which witnessed a slight increase. The company gained as a result of selling higher priced cigarettes, which outweighed the negative effect of volume declines. PM also benefited from an increased sales of its reduced risk products in the quarter. The Marlboro maker reaffirmed its EPS forecast for the year to be in the range of $4.53 to $4.58, reflecting a negative foreign currency impact of 35 cents a share.

The company has witnessed a rise in the cigarette volumes in the EU amid an improving economy. However, PM has faced a number of setbacks in the region recently. In May, the European Union’s top court dismissed legal challenges, filed by Philip Morris and British American Tobacco, against tightened tobacco regulations, which paves the way for plain packaging. It also mandates a ban on menthol cigarettes, bigger warning labels on cigarette packaging, and sets limits on electronic cigarettes, including the amount of nicotine contained in them. A legal challenge against plain packaging in the UK also failed in May.

Philip Morris’ significant investments into building a reduced-risk portfolio seem to be paying off. iQOS, a heat-not-burn technology platform, is expected to be present in 20 markets by the end of the year, and in 35 markets by the end of 2017. PMI has previously stated it expects its Reduced Risk Products (RRPs) to approach break-even OCI (Operating Companies Income) in 2017, and to start contributing positively by 2018. The company is targeting 30 to 50 billion units in incremental volume through RRPs, which would add an additional OCI of $0.7 billion to $1.2 billion by 2020, with an increasing confidence of reach in the upper end of the target range. There are plans of increasing the planned annual RRP production capacity to 50 billion units, an increase of 20 billion units from its initial planned capacity of 30 billion units, by the end of 2017. The heated tobacco stick capacity is anticipated to be 7 billion units, available for commercialization in 2016, with an installed annual capacity of 15 billion units by the end of the year. iQOS should be present in close to 20 markets by the end of 2016, and in 30 to 35 markets by the end of 2017.

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 third quarter, the HeatSticks market share increased to 3.5%, an increase of 1.3 points, compared to the second quarter. Furthermore, the share in the last week of September reached an estimated 4.3%, and an even higher 7.3% in Tokyo, despite limited expansion due to supply constraints.

For the year, the company expects strong currency-neutral net revenue growth, driven primarily by the annualization of price increases and further growth of its RRPs. Furthermore, favorable cost comparisons, versus Q4 2015, will benefit the company. This is because of significant investments undertaken by the company in the fourth quarter last year for its iQOS platform and its cigarette brand portfolio.

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