Favorable Pricing Variance To Again Result In Revenue Gain For Philip Morris

Philip Morris International (NYSE:PM) is set to report its first quarter earnings on April 20, 2017. The growth in revenue is expected to be driven by higher prices, as well as a rise in RRP (Reduced Risk Products) revenues. While margins are expected to decline, the improvement in revenue is expected to more than offset this, resulting in a more than 5% growth in the earnings per share. After a strong performance in the fourth quarter of FY 2016, the company had set the FY 2017 EPS guidance to be in the range of $4.70 to $4.85. The company has since then revised this guidance upwards to $4.80 to $4.95. The foreign currency translations are expected to now negatively impact the earnings of Philip Morris by $0.08, as opposed to an estimation of $0.18 earlier.

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iQOS To Continue Its Strong Sequential Growth

iQOS has witnessed phenomenal growth in Japan, since it was first launched, with a steady climb of its market share. 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 of FY 2016. The market share of HeatSticks has continued to expand, and carried on its strong sequential growth, reaching 4.9% in the fourth quarter. Furthermore, in January, the national market share touched an estimated 6.8%, and its off-take (select C-store sales volume as a percent of total sales volume for cigarettes and HeatSticks) share increased to 7.6%. The rate of in-switching to HeatSticks from the company’s other brands declined as the year progressed, to an estimated 32% in late 2016.

Globally, as well, the product has performed favorably, serving as an indicator of the future potential of iQOS. Conversion rates of iQOS purchasers who have fully or predominantly converted to the product have grown over time, and stood at approximately 70% at the end of 2016. As of year end 2016, the company estimates that approximately 1.4 million adult consumers have quit cigarettes and converted to iQOS. Moreover, during the fourth quarter, estimated off-take volume in all markets, with launches prior to mid-year, grew at a compound weekly rate of over 6%, comparable to Japan in the initial launch phase. This trend bodes well for the future national expansions, since in Japan, it resulted in an accelerated growth.

Margins Expected To Remain Pressured

According to analysts’ estimates, Philip Morris is expected to post a gross margin, EBIT (earnings before interest and tax) margin, and net income margin of 65%, 43.4%, and 25%, respectively, versus 65.5%, 43.5%, and 25.2% in the first quarter of FY 2016. This reflects a contraction of 0.5%, 0.1%, and 0.2% for the company. While the pricing variance will result in a rise in revenue, the margins will remain pressured owing to an expansion of the cost of sales, which is estimated to account for 34.8% of the total revenue, an increase from the 34.5% realized in the corresponding quarter of the prior year. This growth will be driven by the increased investments undertaken by the company to elevate the production capacity of HeatSticks, used in iQOS.

By the end of FY 2016, iQOS had been launched in key cities in 20 markets globally, with aims to expand nationally in many of these markets this year. The company is also targeting additional launches in 10 to 15 markets by year end, subject to capacity. As of December 2016, the company had 15 billion units of installed annual HeatSticks capacity, and expects over 32 billion units in total capacity to be available for commercialization this year. The company anticipates an installed annual capacity of approximately 50 billion units by year end. The rise in the capacity will put a strain on the margins this year.

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

• Strong Demand For Smokeless Tobacco In Japan
• iQOS- A Product Of Innovation Or Necessity For Philip Morris?
• iQOS’ Impressive Growth Story Continues In The Fourth Quarter For Philip Morris
• How Is Philip Morris Working Towards A Smoke-Free Future?

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