Philip Morris International Inc. quarterly report, Q3 FY2015

Philip Morris International Inc. — Form 10-Q Summary

Reporting period: Quarter and nine months ended September 30, 2015. Unaudited interim financial statements; amounts are U.S. dollars unless otherwise noted. PMI manufactures and sells tobacco and nicotine products in markets outside the United States.

Financial performance

Metric	Q3 2015	Q3 2014	Nine months 2015	Nine months 2014
Net revenues	$19.422bn	$21.335bn	$55.537bn	$60.165bn
Net revenues excluding excise taxes	$6.927bn	$7.856bn	$20.402bn	$22.570bn
Operating income	$2.959bn	$3.345bn	$8.722bn	$9.170bn
Net earnings attributable to PMI	$1.942bn	$2.155bn	$5.624bn	$5.881bn
Diluted EPS	$1.25	$1.38	$3.62	$3.73
Dividends declared per share	$1.02	$1.00	$3.02	$2.88

Q3 revenue fell 9.0% and revenue excluding excise taxes fell 11.8%; operating income declined 11.5%, PMI-attributable earnings 9.9%, and diluted EPS 9.4% year over year.
For the nine months, revenue fell 7.7%, revenue excluding excise taxes fell 9.6%, operating income declined 4.9%, PMI-attributable earnings declined 4.4%, and diluted EPS declined 2.9%.
Management attributed the revenue and operating income pressure principally to unfavorable foreign exchange and weaker volume/mix. Price increases partly offset these impacts. Excluding currency, diluted EPS increased 17.4% in Q3 and 24.1% year to date, according to management.
Cigarette shipments declined 1.5% in Q3 and 0.6% year to date, excluding acquisitions. OTP shipment volume increased 2.9% in Q3 and 2.8% year to date. Reported year-to-date volume was helped by favorable inventory movements, principally in Russia.
Segment operating companies income for the nine months: European Union $2.904bn, EEMA $2.794bn, Asia $2.421bn, and Latin America & Canada $849m. Year-over-year, Latin America & Canada grew 15.7%; the other three segments declined.

Cash flow, balance sheet and liquidity

Nine-month operating cash flow was $5.993bn, versus $6.385bn in 2014; capital expenditures were $636m, versus $804m. Investing activities used $388m and financing activities used $4.461bn.
Cash and cash equivalents were $2.393bn at September 30, 2015, compared with $1.682bn at December 31, 2014. Operating cash flow was partially offset by $4.665bn in dividends paid.
Total debt was approximately $28.9bn, down from $29.5bn at year-end 2014. This comprised $1.007bn short-term borrowings, $2.100bn current long-term debt, and $25.800bn long-term debt. No commercial paper was outstanding.
PMI had $8.0bn of committed revolving credit facilities, all undrawn at quarter-end. Its covenant requires a rolling four-quarter EBITDA-to-interest ratio of at least 3.5x; the reported ratio was 11.0x. A $3.5bn facility was replaced on October 1, 2015, extending its maturity to October 2020.
Total stockholders’ deficit was $12.226bn. Cash, receivables and inventories comprised $14.112bn in current assets against $14.102bn in current liabilities.
PMI paid $4.7bn in dividends during the first nine months and announced a 2% quarterly dividend increase to $1.02 per share, or $4.08 annualized. PMI said it did not plan share repurchases in 2015.

Outlook, management commentary and notable items

On October 15, 2015, PMI narrowed its 2015 reported diluted EPS forecast to $4.35–$4.40, versus $4.76 in 2014. Management characterized this as 11%–12% growth over adjusted 2014 EPS of $5.02, excluding approximately $1.22 per share of forecast currency headwind and including a $0.01 per-share 2015 tax benefit. The forecast excludes future acquisitions, unusual events, additional impairment/exit costs and future currency changes.
Management forecast a 1.0%–1.5% decline in full-year cigarette shipments, excluding acquisitions, and estimated a full-year effective tax rate of approximately 29%.
2014 included $503m of impairment and exit costs, chiefly related to the Netherlands factory closure; there were no such costs in the first nine months of 2015. Remaining cash payments for incurred exit costs were expected to be about $36m, substantially by year-end 2015.
PMI reported substantial currency pressure: unfavorable currency reduced year-to-date revenue excluding excise taxes by $3.6bn, operating income by $2.0bn, and diluted EPS by $1.01. The stronger U.S. dollar also contributed to $2.266bn of currency translation losses in other comprehensive earnings for the nine-month period.
PMI continued investment and commercialization efforts for reduced-risk products, including iQOS. It expanded iQOS in Japan, launched it in Switzerland, and planned further market expansion. Management said reduced-risk claims require supporting scientific evidence and regulatory acceptance; no such claims were being made for iQOS.
Key business risks include declining cigarette consumption, excise-tax increases, down-trading and illicit trade, restrictive product and marketing regulation, foreign-exchange volatility, geopolitical and economic disruption, competition, and tobacco-related litigation.

Contingencies and unusual developments

Two Quebec class actions produced adverse May 2015 trial rulings. In the Blais case, the court assessed class compensatory damages at CAD 15.5bn and allocated approximately CAD 3.1bn, including interest, to PMI’s subsidiary; in Letourneau, it allocated CAD 46m of punitive damages to the subsidiary. Both judgments were appealed. In October, the Quebec Court of Appeal ordered PMI’s subsidiary to furnish CAD 226m (approximately $171m) of security for the two cases in installments beginning December 2015. Merits appeals were scheduled for November 2016.
PMI stated that it had not concluded a loss was probable and could not estimate a loss range for pending tobacco-related cases; accordingly, it had not accrued estimated losses for them. Management said an adverse outcome could materially affect results, cash flows or financial position in a particular period.
In Thailand, authorities alleged approximately $2bn of customs-duty and excise-tax underpayment for 2003–2007 and approximately $1.8bn for 2000–2003. PMI said criminal charges were probable in the first matter; the company disputed the allegations and cited a WTO ruling concerning related customs valuation issues.
After quarter-end, PMI’s Indonesian subsidiary completed a rights issue-related sale of rights shares, producing approximately $1.5bn in net proceeds at then-prevailing exchange rates.
Fitch affirmed PMI’s ratings but changed its outlook to Negative; S&P and Moody’s maintained Stable outlooks. PMI said it did not expect the Fitch outlook to affect borrowing costs.

Most important facts for investors to verify

Whether the $4.35–$4.40 full-year EPS forecast was achieved, and how realized currency movements compared with the forecast $1.22-per-share headwind.
Underlying shipment, market-share and pricing trends, including the extent to which inventory movements affected reported volume and the outlook for key markets.
Cash generation relative to dividends, debt maturities, capital investment and planned reduced-risk product spending.
Progress and potential financial consequences of the Quebec litigation, including the required security payments and appeal outcomes; also monitor the Thailand investigations.
Changes in regulatory and tax conditions, foreign-exchange exposure, and the ability of reduced-risk products to obtain regulatory approval and commercial acceptance.