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Philip Morris International, Inc. (NYSE:PM)

Q3 2009 Earnings Call

October 22, 2009, 9:00 am ET

Executives

Nick Rolli - VP, IR and Financial Communications

Hermann Waldemer - CFO

Analysts

Judy Hong - Goldman Sachs

Jon Fell - Deutsche Bank

David Adelman - Morgan Stanley

Christine Farkas - Bank of America, Merrill Lynch

Adam Spielman - Citigroup.

Chris Growe - Stifel Nicolaus

Thilo Wrede - Credit Seize

Ann Gurkin - Davenport

Operator

Welcome to the Philip Morris International Third Quarter 2009, Earnings Conference Call. Today’s call is scheduled to last about one hour, including remarks by Philip Morris International management and the question-and-answer session. (Operator Instructions). I will now turn the call over to Mr. Nick Rolli, Vice President of Investor Relations and Financial Communications. Please go ahead sir.

Nick Rolli

Welcome, thank you for joining us. Earlier today we issued a press release containing detailed information on our 2009 third quarter results. You may access the release on our website at www.pmintl.com.

As we take you through our call today, we will be talking about results in the third quarter of 2009 and comparing them with the same period in 2008 unless specified otherwise.

References to volumes are for PMI shipments. Industry volume and share data is sourced from ACNielsen, other third party sources and internal estimates. Organic volume refers to volume excluding acquisitions. Net revenue data exclude excise taxes. You will find data tables showing how we made adjustments to revenues and operating company’s income or OCI for currency and acquisitions; adjustments to earnings per share as well as other reconciliations to US GAAP measures at the end of today's webcast, which are posted on our website.

Today's remarks contain forward-looking statements and projections of future results and I direct your attention to the forward-looking and cautionary statements disclosure in today's presentation and news release, for a review of the various factors that could cause actual results to differ materially from projections.

It’s now my pleasure to introduce Hermann Waldemer, Chief Financial Officer.

Hermann Waldemer

Welcome to our third quarter earnings call. In spite of the impact of the global economy recession, I am pleased to announce that PMI has achieved very strong third quarter results that confirms our company’s ability to growth of stability even in these difficult times.

We have achieved excellent financial results in the quarter, thanks to our strong pricing initiatives, with net revenues excluding currency up 6.9%. Excluding currency and the acquisitions, up 4.1%; adjusted operating company’s income or OCI, excluding currency up 13.7% and excluding currency and acquisitions up 10.6%; and adjusted diluted EPS excluding currency up 18.3%

While we expect volumes in 2009 to fall below last year’s level, the 4% organic decline in the quarter was amplified by specific circumstances in a few markets. Therefore our year-to-date organic volume decline of 2.1% better reflect our anticipated full year volume performance.

On a year-to-date basis through the end of September, we have achieved a 4.7% increase in net revenues excluding currency and acquisitions; and 8.6% increase in adjusted OCI excluding currency and acquisitions; and a 15.4% increase in adjusted diluted EPS excluding currency.

This chart shows that in 2009 we have delivered consistently against our mid-to-long term currency neutral financial targets, in spite of recession driven weaker volumes thus demonstrating our ability to generate strong results even in the most turbulent of economic times.

We are today revising our EPS guidance for the full year 2009 to a level of $3.20 to $3.25 compared to our previous guidance of $3.10 to $3.20. This represents both an increase in our guidance and a narrowing of the range. The improved narrow guidance reflects the continuous strengths of our underline business and a more favorable currency environment.

We expect the currency impact to be neutral in the fourth quarter of this year and at current exchange rates it would be a tailwind in 2010. However, we will continue to focus on our constant currency growth rates, as PMI will continue to manage its business in the long-term interest of its shareholders.

The key driver of our improved profitability in 2009 has been our ability to successfully increase prices across nearly all our major markets by safe guarding our competitive position. I would like to emphasize again, that our pricing decisions or established on market-by-market basis, taking into account the competitive environment, consumer affordability and the fiscal and the economic situation.

We are confident that our price increases are sustainable and we will continue to balance revenue growth with volume growth going forward. As at the end of the day, shareholders are interested in earnings per share, rather than cigarettes per share.

Boosted by recent price increases in Germany and Spain, our pricing variance was $590 million in the third quarter, for a total year to date variance of $1.5 billion, even though we increased price this year at the somewhat faster rate than previously.

Consumer behavior has remained resilient during this recession. Consumer down trading, which was a major concern of investors in the first half of the year has remained a globally manageable phenomenon. It has had a substantial impact in three of our key markets that have been particularly affected by the economic crisis, namely Russia, Spain and Ukraine. The situation in the latter has been severely exacerbated any large excise tax increases. Positive trends have however continued in other emerging markets such as Argentina, Indonesia, and Mexico.

In most markets the key economic component that tends to impact consumer behavior is unemployment, and in particular any sharp increases thereof. In this context, the consumer down trading in Spain was therefore no surprise, as unemployment has climbed to above 18%, nationally and 25% in the south of the country, with the exception of Brazil and Ukraine, nearly all governments across the world have treated excise taxes so far in 2009 in a rational manner and they have been affected from the positive impact on excise tax yields for higher retail prices.

We remain optimistic that such a rational approach will generally prevail as governments prepare their budget plans for 2010. Although, we do expect some VAT increases in addition to excise tax increases as government seek to boost their revenues, we believe that these should be globally managed.

Let me now highlight our performance in some of our key markets. As I mentioned earlier the magnitude of the organic volume decline in the quarter can be attributed to exceptional factors with nearly two thirds of the decline coming from three markets, Ukraine, Spain and Pakistan.

In Ukraine domestic excise tax increase in May this year which led to retail price increases in that month alone of 22% to 50% on PMI brands, resulted in a severe market disruption and our shipments were down by 23% in the quarter, broadly in line with the total market contraction.

While our share declined slightly in June due to the greater availability of old price competitive products in the markets, it has since recovered to reach 35.6% in the third quarter up by 0.1 share points above last year’s level.

In Spain the total cigarette market was down an estimated 10.2% in the quarter, due to the recession and higher retail prices exacerbated by weak tourism. Our shipments declined by 23.5% due to unfavorable distributor inventory movements, as well as the overall market decline. Our market share in the quarter was of just 0.2 points to 32.1% .This gains for L&M nearly completely offsetting the decline of Marlboro and Chesterfield.

The 16.1% shipment volume decline in Pakistan is attributable to trade inventory movements subsequent to the excise tax increase of June 2009.

In Russia, the total market which grew at an estimated rate of some 4% in 2008 is declining at an estimated 3% to 4% this year, reflecting the economic downturn and the departure of an estimated two million migrant workers.

In the third quarter PMI shipments were down just 0.8%. Our market share rose however, up 0.6 points in the third quarter to reach 25.6%. This strong performance is attributable to the growth of Bond Street in the value in optimizing the low price segment, the resilience of Parliament; and the overall strength and range of our brand portfolio.

In Indonesia, market growth is trending at 3% to 4% this year compared to an estimated 10% last year even though the Indonesian economy has suffered less than others from the global economic downturn.

Due to the timing of Ramadan this year, PMI shipments were down 1.1% in the quarter. PMI is a key brand A Mild continued to grow share and was up 0.5 share points in July and August to 10.7%, while Marlboro share was also higher.

Excluding currency our OCI increased in Indonesia at a double-digit rate in the quarter. Marlboro continued to perform strongly in Japan in the third quarter, gaining 0.4 share points to 10.6% behind the success of Marlboro Black Menthol and Marlboro Filter Plus.

During the quarter we rolled out Lark Mint Splash nationally. Along with the previously launched Lark Classic Milds, this new launch has helped us stabilize the market share of the Lark family at 6.6% in the quarter.

We believe all these new products from Marlboro and Lark has helped consolidate our leadership in the growing menthol segment, which was up 1.1 share points to 23.2% in a total market that was down 3% in the quarter.

With respect to the intentions of the new government in Japan as to the future of the tobacco sector they there at this stag much speculation, but nothing concrete. We expect clarification of their plans early next year. We continue to advocate regular, moderate excise tax increases combined with manufactural pricing freedom.

The highlights of our strong growth in Asia was Korea. Our shipments increased by 21.4% and regained 2.4 share points to a record quarterly level of 14.6%, due mainly to the continued strong performance of Marlboro and Parliament.

I will now to our improved results in European Union region. Adjusted OCI excluding currency and acquisitions increased by 5.3% in the third quarter, helped by price increases in Germany and Spain that more than offset negative volume and mix.

On a constant currency basis our adjustable OCI margin grew by 2.2 points to 52.2%. Our market share was down slightly by 0.2 points at 38.9%, due to our weaker performance of Marlboro in France, Germany and Spain. However, we are continuing to strengthen our second pillar in the EU region, L&M; already the region’s second best selling brand, gaining 0.9 share points to reach 5.7% regional share behind strong performances notably in Germany, Holland and Spain.

We are optimistic that the rollout in the EU region of our innovation pipeline behind Marlboro will start to bear fruit next year.

We are very pleased by the strong performance of Marlboro in Italy. We succeeded in growing the market share of Marlboro during the third quarter from 22.6% last year to 23.1% this year, and thus stabilized our overall market share at 54.5%.

This achievement was made possible by the successful launch of Marlboro Gold Touch, a new innovative offering in an unprecedented cigarette form, designed with a slightly slimmer diameter to provide a smooth taste and comfort in the hand. Marlboro Gold Touch achieved a 1.4% market share in Italy in the third quarter and continues to grow.

On a global basis we have continued to benefit from the strengths of our overall portfolio. Where down trading has occurred, we have generally been successful in keeping our consumer base. Thanks to our range of strong value international and local heritage brands. Our best performing international brands in this recessionary environment has been Bond Street, particularly in Russia and Lark particularly in Turkey, which are in the lower price categories.

In the premium segment the rate of decline in the shipments of Parliament and Marlboro during the third quarter was in line with our overall organic volume trends. Both brands achieved volume growth in the quarter in Asia primarily driven by their strong performance in Korea and they have been gaining share in the premium segment in those key market. We have continued to invest strongly behind our key brands, increasing our level of our spending this year in the EU region behind Marlboro

The new architecture for Marlboro is being successfully deployed in two steps. We are strengthening the core Red and Gold variants, through an upgrade of the Red pack so far available in Austria, France and Italy and the modernization of the Gold pack now available in 26 countries. Consumer acceptance new Gold packaging is very positive. The second aspect of the rollout of the Marlboro architecture is in the development and launch of innovative line extensions appropriate for each family in the nine different consumer preferences.

These new products has not being deployed globally but rather we have focused on one or two of them per market, establishing priorities on a country-by-country basis in line with our enhanced consumer understanding and engagements. In total we have launched Red line extensions in 34 markets, Gold line extensions in 17 markets and Fresh line extensions in 33 markets.

Let me give you some examples of our successful innovative Marlboro line extensions. Marlboro Filter and Flavor Plus, has an innovative 4-zones of filter that includes a tobacco plug, intended to enhance the flavor experience in the low tar cigarette; and is sold in an innovative sliding pack. Marlboro Filter and Flavor Plus is available in six, three and 1mg variance. In July, August this year, Marlboro Filter Plus notably achieved a 2.4% share in Rumania, 2.3% in Kuwait, 1.8% in Paraguay, and 1.3% in Kazakhstan.

Under the Marlboro Gold umbrella, we have launched a range of different line extensions. Marlboro Gold Advance is a smoother tasting, fruit flavored product, in a very elegant [impressive] pack.

This variant is now available in four markets and achieved a promising 0.3% national share in France and Portugal, in September following its launch in June and July respectively.

Marlboro Gold Touch is available in eight markets, in addition to Italy. In Greece based on in-market sales data, Marlboro Gold Touch already had a 0.5% market share in September and initial consumer research learning in July, showed that over 40% of earlier adopters were of legal age, minimum 18 to 24-year old smokers.

Marlboro Gold Edge is a super slims variant that is sold mainly in Central and Eastern Europe. During the third quarter it achieved a 3.4% share of the fast growing super slim segment in Poland and 4.8 share in Hungary and is performing well and duty free obviously.

Marlboro Gold Smooth 1mg has been launched in the Middle East. In August, it achieved market share of 0.7% in Kuwait, 0.5% in the UAE and 0.3% in Saudi Arabia. In Marlboro Fresh family our most successful innovation has been Marlboro Black Menthol, this has refreshing high Menthol content and attractive pack.

In the third quarter of this year Marlboro Black Menthol obtained a [11.4%] market share in Japan and a 3.3% market share in Hong Kong. Marlboro Black Menthol has also been launched this year in Indonesia, Malaysia and the Philippines.

Our latest innovative line extension is Marlboro super-premium, the cigarette is made using flue cured and burley tobaccos. The distinctive pack is its red metallic interior was designed by Pininfarina, the world famous Italian designer of cars, notably Ferrari models. Marlboro’s super premium was launched in the exclusive setting of Singapore Formula one Gran Prix last month.

Our sales in the premium segment underpins our profitability and positions us very well to further grow profitably as the world economy gradually moves out of a recession. During which our cash flow has remain formidable. In the third quarter our free cash flow totaled $1.7 billion and year-to-date it has reached $5.9 billion. Excluding the impact currency on net earnings, free cash flow was 17% higher in the quarter and 12.4% higher in 2009 through the end of September.

Our commitments to enhance shareholder returns remains as strong as ever. Reflecting the strength of our underlying business, we increased our quarterly dividend in September by 7.4% to a level of $0.58 per share at our current stock price of $50.82 per share this represents an attractive yield of 4.6%.

We have continued to steadily implement our share repurchase program spending a further $1.5 billion in the third quarter to buyback an additional 31.5 million shares. We now have $3.4 billion remaining in our $13 billion program, which runs through the end of April next year.

In 2009 we have so far returned a totaled of $7.4 billion to our shareholders through dividends and share repurchases. Since, we spun off in March 2008 the number adjust to $15 billion representing more than 15% of our current market cap.

Our financial strength is a key component of our success in the current difficult economic environment. It is reinforced by our excellent business momentum. The third quarter has illustrated again, our ability to deliver against all our currency neutral financial targets. While, volumes remain weaker than last year, we have more than offset this by higher prices, strong performances in most key markets, the continued benefits of our productivity and cost saving programs, and we have intensified our efforts to optimize working capital levels.

Today, we have raised our 2009 EPS guidance for 2009 to $3.20 to $3.25 representing an increase of 12% to 14% compared to 2008 on a currency neutral basis. Thank you for your interest in our company.

I will now be happy to take your questions.

Question-and-Answer Session

Operator

Thank You. We will now conduct the question-and-answer portion of the conference. (Operator Instructions). Our first question is from Judy Hong from Goldman Sachs.

Judy Hong - Goldman Sachs

As we think about 2010 and think about volume outlook. I was hoping to just get your perspective on volume outlook. Is it year-to-date down about 2.1% organic? As you thought to lap some of the challenges that you faced this year and then the macros start to get better globally would you expect to see the volumes sort of start to turn positive as 2010 progresses?

Hermann Waldemer

Well, let me start really with in terms of the perspective, I mean 2% minus 2% organic volume, I believe is an excellent performance for a consumer goods company in a recession. Looking forward, that's the key of your question here is, look I would say, I expect some improvement in 2010 over to 2009, but I would say at this point in time it's impossible to quantify. I mean they all number of factors that influence that situation. Of course the first and most important one is the general question about the economic recovery and also recovery in terms of employment.

A rebound in the stock markets doesn’t mean we get new jobs for the people, there will be a certain lack to that, that is of course one thing, I mean in key markets like Russia, I think that could come and begin to improve in the second half of 2010.

Then of course gets to the next question on really, total market size, development of major markets. Look Russia last year and it is a huge market and it was last year about 400 billion. A year ago it was growing 44%, this year it’s declining 3% to 4%. Is it going to stabilize or even already returned to grow? That's a key question. This major impact is on the total volume number. Indonesia is 250 billion cigarettes market. That market has been growing last year about 10%, now it is growing 3% to 4%. The growth of next year is going to be important.

Another important market is being Japan, also in the range 250 billion cigarettes. It’ll also depend on the new governmental policy on excise tax and I guess we all would love to accept a certain market decline in Japan in exchange for pricing freedom. So, all-in-all it will depend on those key points, we will continue to strike the right balance between price, earnings and volume.

Judy Hong - Goldman Sachs

Okay. Then just following up on the Indonesia, you said, industry is growing 3% to 4%. I think you said your volume was down, but there was timing of the Ramadan Holiday. So, can you quantify how much the timing impacted your volume in the third quarter? Then just broadly speaking, can we talk about some of the factors that maybe impacting slower growth for the industry in that market this year versus last year?

Hermann Waldemer

Okay. The Ramadan impact I would estimate and this is just a shift quarter-to-quarter. Anything around 1 billion cigarettes probably is good estimate there. In terms of overall growth of the market, that will of course depend here again on economic recovery. Indonesia is a country in any case is doing much better than many others.

The main thing for Indonesia that I also would like to highlight is, that the growth of that market today is actually in the very low price category of that market. That growth is driven by a tax loophole in that market. As we will recall, there is a three-tier excise tax system in the market. The lowest tier called Tier-3 goes for volumes of a brand of up to 0.5 billion and it's specifically for hand-rolled cigarettes that’s of course perfectly justified for employment reasons, but then there is a second tier that is valid between 0.5 billion and 2 billion that actually also includes machine made cigarettes and there is the abuse of the legal loophole in particular by one big competitor in there.

So, you just have new legal entities then and then fall under this category and all the rest is just taxed normally. So, that’s something we are working on that should be at rest going forward that's the one and only a reason actually why we show some market share lost in that market. It's only due to that segment otherwise we are doing really well in Indonesia.

Operator

Your next question comes from Jon Fell of Deutsche Bank.

Jon Fell - Deutsche Bank

Just wanted to follow-on on the volume question first of all a little bit. I mean, Hermann, you said yourself that investors in the market just looked at earnings per share rather than cigarettes per share. Do you think that maybe your 1% to 2% long-term growth target for volumes is maybe a little bit aggressive in this environment? I think price-mix in the last quarter was 8%. At what points would you start to get worried that you're maybe asking the consumer for a little bit too much?

Hermann Waldemer

First of all, on the overall volume targets, 1% is our organic volume growth target, 2% would include acquisitions. While the 1% organic volume target, we have met it early last year. We will not meet it this year and we probably it would be unrealistic to assume that we already go back to 1% organic growth next year, but these all made to long-term targets and as I’ve said at the beginning, we have achieved it last year. I think we again can achieve it going forward. I see no reason to change it, but as I mentioned previously, it also will depend really on the overall market growth trends of some of the really major, major markets, which are Russia, Indonesia, and Japan.

On the second part of your question, I’m convinced that we are striking the right balance and as you know we really managed all those for the long-term and not for the short-term. Look at this year's year-to-date pricing variance. It is actually 2.5 times the negative volume mix that we're having on year-to-date basis. I think that one is the strongest argument.

The second argument I think is that we kept our competitive position. We are very strong and have remained very strong. The third one is that sometimes price increases also can avoid, excise increases, the [lowering part] governments make more money.

The last point is that excise tax structures around the world have improved a lot minimum excise taxes, [hire] specific elements, you name it there is some progress there everywhere around the world and if you go to the top 25 markets around the world such protection is in place in one form over the other in every one of them.

Actually in that context I probably should mention that this morning European Time, the Advocate General has come out refer opinion on the pending case on minimum reference prices in the European Union. Your opinion is a negative opinion and of course this opinion carries some weight. However, I'd like to stress that the member states involved in these cases. They've also voiced there opinion supported by what I would considered to be very strong arguments.

So, finally it will be the European Court of Justice who decides about that in about three to six months is probably a realistic timing. I would like to add that, for me it's kind of hard to understand why the principle of free circulation of goods which is, anyway I would say an illusion, when it comes to cigarettes in the European Union, labeling requirements excise tax stamps you know all that.

Why such a principle would overwrite the public health concerns that have been brought forward by those member states. That being said, we just said that there are other means which are being used by governments around the world and it’s actually interesting that the EU commission themselves acknowledges that these tools might need to be further reinforced, just one example there could be that the minimum tax which today in the EU is kept at the 100% of the tax on the most popular price category eventually could go above and beyond those 100%. So, I wanted to use that question also to provide recent information to everyone.

Jon Fell - Deutsche Bank

Can I just follow-on from that announcement. If you could remind us which markets currently have minimum reference prices in place at the moment? Are there any of those markets where you are worried that alternative tools such as existing minimum excise tax requirements couldn't be used to achieve pretty much the same thing?

Hermann Waldemer

The [country] is concerned by the case or Ireland, France, and Austria. A fourth country that has a minimum reference price is Italy. I believe that all those countries if the final decision on that, we don’t know yet. Let's wait for the decision of the European Court of Justice. It would be negative I think they would address it in the sense that they are discussing earlier. You have to see that is simply then a burden on the low price end of the price segment and not on the premium price segment actually.

Operator

Your next question comes from David Adelman of Morgan Stanley.

David Adelman - Morgan Stanley

Just to clarify what you are saying to Jon. If you couldn't have minimum reference pricing in Europe, governments could elect under their existing authority or essentially achieve the same impact on cigarette pricing architecture through the utilization of minimum tax levels. Correct?

Hermann Waldemer

It is a question that depends on country-to-country, you can go under today's law you can go up to 100% of minimum tax of the most popular price category in that market, that category of course varies from market-to-market that can be actually the premium price, in the specific markets it depends. New rules eventually good foresee that that goes beyond that 100% and the other element that is of course available today is a higher specific component in the overall excise tax mix.

David Adelman - Morgan Stanley

Secondly, Hermann, I realize this is a forward-looking question. At a current exchange rates, do you think something like $4 in earnings has a stretch next year is feasible?

Hermann Waldemer

We haven't put our budgets in plan yet together for the next year. I think I have to beg your patience for the 2010 guidance until we publish the full year earnings, which would be February 11 of 2010.

David Adelman - Morgan Stanley

Then Hermann, what's the early read and I know that you have a competitor that had a fair level of inventory of 17 packs, but what's the early read on consumption trends in Germany subsequent to the fairly substantial increase in [Prestek] pricing in the middle of the year?

Hermann Waldemer

Well, there are two things here. I mean 17 packs which are on the new price and 17 packs that will still be available on the old price. On the new price this is just a face value advantage and not a real advantage. There is some advantage, but I wouldn't to say is huge in the German environment, where via the vending pack contents smokers are still used to somewhat to differing pack contents.

So I think we have in the German market for now and the Marlboro. We have some impact of the price increase, but there is a temporary phenomenon, we will have to see what the fourth quarter is going to show to us, but it is important that we have that minimum pack content change actually in the German market to 19 and I'm glad that this has been achieved.

David Adelman - Morgan Stanley

Then Hermann, lastly, what’s the status of your request to increase pricing in France?

Hermann Waldemer

The status in France right now is, you are right. We have sent a price list to the French Government for homologation that homologation is still pending. There might be implicitly some link of course to the announced publication of President Sarkozy's anti-cancel plan. I would expect and that’s the public information that that plan might be announced anytime from here to the mid of November. I don’t want to speculate on the contents of that plan. We will have to wait for the announcement.

However, I would say that over the last couple of years the French Government has been pretty rational and pragmatic and efficient when it comes to cigarette taxation. So, I don't expect any catastrophes at that end.

Operator

Your next question comes from Christine Farkas of Bank of America, Merrill Lynch

Christine Farkas - Bank of America, Merrill Lynch

A question on pricing if I could. We saw eight points of positive pricing in the third quarter similar to second quarter, given the timing of price hikes earlier in the year and what you might see in the fourth quarter and perhaps what we are lapping, is this an achievable growth in the fourth quarter as well for pricing?

Hermann Waldemer

A forward-looking pricing you know that I won't do that, but we had strong pricing this year at somewhat faster pace than we had last year. Our expectations, I would say are of course lumping and part of our assumption for the full year guidance, which as you have seen was narrowed and raised. So, it's all worked into that number.

Christine Farkas - Bank of America, Merrill Lynch

Okay. On that point, Hermann, the guidance then which was narrowed and raised, could you quantify at all how much you would you say is coming from the improved FX outlook versus pricing and the stronger than expected third quarter?

Hermann Waldemer

Yes, that I can. Look, we had in the previous guidance. We had in there a $0.55 negative currency assumption, remember down from at the very beginning of the year $0.80. Now our year-to-date September, negative currency is actually $0.52 and I don’t expect a further negative currency in the fourth quarter.

Christine Farkas - Bank of America, Merrill Lynch

Then moving to Marlboro or EU in general, we saw now the third consecutive quarter of share losses despite some improvement in the underline markets. I am just wondering, if you could comment a little bit on Marlboro’s performance or your expectations or perhaps the year-over-year challenges and when do you think that trade down might stabilize for you in the EU?

Hermann Waldemer

In general I didn’t talk about the EU markets in particular, but in general. I mean the first thing is off course that would the Marlboro volume will be stronger if there are no recession out there in the world? Off course I mean being in the premium segment, as I said in consequence but that that’s the way it is. Going forward this is going to change and when this is going to change we will have to have Marlboro for upgrading to come back and remind you as we’re discussing pricing earlier that upgrading to come at higher margins.

I mean innovation is out there, its working, it will provide future benefits. You had the examples in prepared remarks and there are plenty of examples around the world that Marlboro is very strong and is growing and there is in places like Korea, Argentina, Brazil, Philippines and Japan but also in markets in Europe, like Portugal or Italy. In the Italy I would say is may be a little bit comparable to what you see for the moment also in Germany.

After the last price increase in Italy, Marlboro for a couple of months or for two quarters was weaker because it had to absorb the price increase and now its back on track and growing so really I think the share decline in Marlboro is attributable to the price increase. We haven’t had one for a while in Germany. I am convinced it nevertheless was the right decision

In Spain the share decline is the simple consequence of a severe recession. The country really is in deep trouble overall. In Russia I guess we see down trading but there that is from a small base and in France and quite frankly it is right now a difficult price point situation. We have major brands still at 4.80 Marlboro is at 5.30. That’s the temporary disadvantage that Marlboro is suffering from in France but that won’t be forever

Christine Farkas - Bank of America, Merrill Lynch

Okay.

Hermann Waldemer

Besides in all I think we’re doing the right thing. We keep on going we keep on strengthening the brands. We even have increased the investments behind Marlboro in the European Union in this year. It will pay off going forward

Christine Farkas - Bank of America, Merrill Lynch

Thanks for that Hermann and my final question on Canada. We saw organic growth this quarter, which reversed decline in the first half, if I am not mistaken I know there is some regulatory factors helping. Is that really what’s going on there with a comps or can you talked about where the growth is coming from, perhaps high end, low end and whether the government support is really what’s driving that churn?

Hermann Waldemer

Yes we all are growing the share, first of all in that market point bringing share to 33.9 in Q3. So we are doing competitively really well, but what is very important is actually that the total tax paid market in the third quarter is up about 6% in Canada. What’s happening there is that you do see increased enforcement or literally more police cars controlling people coming out of the Indian reservation or along the Indian reservations, checking if there are illegal products being bought. That helps, that is a good development, it is very positive.

However, I have to add that in order to have a sustainable Improvement in Canada, the enforcement then really would have to go to the roots of the problem and roots of the problem are well known. There are factories in the Indian reservations there, so the place is known, the ones who run them are known. This is where I would hope that the next stage of enforcement would go. So it is positive news, for the quarter. I hope that they keep it up, but I hope even more that finally the underlying problem will be tackled.

Operator

Your next question comes from Adam Spielman of Citigroup.

Adam Spielman - Citigroup.

Can I ask you just the first question, what the market share was for Marlboro in the EU in the quarter and what it was in the second quarter as well? Because I didn’t think that is in the press release?

Hermann Waldemer

I know many things but about this one I don’t know by heart, but I can give you a couple of markets, I wouldn’t know the rate, that’s around about 0.9%, I believe, Germany was down some 1.2%, Spain is also down in a similar range. These are the markets those are really down. Italy, we already told you is up, Portugal is up, Poland in the quarter is actually up 1.7 share points to 9.5 percentage points.

Hungary is also up. So therefore we really and I believe that’s, of course the core of your question. There is no generalized Marlboro problem in the EU. There are specific regions in France, Germany and Spain that I explained just in the question before.

So as you can see that there also a number of markets with positive news. There are also a number of markets where the younger smoker share is in between 18 and 24-year-olds. It is growing, its actually for example, steeply growing in Portugal. It comes back to the points here that I really believe we are doing the right thing for Marlboro, and at the same time I am happy, that I am also able to say that we are making the progress in establishing a very solid second leg in the European Union and our name is already number two brand in the EU today.

Adam Spielman - Citigroup.

One question on that buybacks and one about Mexico, So quickly the buyback figure at $1.5 billion, if I remember rightly, is there a step up from your previous $1.4 billion. Should we assume that $1.5 billion is the sort of quarterly rate going forward?

Hermann Waldemer

No, there is no change to what I said earlier. You should expect for the full year of 2009 a total amount that is very similar to the amount that we expect last year, and last year’s amounts was in total $5.4 billion.

Adam Spielman - Citigroup.

Can I, can I quickly then in Mexico, the final question. Your major competitors there has said that it believes it has changed the competitive dynamic very exceptionally through specific innovation and from their point of view better distribution and I was wondering on how you would see the trends in that markets on your outlook, particularly given you have been very successful there in the past?

Hermann Waldemer

Well I wouldn’t rely that than our distribution, they are one of our competitors there and I guess the best argument is that our share is up 0.9% to 69.4% in the Mexican market. Couple of words, I mean what’s really happening in the Mexican market is that really you have essentially a polarizing markets. It’s a very strong premium segment.

So this is where we are with Marlboro and Benson & Hedges. I mean Marlboro is 48% market share and Marlboro and Benson & Hedges together has a premium segment share of about 83% and then the music for the rest of it is actually in the low price segment. There we are being extremely successful with Delicados growing very nicely there as well.

Our segment share in this growing segment is actually growing to 25% of the market now. Our segment share in there is now also 60%. Really the segment that is in this squeeze is the mid-price segment, I believe that’s the real dynamic in this markets.

Adam Spielman - Citigroup.

So it will be wrong to say that its become harder for your to compete in that market or would that just be wrong conclusion?

Hermann Waldemer

We have always enjoyed every competition but as I said look at our market shares, I think we are doing well. We will continue to take the competitive situation very seriously and we will continue to compete as good as we can.

Operator

(Operator Instructions) Your next question comes from Chris Growe of Stifel Nicolaus

Chris Growe - Stifel Nicolaus

I Just a couple of question for you, First of all I didn’t get this earlier in the call but I noticed that in most of your, lot of your major markets you started inventory distortion and distributor movements, that kind of things and I looks to me overall to have been a burden to your volume and I am sure that’s the reality of the economical environment we are in but can you quantify or give us a sense of how much that hurt your volume in the quarter?

Hermann Waldemer

No, I wouldn’t say that it’s in most of our important markets. I have given a couple of specific examples, that was Spain, that was then the shift in Indonesia. I will rather say in general and this is not huge numbers but if you are in an environment and also eventually here and there, your customers i.e. your wholesalers or even your retailers are in a working capital squeeze.

Then I think as the manufacturer, as Philip Morris, we are better served to help the trade by lowering the inventory levels, as the trade comes back to a situation where I would keep up those levels and increase payment terms. To do the second thing would be wrong. In that scenario we have chosen rather the first one, i.e. help the wholesaler with their own working capital squeeze there. So yes there were some effect there, but it’s not a world wide serious phenomenon.

Chris Growe - Stifel Nicolaus

Okay. I understand and then I think you mentioned before your premium price products your volume was down or bottom line with your organic volume growth. Is that correct?

Hermann Waldemer

That’s correct.

Chris Growe - Stifel Nicolaus

So you If you looked it at like mix in the quarter, I guess I am trying to understand is, how the different price segments from premium, mid and low performed. It sounds like there wouldn’t have been major mix change in this quarter if premium was down or bottom-line with the categories that earns in line with your business. Is that correct?

Hermann Waldemer

Well that kind of equalizes that also that PMI. Yes, I mean but off course we had a couple of market that your are aware like Russia where we did see down trading from the premium and meet actually through the lower price segment. So that actually, that down trading trend did deteriorate. However, I also have to say, it didn’t improve yet.

Chris Growe - Stifel Nicolaus

Understand, sure and then my last question for you is, in terms of the, if you look a ahead in 2010 you mentioned in your slides about potential VAT increase and excise tax increases. Are there any slated for right now that you are aware for next year that we should be watching out for?

Hermann Waldemer

In terms of VAT increase, there is now a proposal in Spain that would bring VAT up by 2% by the middle of 2010. So off course that then will require in the cigarette categories an adjustment of the minimum excise tax. You remember that the last price increase in Spain, the Spanish government has understood that mechanism very well, so I am confident that we’ll do the necessary again.

Another example there you’ve essentially seen, there are published plans out there not yet fully finalized in Russia. The excise increases there would be somewhat higher than the ones that we have seen this year, but in general, I would say the rollover of those increases in 2010 would be in the range of 2 Rubles, if you put that into relation to the overall price level, Marlboro is retailing today at 42 Rubles and L&M is retailing at 27 Rubles, so it’s a manageable situation again.

Chris Growe - Stifel Nicolaus

Sure, Okay

Hermann Waldemer

So the [Russian government] today never, so to speak another best price is of course and remains Ukraine.

Chris Growe - Stifel Nicolaus

Sure, sure, okay.

Hermann Waldemer

So then I don’t know what’s happening now.

Chris Growe - Stifel Nicolaus

Then in Japan sort of a watch out for right now and I’m sure how that’s going play out.

Hermann Waldemer

There you have to wait in Japan, we of course make our arguments and we talked to opinion leaders, the advocate as I said for moderate and regular excise increases accompanied by pricing freedom. I hope that we will be hurt, but as I said, there is really no official government tobacco policy out there, we have to wait there. You know that the project cycle of the Japanese Government does not follow the calendar year, but goes from April to March. So beginning of next year; I think there should be more clarity on Japan.

Operator

Your next question comes from Thilo Wrede of Credit Suzie.

Thilo Wrede - Credit Seize

Just wanted to clarify one thing, the guidance increase that you gave today, only $0.03 of that is driven by better than expected currencies, is that correct?

Hermann Waldemer

That’s correct.

Thilo Wrede - Credit Seize

I was little bit surprised though that that this quarter was the worst quarter in terms of currency impact, can you give us an idea of what the major currency movements were behind the big impact ?

Hermann Waldemer

Yeah local, as far as this planning, you had seen the breakdown that we had forecast for the year. Now we are essentially done, I would hope that this negative currency for the year over these three quarters, I mean the currencies that has hit us most, are of course, The Euro, but beyond the Euro the emerging current market currencies, first of all the Ruble, the Ukrainian Grivna that had severe impact and these are the most prominent ones and then thereafter would come the Turkish Lira.

Thilo Wrede - Credit Seize

Okay. Then at the beginning of the year you explained to us that down trading in Russia was driven by the collapse of the oil price. Do the recent gains from the oil price changed the outlook for Russia; is the worst over in Russia? So if we get back to trading there, if oil continues to grow up?

Hermann Waldemer

It will certainly help Russia now. We are talking about the Russian economy overall and not just cigarettes. I mean this will certainly help, however, from there until you see really more employments, remember I mean there is not only unemployment in Russia, there is also under employment in Russia, where people only work part time and get paid, therefore only part of the salary and on the country side you would find situations where people get there salaries paid late or may be for a month not at all. As soon as that comes back to a more normal pattern and the consumer confidence is going to come back. That is going to be the moment where you will stop seeing upgrading in Russia, let’s be realistic, I don’t think we will see that beginning before the second half of 2010.

Operator

Our final question comes from the line of Ann Gurkin of Davenport.

Ann Gurkin - Davenport

I had a couple of things, one Hermann, if you would give us an update on the outlook for tobacco lease pricing for the balance of this year and 2010?

Hermann Waldemer

Okay. Lease pricing, year-to-date we have a negative lease price in our [P&L] also $150 million compared to last year. So, you will have for the rate there about the semi fixed till for the remainder of the year, that of course again is baked into our guidance for the full year.

I mean going forwards, the crucial question remains, that we achieve a balanced supply of the tobacco balance, there is the demand for the tobacco and quite frankly, I think this is perfectly achievable, that to speak for us I mean. We at PMI, we know exactly how much tobacco we need for the coming year. Our volumes don’t vary that much. So therefore I think, as we know that the farmers are the ones who need to have that visibility and the farmers need to know that they can make a decent normal margin on the leaf they grow and not actually like it had been in past, a boom one year and a loss in the next year.

So that’s actually how we are tackling the problem. So we are in the process of getting it in under control.

Ann Gurkin - Davenport

Okay. Then as we look to 2010 should we expect a similar pace of new product introduction like we saw this year?

Hermann Waldemer

We have quite a nice pipeline developed out there. We also talked about Marlboro. We are also working with the other brands. Not every innovation is already rolling into every market. That as is a say would be even wrong. It has to be adopted to that market. That’s what we will continue to do.

Ann Gurkin - Davenport

Okay and then my last, any update on potential of lifting the ban on snus in the EU?

Hermann Waldemer

Well the ban on snus in the EU there really nothing has changed. The lifting of that ban is still 50-50 chance. We will have to wait and see.

Okay so before we conclude let me may be add one point here. You have seen our results of the third quarter and the point I would really like to highlight is that really since being public company, since the spin we have consistently delivered on our constant currency financial metrics and we have done that even in the most difficult of economic times. I believe that is a great achievement and we will work hard to continue to do so.

Nick Rolli

Okay, well thank you very much for joining us today. That concludes our investor call. Have a great day the investor relations team is in Lausanne, Switzerland and available for further questions, if you need to reach us. Again thank you and have a great day.

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Source: Philip Morris International, Inc. Q3 2009 Earnings Call Transcript
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