Philip Morris International Inc. — Form 10-Q Summary
Reporting period: First quarter ended March 31, 2017. Financial statements are unaudited; comparisons are with the three months ended March 31, 2016. PMI manufactures and sells tobacco and nicotine products outside the United States, across four geographic segments.
Key financial results
| Metric | Q1 2017 | Q1 2016 | Change |
|---|---|---|---|
| Net revenues, including excise taxes | $16.556 billion | $16.788 billion | -1.4% |
| Net revenues, excluding excise taxes | $6.064 billion | $6.083 billion | -0.3% |
| Gross profit | $3.887 billion | $3.987 billion | -2.5% |
| Operating income | $2.396 billion | $2.473 billion | -3.1% |
| Net earnings attributable to PMI | $1.590 billion | $1.530 billion | +3.9% |
| Diluted EPS | $1.02 | $0.98 | +4.1% |
| Operating cash flow | $843 million | $462 million | +$381 million |
| Capital expenditures | $292 million | $226 million | +$66 million |
Interest expense, net, fell 11.3% to $219 million. The effective tax rate was 24.9%, down from 28.3%; Q1 2017 benefited from a $61 million tax benefit related to a legal-entity restructuring. Management’s estimated full-year 2017 tax rate was approximately 28%.
Cash and cash equivalents were $5.076 billion at March 31, 2017, versus $4.239 billion at year-end 2016. Total debt was approximately $31.3 billion, up from $29.1 billion; long-term debt, including its current portion, was $30.342 billion. PMI had $8.0 billion of committed revolving credit facilities, all undrawn, and no commercial paper outstanding. The current ratio was approximately 1.26, based on reported current assets and liabilities.
Q1 operating cash flow less capital expenditures was approximately $551 million. Cash flows reflected working-capital movements, including inventory reductions and receivable collections; receivables sales also supported operating cash flow. PMI sold $2.092 billion of trade receivables during the quarter, with $561 million still outstanding at March 31.
Material changes and operating performance
- Total cigarette and heated-tobacco-unit shipments declined 9.4%; cigarette shipments fell 11.5%. Heated tobacco units rose to 4.435 billion from 453 million, principally reflecting Japan.
- Price increases contributed $408 million to revenue excluding excise taxes, but were outweighed by unfavorable volume/mix of $307 million and unfavorable currency of $120 million. Operating income was pressured by unfavorable volume/mix, higher manufacturing costs and higher RRP investment.
- Asia operating companies income increased 9.5% to $852 million, and EEMA increased 9.0% to $690 million. European Union income declined 14.8% to $772 million; Latin America & Canada declined 22.7% to $177 million.
- Reduced-risk-product net revenues were $440 million including excise taxes, versus $56 million; excluding excise taxes, they were $435 million versus $55 million. These products remained a small but rapidly growing part of reported sales.
- Dividends declared were $1.04 per share, compared with $1.02. PMI paid $1.618 billion in dividends during the quarter and said it did not intend to repurchase shares in 2017.
Guidance, management commentary and risks
On April 20, 2017, management raised its 2017 reported diluted EPS forecast to $4.84–$4.99, including a favorable $0.04-per-share discrete tax item. The forecast assumed approximately $0.08 per share of unfavorable currency impact at then-current rates and, excluding currency and the Q1 tax item, implied approximately 9%–12% growth versus 2016 adjusted diluted EPS of $4.48. Management expected net revenue growth excluding excise taxes to exceed its 4%–6% annual target range, excluding currency and acquisitions. The forecast excluded share repurchases, future currency changes, acquisitions and certain unusual or impairment items. Planned 2017 capital expenditures were raised to $1.6 billion from $1.5 billion, largely to expand RRP capacity.
Management cited cigarette volume declines, price-driven down-trading, illicit trade, regulatory restrictions, currency movements and competition as continuing challenges. IQOS was available in 24 markets; management expected expansion to 30–35 key cities or nationwide in markets by year-end as capacity allowed. Installed heated-tobacco-unit capacity was expected to reach approximately 50 billion units at year-end 2017 and 100 billion at year-end 2018. The company cautioned that regulatory approval, consumer adoption and successful commercialization of RRPs are not assured.
Contingencies: PMI reported that it had not concluded losses in pending tobacco litigation were probable and could not estimate possible losses; accordingly, it had not accrued estimated losses for these cases. Quebec class-action judgments include a trial-court allocation of approximately CAD 3.1 billion (about $2.3 billion) to PMI’s subsidiary in the Blais case, alongside a separate punitive-damages judgment in Letourneau. The judgments were under appeal; PMI’s subsidiary had completed approximately CAD 226 million of court-ordered security payments. In Thailand, prosecutors sought fines of approximately $2.35 billion and $575 million in separate customs-duty cases. In South Korea, PMI’s affiliate paid approximately $152 million during 2017 toward disputed tax assessments and was appealing them. These matters could materially affect results, cash flows or financial position if resolved adversely.
Other notable risks include tobacco regulation and taxation, plain-packaging and ingredient restrictions, litigation, illicit trade, political and economic disruption, foreign-exchange exposure, tax examinations and uncertainty around RRP regulation. Credit agencies’ long-term ratings were A2 from Moody’s (stable outlook) and A from S&P and Fitch (negative outlook). Disclosure controls were reported effective, with no material quarterly change in internal control over financial reporting.
Investor verification priorities
- Assess whether cigarette-volume declines and pricing can be offset by RRP growth, particularly as heated-tobacco supply expands.
- Check the assumptions behind the $4.84–$4.99 EPS forecast, including the one-time tax benefit, currency effects and stated exclusions.
- Evaluate debt growth, future capital spending, dividend commitments and the sustainability of cash generation after working-capital effects and receivables sales.
- Track developments in the Quebec appeals, Thailand prosecutions and South Korean tax dispute; the filing does not provide a reliable estimate of potential losses for tobacco litigation.
- Monitor regulatory changes, excise-tax increases, illicit trade and currency movements across PMI’s markets.