Philip Morris - Too Much Debt?

Sep.12.13 | About: Philip Morris (PM)

We all know Philip Morris Intl. (NYSE:PM) has a large amount of debt. Much debate is stirred by this issue, and some investors shy away because of the debtload. In fact, the debt has grown so much that book value has been decreasing each year since they spun off from Altria (NYSE:MO) in 2008, and now they have negative book value! How can a company with negative book value and 11 figures of debt be a good investment? How have they not imploded already?

Reason #1

Philip Morris is a cash cow. No one can deny that. They generate so much cash it is almost a sin (pun intended). They make a profit of almost $.17 for every $1.00 in sales revenue. When companies pull in that kind of money consistently for decades they can afford to be creative to benefit the shareholders. The stability of the income allows for the flexibility of management to increase debt levels temporarily.

Reason #2

The ratios are better than the numbers appear. Let me explain, PM brought in nearly $15B (EBITA) last fiscal year, and but the servicing of the debt (interest payments) was less than $900M during that time. To put it another way, imagine you have a $150,000 pre-tax salary, you don't have many bills or fixed costs (cap-ex) and you have a loan that you have to pay $8,900 a year in interest, can you afford it? You bet. It's EXACTLY the same with Philip Morris, only the decimal has been moved.

Personally, I would like to see Philip Morris borrow more at these generational-low interest rates. Interest rates should remain subdued for the near-term (<5 years) and I believe PM will bring on more debt during that time. They can certainly afford it.

Reason #3

It helps with paying the dividend. For example,

  • If PM never bought back a share after the spin-off, the float would be roughly 2.1B shares, and with the dividend at $.94/quarter, it would cost PM about $1.97B/quarter (nearly $8 billion a year) to pay out the dividend today. With net income of less than $9B last fiscal year, that doesn't leave a lot of room for capex, acquisitions, etc., it certainly doesn't appear to be a sustainable payout level.
  • Since PM has been buying back stock regularly, the float today is roughly 1.65B shares, and with the dividend at $.94/quarter, it does cost PM about $1.55B/quarter (about $6 billion a year) to pay out the dividend today. With net income of less than $9B last fiscal year, this leaves plenty of room for acquisitions, capex, and interest expenses.
  • PM's buybacks have saved shareholders over $420M in dividends per quarter, that's about $1.7B a year!

Reason #4

Earnings for Philip Morris are expected to rise by over 11% per annum during the next half decade. As the world population increases, so will the number of smokers. Organic growth is still a factor for PM, which you cannot say about Lorillard (NYSE:LO) or Altria . Maybe someday Russia or India will become a worrisome place for PM and they will spin it off like they did with the United States.

Also, it is foolish to not mention China in an article about PM. I predict PM will break into China, but not for many years. At some point China's "capitalistic-communism" government will be forced to change, either by foreign or domestic influences. It may not happen this decade, but before I die I will see someone buy a Marlboro in Beijing.


Philip Morris generates nearly $9B in net income a year, and through share buybacks are record low rates, are able to payout nearly $1.7B a year, during a time when shareholders are rejoicing about the 10.6% dividend increase. The dividend increase was made possible by the debt taken on during the last few years. The debt is fixed, expenses are minimal, earnings and dividends are stable and growing, what a dream company to own. I cannot think of a more stable company to invest for the long-haul in. When currency headwinds become tailwinds, watch out, because the shares will be explosive.

I am surprised that the shares are not trading at much higher levels, with an enterprise value of $160B and a market cap of $140B, I know PM is undervalued. The EV/EBITA ratio is less than 10! The shares are a steal under $100 for the long-term buyer, and I am buying as much as I can before PM becomes a market darling again.

The debt load, while large to the average person, is only 3 weeks of PM earnings to service. How many of us can pay nearly all of our yearly bills with only a month of income?

Disclosure: I am long PM. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.