As a global business, Philip Morris International (NYSE:PM) gets much of its revenue in foreign currency, and the strong dollar over the past several years has eaten into the tobacco giant’s financial results. So far in 2017, though, key currencies like the euro have finally gained ground against the dollar, and that seemed to bode well for Philip Morris’ prospects coming into Thursday’s second-quarter financial report.
The reality was extremely disappointing given those higher expectations, as Philip Morris suffered outright declines on its bottom line amid continued weakness in shipment volumes. The tobacco giant is still optimistic about its organic growth prospects, but its beliefs about adverse currency conditions for the remainder of the year led it to cut its guidance for the full 2017 year. Let’s take a closer look at Philip Morris International and what it said about its future.
Philip Morris keeps getting weighed down
Philip Morris International’s second-quarter results crushed the hopes that many investors had for a breakout quarter. Revenue net of excise taxes climbed 4% to $6.92 billion, but that was slower than the 7% growth rate that most of those following the stock had wanted to see. Net income inched downward to $1.78 billion, and that produced earnings of $1.14 per share, well below the consensus forecast of $1.22, and down $0.01 from the year-ago period.
Once again, shipment volume numbers showed ongoing struggles for Philip Morris. Cigarette shipments fell 7.5% to 193.5 billion units, continuing an adverse trend from the first quarter. Latin America and Canada were the only regions in which Philip Morris saw even small volume gains, with Asia taking a huge 17% hit. Even when you add back in the positive impact of heated tobacco volume, which quintupled in Asia, the region still suffered a nearly 10% drop in total units sold.
Philip Morris saw more mixed results geographically on the revenue front. The EU was the only segment to post an outright decline in revenue, facing a four percentage point currency headwind in sales growth. Sales in Asia were the strongest, rising 12% on the strength in iQOS sales.
Yet greatly concerning was the return of currency headwinds. A stronger dollar cost Philip Morris three percentage points of revenue growth and $0.11 per share of earnings. That’s less than the company suffered during the worst of the dollar’s move in 2015, but it still showed the fallacy of believing that a strengthening euro would be enough to wipe out adverse foreign exchange impacts entirely.
CEO Andre Calantzopoulos emphasized the success of iQOS. “Our flagship smoke-free alternative continues to perform exceptionally well,” Calantzopoulos said, “supported by further recent successful market launches, notably in Korea.” The CEO also said that the heated-tobacco system hit a key milestone in Japan, where it reached market share of 10%.
Can Philip Morris recover?
Philip Morris wasn’t able to avoid the negative impact of its currency woes on its full-year results, and it reduced its earnings guidance, emphasizing that the revision was for currency impacts only. The company now believes that earnings will be between $4.78 and $4.93 per share, down $0.06 from its previous guidance range. Even with the size of the hit in the second quarter, Philip Morris thinks that currencies will cost only $0.14 per share to full-year earnings in 2017. The company sees growth of 9% to 12% in adjusted earnings when you take out the impact of currency and tax items, and sales gains are seen rising 7% on an adjusted basis.
Just about the only unquestionably good news is that iQOS is picking up steam across the globe. Japan in particular has been a hotbed of growth, but it’s good to see Korea join Japan in the Asia segment with a rollout of the heated tobacco product. EU sales of iQOS jumped more than 1,200% since last year, and they more than doubled just since the first quarter of 2017, while Eastern Europe, Middle East, and Africa sales of iQOS saw a nearly 120% increase compared to just three months ago. Only Latin America and Canada will need further work to get numbers moving in the right direction. It’s important for Philip Morris to act while its first-mover advantage is still intact, given rising competition from rival heated-tobacco products.
Philip Morris shareholders weren’t happy with the report, and the stock dropped almost 3% shortly after the beginning of trading following the morning announcement. Until the company can stop the downward move in its shipment volumes, Philip Morris will have to convince investors that it can manage a transition from cigarettes to reduced-risk products while still maintaining revenue and earnings growth.
Dan Caplinger has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.