Philip Morris Earnings: Foreign Currency Impact Smokes Out Earnings

Philip Morris International (NYSE:PM) released its fourth quarter and full year earnings on February 4, 2016, with earnings in line with the consensus at $0.81 per share in the fourth quarter, but revenues of $6.4 billion failing to meet the consensus estimates. Foreign currency headwinds had a major part to play in the decline of 11.2% in the earnings over the prior year’s quarter. If that factor, along with the impact of acquisitions, is excluded, the revenues are actually up by 4%. Cigarette shipment volumes were down 2.4% in the fourth quarter and 1% for the year. ^[1] The company’s forecast for its 2016 earnings also disappointed, with the primary driver for the decline being the negative impact from currency movements.

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Foreign Currency Headwinds Play The Spoilsport

In the recent past, many companies with a global presence have complained about currency headwinds; but with a company like Philip Morris, that has a 100% global presence, that impact will be massive. Excluding its effect, PM’s revenues grew 4% in the fourth quarter, which is impressive for a company facing immense regulatory pressure and a declining consumer base. Government regulation is considered to be the most inhibiting factor curtailing growth. In developed nations, a number of cessation policies are limiting the opportunities for tobacco companies. In places like New York, legislation has even been extended to e-cigarettes and other vaping products, regardless of the fact that it helps smokers quit tobacco. While the continuing strength of the dollar is considered to be temporary, the EPS guidance provided by the company for 2016 is in the range of $4.25 to $4.35, factoring in a negative currency impact of a whopping $0.60 per share. This is driven primarily by the Argentine peso, Indonesia rupiah, Japanese yen, and Russian ruble. ^[2] In November, when the company shed some light on the expected currency impact in 2016, they were not expecting such a massive hit, and had called for a downward effect of 27 cents.

The company’s cost base, without taking currency into account, increased 3.6%, excluding reduced risk products (RRPs), and 5.3%, if it is included. In 2016, PM expects the total cost base, including RRPs, to rise by 1%, reflecting productivity and cost-saving programs, as well as the moderating prices for key inputs, such as tobacco leaf, clove, and non-tobacco materials.

Increased Focus On Reduced Risk Products

Philip Morris has seen soft cigarette volume trends for the past few quarters, due to a general shift away from tobacco products, amid accelerating prices of cigarettes and worldwide anti-tobacco campaigns. While the decline in volume has moderated, compared to 2013 and 2014, the fall in volumes is expected to continue, and for 2016, the company predicts a 2% to 2.5% reduction.

Keeping this in mind, the company has undertaken significant investment to expand its reduced risk products (RRPs) range, in particular iQOS- a black pen-shaped device that heats a Marlboro-brand ‘heatstick’ containing tobacco. During FY 2015, the iQOS launch was expanded in Japan to reach 60% of the adult smoking population. In Italy, the expansion was extended beyond Milan to Modena, Rome, and Turin. It was further launched in major cities across Switzerland, and city launches were started in Bucharest, Lisbon, and Moscow. By the end of 2016, the company expects iQOS to be present in key cities in 20 markets globally. ^[3] In Japan, the weekly offtake shares – retail sales volume for heatsticks as a percentage of the total estimated retail sales volume for cigarettes and heatsticks – have climbed steadily since the expansion began in September.

In most countries where iQOS is launched, the company received a favorable tax treatment for heatsticks, as compared to cigarettes. This enabled it to price it lower than cigarettes in certain markets, such as Switzerland. IQOS has also managed to achieve impressive retention rates, of over 30%.

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1. Philip Morris International Reports 2015 Results [↩]
2. Philip Morris International- Q4 2015, Earnings call Transcript [↩]
3. Philip Morris International- 2015 Fourth-Quarter and Full-Year Results Presentation [↩]