Philip Morris International Inc. — Q3 2010 Form 10-Q
Reporting period: Three and nine months ended September 30, 2010; unaudited. PMI manufactures and sells tobacco products outside the United States across four geographic segments. Unless noted otherwise, amounts are U.S. dollars.
Financial performance
| Metric | Q3 2010 | Q3 2009 | Nine months 2010 | Nine months 2009 |
|---|---|---|---|---|
| Net revenues | $16.936B | $16.573B | $49.906B | $45.072B |
| Net revenues excluding excise taxes | $6.614B | $6.587B | $20.171B | $18.318B |
| Operating income | $2.836B | $2.850B | $8.457B | $7.599B |
| Net earnings attributable to PMI | $1.822B | $1.798B | $5.507B | $4.820B |
| Diluted EPS | $0.99 | $0.93 | $2.96 | $2.44 |
| Operating cash flow | Not separately provided | Not separately provided | $7.856B | $6.419B |
Q3 revenue rose 2.2%, but revenue excluding excise taxes increased just 0.4%; operating income declined 0.5%, while PMI-attributable earnings rose 1.3% and diluted EPS rose 6.5%. For the first nine months, revenue increased 10.7% and revenue excluding excise taxes rose 10.1%; operating income increased 11.3%, PMI-attributable earnings 14.3%, and diluted EPS 21.3%. Reported revenue includes excise taxes collected from customers. The reported operating margin was approximately 16.7% in Q3 and 17.0% year to date.
For the first nine months, cigarette shipments increased 4.5% to 674.9 billion units, but were down 1.6% excluding acquisitions. Q3 shipments rose 4.5%, but fell 2.9% excluding acquisitions. The Philippines combination contributed substantially to shipment growth; Q3 Japan shipments were affected by payback of distributor inventory accumulated ahead of an October tax-driven price increase.
Cash, debt and capital allocation
- Cash and cash equivalents were $3.507B at September 30, 2010, versus $1.540B at December 31, 2009. Nine-month investing cash outflow was $446M and financing cash outflow was $5.507B.
- Total debt was approximately $17.4B, compared with $15.4B at year-end 2009; this includes $2.416B of short-term borrowings and $1.436B of current long-term debt. Long-term debt was $13.595B.
- Committed revolving credit facilities totaled $5.2B, with no borrowings outstanding under those facilities. The company reported a 13.6-to-1 covenant EBITDA-to-interest ratio against a 3.5-to-1 minimum.
- Nine-month cash uses included $3.863B of share repurchases and $3.254B of dividends paid. PMI announced an intention to accelerate 2010 repurchases to approximately $5.0B. The quarterly dividend was increased 10.3% to $0.64 per share, or an annualized $2.56.
- Current assets were $15.482B and current liabilities $13.713B at September 30. The filing does not provide a separate management conclusion on short-term liquidity adequacy.
Material changes and unusual items
- Year-to-date revenue growth excluding excise taxes reflected net pricing (+$1.1B), favorable currency (+$734M) and acquisitions (+$460M), partly offset by lower volume/mix (-$423M). Operating income benefited from pricing, currency and acquisitions, while lower volume/mix and higher manufacturing and overhead costs were offsets.
- Q3 revenue excluding excise taxes was nearly flat: pricing and acquisitions were largely offset by lower volume/mix and unfavorable currency. Q3 operating income was pressured chiefly by lower volume/mix, partly offset by pricing.
- The effective tax rate was 27.0% for the first nine months, versus 29.3% a year earlier. A $148M reversal of tax reserves after the conclusion of an IRS examination benefited the 2010 rate; Greek tax-rate changes and an Italian audit partly offset the benefit. Management estimated a 28.6% full-year 2010 rate excluding those discrete items.
- PMI recorded $20M of asset impairment and exit costs in the first nine months, primarily factory restructuring in Greece and Portugal; approximately $51M of future exit-cost payments were expected through 2012. The 2009 comparison included a $135M pre-tax charge for the Colombian Investment and Cooperation Agreement.
- The February 2010 Philippines business combination with Fortune Tobacco is consolidated by PMI despite equal economic interests, based on PMI’s operational control and board majority. FTC’s redeemable noncontrolling interest was $1.199B at September 30. A decline in the fair value of FTC’s interest below its $1.17B redemption value could reduce PMI EPS.
Outlook, commentary and risks
On October 21, 2010, PMI raised and narrowed its full-year 2010 diluted EPS forecast to $3.90–$3.95, approximately 20%–22% above 2009; excluding currency, growth was projected at approximately 16%–18%. The forecast included $0.07 per share from the tax-reserve reversal and $0.01 per share of restructuring costs, and excluded potential future acquisitions, additional impairment or exit charges, and unusual events. Management cited favorable currency at prevailing rates, improved business performance and a lower tax rate.
Management identified continuing exposure to excise-tax increases, regulation of products and marketing, plain-packaging proposals, litigation, illicit trade, competition, currency movements, changing consumer preferences and agricultural input costs. PMI reported that it had not accrued losses for pending tobacco-related cases because management had not concluded losses were probable or could be reasonably estimated; adverse outcomes could nevertheless materially affect results or liquidity. A Thai investigation concerned alleged customs-duty and excise-tax underpayments of approximately $2.0B for 2003–2007, with a separate informal inquiry concerning approximately $1.8B for 2000–2003. These were allegations, not recorded liabilities.
PMI’s proposed $452M acquisition of Colombia’s Protabaco received conditional regulatory approval in October 2010; PMI was reviewing significant conditions and had not decided whether to proceed. The filing also described a new EU tobacco-products review and proposed Australian plain-packaging legislation. Management stated that outcomes and effects of these regulatory developments could not be predicted.
Most important facts for investors to verify
- Whether the $3.90–$3.95 full-year EPS forecast was achieved, and how currency, tax benefits and share repurchases contributed to reported growth.
- Underlying shipment and earnings trends excluding acquisitions, particularly the impact of tax-driven price increases and inventory timing in Japan, Turkey and Europe.
- Debt and cash-flow trajectory alongside planned buybacks and the increased dividend.
- Developments in the Thai tax investigation, tobacco litigation, and the potential EPS implications of the Philippines redeemable noncontrolling interest.
- Whether PMI proceeded with the conditional Protabaco acquisition and whether evolving tobacco regulation affected its business or costs.