Philip Morris International (NYSE: PM) is the tobacco company. Spun off from Altria in 2008 the company has become the 'go to' tobacco company for investors that want exposure to the international tobacco market and the solid cash flows and shareholder returns that come along with it.
(In reality PM owns 28.8% of the global market, excluding China and the US where the company does not operate.)
However, tobacco opinions around the world are changing and the once giant of the tobacco industry is starting to feel the pressure. Indeed, within PM's most recent Q1 earnings report, the company told investors that growth had almost stopped as tobacco taxes, the economic environment within Europe and foreign currency conversions all hit the company's earnings.
So, with that in mind how does the company look financially?
Overall, PM looks sound financially but the company's short term liquidity is low. The company only has a current ratio of 1, and has done so for the past four years. Additionally, debt is rising as the company borrows to buy back stock - as of yet this is not an issue as PM's net debt to EBITDA ratio has remained constant.
4-Yr Compounded growth rate
Philip Morris' revenue has been growing slowly and steadily over the past four years, rising a compounded 25% during the period. However, the company's revenue hit a wall in 2012 as the strong USD really hurt earnings and revenue, as is shown below.
Like most international corporations, Philip Morris' earnings are affected by foreign exchange rates. In particular, as Philip Morris operates outside of the US and reports earnings in USD, the company has more exposure than most, which means that the company's earnings are significantly effected by the strong dollar.
The chart reads from right to left and shows the affects that the strong dollar is having on PM's EPS. The bar on the far left of the chart is the company's Q1 earnings for 2013, where the strong USD dented EPS growth by nearly 6%. That said, a weak USD can benefit the company as seen on the right of the chart where earnings were improved by up to 10% thanks to the weak dollar.Gross Margin and Excise Taxes
Cigarette's do not cost much to manufacture and being the world leader (public company, excluding state owned China National Tobacco Corpororation) in tobacco sales, Philip Morris is reaping the benefits.
Philip Morris' gross margin on its tobacco products has averaged 65% during the past four years. Additionally, this margin appears to be improving as the company cuts costs, raises prices and is still experiencing a rise in the number of tobacco products sold. This is a trend that I believe is set to continue for a while yet.
Excise taxes are removed from revenues before deducting the cost of sales (excluding excise taxes, the cost of sales has been on average 10% of revenue).
|As a % of Revenue||41%||39%||36%||38%|
Excise taxes on average declined from 2009 to 2011 but during 2012, taxes as percentage of revenue started to rise again.
One of the biggest surprises that lurk in income statements are unusual items and debt interest. Both can be highly indicative of a company's financial situation. For example, a company that has high, recurring unusual expenses could be trying to hide poor results, or attempting to camouflage losses as one-offs, without reveling to investors the true extent of its failings.
In addition, interest expenses and interest cover ratios can influence the company's future performance. In particular, rising interest expenses can constrict net income and a falling interest cover can signify rising debt and falling income - both of which could indicate that the company is heading for trouble in the future.
Pre-tax Income Interest Cover (Times)
PM's unusual expenses are recurring but as a percentage of total revenue they are almost non-existent - indicating that the company has nothing to hide (note, I say indicating).
On the interest front, interest expenses have actually declined, despite the company borrowing more money to finance cash returns to shareholders. The company is still able to cover interest costs 14x from pre-tax income and on average, Philip Morris has been able to cover interest costs 12x from pre-tax income over the past four years.
The Bottom Line
Net Income Growth
Philip Morris' net margin has averaged 27% during the last four years even after the deduction of excise taxes. Net income has grown at a CAGR of 11.8%, an impressive rate of growth for a company that has net income of just under $10 billion.
It is interesting to note that over the four year period, the company's revenue grew by a compounded 25%, meanwhile, its net income grew a compounded 40%, showing that the company has improved its efficiency and has been working to reduce costs.
Cash Flows & Balance Sheets
Operating Cash Flow
Investing Cash Flow
Financing Cash Flow
Free Cash Flow
Free Cash Flow as a % of Revenue
As a tobacco major, PM has a large operating cash flow and a small investing outflow as there is almost no need for large CAPEX programs.
Most of Philip Morris' operating cash flow is returned to shareholders, which is further detailed below. On average 9.5% of the company's revenue is converted into free cash flow.
Short Term Debt
Long Term Debt
Net Debt (CAsh)
With rapidly rising revenue and net income, the chink in Philip Morris' armor is its current liquidity, in particular, the company's quick ratio, which has averaged 0.5 for the past four years - indicating that after the exclusion of inventories, the company is not able to cover all of its liabilities with assets and falling debt within the next 12 months.
Additionally, the company's net debt is rising, although as i have mentioned above the company can easily afford this.
It appears that currently, the reason for the company's poor current liquidity ratios is the large portion of short term and current long term debt that is a current liability for the company. Combined with a relatively low cash balance this has resulted in low current ratios. However, I do not believe this is a problem as the company should easily be able to re-finance its short term debt with longer term - lower interest rate bonds.
As a % of Net Income
Like any tobacco company, PM is returning huge amounts of cash to shareholders, returning on average 132% of net income during the last four years.
Dividend payouts have grown at a CAGR of 7.9% and buybacks have varied based on the company's multi-year buyback programs, the most recent of which is valued at $18 billion and should reduce the company's issued share capital by 11%.
So overall, Philip Morris continues to grow and maintain a solid net income while returning a huge amount of cash to shareholders.
Free cash flow is strong and constant, margins are being maintained and have edged up slightly during 2012. Excise taxes are rising and sales volumes are starting to stagnate but the company still has plenty of room for growth. The only visible issues right now are the company's rising debts, poor current ratios and foreign currency exposure.