Altria Group Q3 2007 Earnings Call Transcript

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 |  About: Altria Group, Inc. (MO)
by: SA Transcripts

Operator

Good day. Welcome to AltriaGroup's Third Quarter 2007 Earnings Conference Call. Today's call is scheduledto last about one hour, including remarks by Altria management and thequestion-and-answer session.

(Operators Instructions). Mediarepresentatives on the call will also be able to ask questions, following theconclusion of questions from the investment community.

I'll now turn the call over toMr. Nick Rolli, Vice President of Investor Relations and FinancialCommunications for Altria. Please go ahead, sir.

Nick Rolli

Good morning and thank you forjoining us on the call today. For those of you listening via the audio webcast,we are providing summary slides of the third quarter results. Today's call is limitedto a discussion of our business results.

Our remarks today containforward-looking statements and projections of future results, and I direct yourattention to the Safe Harbor Statement at the end of our news release, for areview of the various factors that could cause actual results to differmaterially from projections. For detailed review of our third quarter results,I direct your attention to the news release we issued earlier this morning,which is available on our "Investor Relations" section at www.altria.com.

And now it's my pleasure tointroduce Dinny Devitre, Altria's Senior Vice President and Chief FinancialOfficer. Dinny?

Dinny Devitre

Thanks Nick. Good morning. As youknow, in August we announced our intention to pursue the spin-off of PhilipMorris International. The Board anticipates that it will be in a position tofinalize its decision and announce the precise timing of the spin-off for itsregularly scheduled meeting on January 30th, 2008.

In September, PMI filed with theSEC, a preliminary registration statement on Form 10 in preparation for itspotential spin-off from Altria, and you can access the document at www.sec.gov.

In addition, Altria submitted aprivate letter ruling a request to the IRS.

Now we turn to earnings. Altriagenerated strong third quarter results with robust income growth driven by USand international tobacco. Diluted earnings per share from continuingoperations were up $0.19 or 18.1% to $1.24, including favorable tax items of$0.05 per share, charges of $0.02 pershare for asset impairment and exit costs, as well as other items detailed onSchedule 7 versus $1.05 per share in the year ago quarter.

Adjusted diluted earnings pershare from continuing operations were up $13.1 to $1.21, versus $1.07 in 2006.

For the full year, 2007 earningsper share guidance was raised $0.15 to a range of $4.20 to $4.25 versus aprevious projection of $4.05 to $4.10. This reflects $0.08 per share due to alower tax rate, favorable currency of $0.04 per share and higher income at PMIof $0.03 per share.

Turning to our domestic andinternational tobacco company results. I'll start with Philip Morris USA. Inthe third quarter, PM USA's operating company's income increased 2% to $1.3billion, driven by lower wholesale promotional allowance rates and lowerselling general and administrative costs.

Those items were partially offsetby increased resolution expenses, lower volumes, investments in support of PMUSA's adjacency strategy, and a $22 million pre-tax charge related to thepreviously announced closure of the Cabarrus facility.

Absent of that pre-tax charge, PMUSA's operating company's income would have increased by 3.7%. PM USA'sshipment volume of 47.1 billion units was down 1% or 500 million units versusthe prior year. However, PM USA estimates that shipments were downapproximately 3% when adjusted for changes in trade inventories and calendardifferences.

During the quarter, Philip MorrisUSA estimates that total cigarette industry volume declined between 3% and 4%,and for the full year of 2007, PM USA is maintaining its prior estimate of a 3%to 4% decline in total industry volume. PM USA achieved a record retail marketshare of 50.6%, up 0.2 points. This was driven primarily by Marlboro, whichincreased its retail share by 0.5 points to a record 41.1%. Both Philip MorrisUSA and Marlboro achieved sequential share growth for three consecutivequarters. Retail share for Parliament was up 0.1 point to 1.9%.

As part of its adjacency growthstrategy to develop new revenue and income sources for the future, Philip MorrisUSA initiated a test of Marlboro Snus in the Dallas/Fort Worth, Texas area, beginning inAugust 2007. They also announced a test market for Marlboro Moist SmokelessTobacco in Atlanta, and Georgia andbegan shipping products to wholesalers this week.

In the third quarter, PhilipMorris USA began shipping a number of new products, including Marlboro Smooth100's Box, and Marlboro Virginia Blend King Box and 100's Box. For 2007, PhilipMorris USA forecasts moderate growth in retail share and operating companies'income growth of approximately 2%, excluding the manufacturing consolidationcharge related to closing the Cabarrus facility.

Turning to our InternationalTobacco business, PMI achieved income growth in all its reportable segments inthe third quarter. Operating companies’ income increased 18.8% to $2.5 billion,due primarily to higher pricing, favorable currency of $138 million, productivityand cost savings. Excluding the impact of asset impairments and exit costs,acquisitions and currency, and operating companies' income grew a strong 10.2%.PMI's figured shipment volume increased 0.6% to 217 billion units, due toacquisition volume from Lakson Tobacco in Pakistan.

Excluding the impact of the Pakistanacquisition, cigarette shipment volume declined 1.9% or 4 billion units. Theshipment decline was primarily due to Germany,the Czech Republicand Poland, and partiallyoffset by gains in Algeria, Argentina, Bulgaria,Egypt, Korea, Lebanon,Slovak Republic,Spain and Ukraine. Sincethe earnings release presents a detailed overview of PMI's business in it'svarious segments, I shall contain my remarks to a few specific subjects andmarkets.

Industry volume in the EuropeanUnion, based on in-market sales as opposed to shipment data at a 167 billion units,was down 3.8% compared to the same period last year. The decline was duelargely to the impact of tax-driven price increases, particularly in Germany, Polandand the Czech Republic.

PMI's in-market sales in the EUat 65 billion units, were down 5.3% and market share declined 0.6 points to39.1% in the third quarter. However, in the nine months ending September, PMIshare was 39.4%, demonstrating that its premium portfolio remains resilient inthe phase of significant consumer down-trading to low price brands in certainmarkets. PMI expects to hold share at this level in EU for 2007.

In addition, PMI's profitabilityin the EU improved significantly in the third quarter over last year, withoperating companies' income up 21% in the third quarter and excluding currencyup a very solid 5%.

In Germany, the cigarette industrydeclined 5.7% in the third quarter, reflecting the impact of higher pricing.PMI's market share was down 1.3 points to 35.2%. It was driven down by consumerdown-trading to the low price segment and an increase in key a competitor'strade inventory. Adjusting for the trade inventory increase, PMI estimates thatits marker share was down 0.8 points in the third quarter.

In Poland, significant tax-drivenprice increases resulted in a total industry decline of 10.5% and a marketshare decline for our business of 2.6 points, to 38%. The decline was dueprimarily to volume losses for PMI's low price brands and local 70 millimeterbrands. However, PMI is increasing its focus on higher margin brands and itsprofitability in Polandnearly tripled.

In the Czech Republic,the industry was down 9% in the third quarter due to the timing of tradepurchases. However, in the nine months ending September it was up 1.6%. PMI'sshare of market declined 8.5 points to 49.3% due to a temporary pricedisadvantage of PMI's brands, as a result of shorter inventory durations andearlier tax driven price increases versus its competitors. PMI expects torecover a large part of this loss in the fourth quarter and is forecasting itsfull year share in the Czech Republic to be about 50%.

During the third quarter, PMI'sbusiness performed well in Italy,Spain and France, andprofits were up in all three markets. Market share in Italy rose, and was driven by Chesterfield,Philip Morris and Merit and in Spainwas driven by the growth of Chesterfieldand L&M.

In France, market share was down 0.5points due to higher pricing, but profit growth was solid. The most recentvolume trends for Marlboro in Franceare encouraging, despite the price increase.

In EEMA, shipment volume was upslightly in the third quarter as higher volumes in Algeria,Bulgaria, Egypt, Lebanonand Ukraine more than offsetdeclines in Serbia duty free,and the unfavorable timing of shipment in Kuwait. OCI and EEMA was up 22% to$710 million.

In Egypt, the continued growth ofL&M fueled a 21% shipment increase, and a market share gain of 2.6 points.In Ukraine, consumer upgrading to Marlboro, Parliament and Chesterfieldresulted in a shipment increase of 3.5% and a market share gain of 0.6 pointsto 34%. In Russia, marketshare rose 0.4 points to 26.6% as our premium brands Marlboro, Parliament,Virginia Slims and Chesterfieldcontinued to grow strongly, more than offsetting the decline of L&M.

Last month, PMI replaced theentire L&M brand family with a completely new offering to improve itsvibrancy in adult consumer appeal. The new L&M is receiving a good trialresponse and volume performance to-date is encouraging. Looking ahead, PMI'sin-market shares in Russia are expected to return to growth in the fourthquarter as L&Ms declined moderate and gains accelerate across the rest ofour portfolio, especially for our higher priced brands.

This growth will be driven, inpart, by recent new launches including Virginia Slims Uno, an innovativeperform-pack promoted in upscale venues, and Marlboro Filter Plus, which waslaunched in May at a significant price premium to regular Marlboro. Improvedbrand mix and better prices are generating strong income gains in Russia.

In Asia, PMI shipment volume wasaffected by declines in Indonesia, Japan, Malaysia and Thailand. However,operating company's income in the third quarter grew 14.5% in Asia to $514million. In Japan,the industry was up, due to favorable comparison with the third quarter of 2006,as last year's total market was depressed by trade inventory depletionsfollowing the July 2006 tax-driven price increase. PMI shipments in Japan were flat,while market share 24.3% was down 0.6 points. Marlboro share was stable at10.1%.

For the fourth quarter, PMIestimates that its in-markets sales in Japan will be down about 4% and marketshare will be slightly lower than the fourth quarter of 2006.

In Indonesia, although PMIshipments and market share were temporarily impacted by a stick pricedisadvantage versus its low price competition, profits rose significantly.Marlboro share grew 0.5 points to 4.3% driven by improved marketing anddistribution and the July 2007 launch of Marlboro kretek.

In Latin America, PMI shipmentswere down 1.5%, as declines in Braziland Colombia were partiallyoffset by continued growth in Argentina.However, income was up 7.5% driven by higher pricing. Market share grew animpressive 2.2 points in Argentinato a record 69.7%, due to Marlboro and the continued growth of the PhilipMorris brand.

In Mexico, PMI's market sharealso reached a record 65.5%, up 1.6 points on the strength of Marlboro, Benson& Hedges and Delicados.

For 2007, PMI's volume isforecast to grow between 2% and 3%, including all Lakson volume in Pakistan.Absent Pakistan, volume is expected to be down approximately 1%. Operatingcompany's income is forecast to increase between 5% to 7% in 2007, excludingcurrency, restructuring charges, and the 2006 Dominican Republic gain.

This concludes my introductoryremarks and now I will be happy to take your questions.

Question-and-Answer Session

Operator

Thank you. We will now conductthe question-and-answer portion of the conference. (Operator Instructions).Your first question is coming from David Adelman with Morgan Stanley. Please goahead.

David Adelman - Morgan Stanley

Good morning, Dinny.

Dinny Devitre

Hi. Good morning, David.

David Adelman - Morgan Stanley

Let me ask you a few things,Dinny. First let me start with PMI. Why isn't the business in Japan performing better, and inparticular, Marlboro? I thought part of the premise, obviously, with thetake-back, was to drive that brand's performance and the share has beenstagnant. So what's happening there and what's the strategy to improve businessin Japan?

Dinny Devitre

Yeah. David, I am going tostart-off by saying that we are disappointed with our performance in Japan. There isno doubt about that. At the same time, we are determined to renew the market-sharegrowth that we enjoyed for many years until recently, and we are really veryfocused on our actions in that market.

Now, looking specifically at ourmarket share loss in the third quarter, we were down 0.6 points. All that losscame from Lark, which is not doing as well as we'd like it to do. On the otherhand, Marlboro, in fact you are right, it was increasing its market share inthe past. And the fact was that at the time it was increasing its market share,it had a fairly convenient price. It was 300 Yen and below. At the 320 Yenprice level, that's a pretty high price point and Marlboro is by far thelargest brand in that price category, and it has hit some headwinds.

On the other hand, we've recentlyintroduced some pretty innovative line extensions for Marlboro. There has been MarlboroMenthol Ice Mint, which has been introduced in some areas of Japan and it's off to a very strongstart. We have other plans for Marlboro which would keep the brand growing. ButI'll just come back to the starting point and that is that we are not happywith the way things are there, and we are determined to make a change and renewour market share growth.

David Adelman - Morgan Stanley

Okay, fine Dinny. And then in China,the agreement with the CNTC was signed almost two years ago. What's the statusthere? Is there any visibility on starting shipments and production of Marlboroin that market?

Dinny Devitre

Definitely, we are slower than weexpected. We would have expected that by this time, the Marlboro licenseagreement would have fructified into actual production that has not happened. Ican tell you, we are in close touch and working very cooperatively with CNTC,but I can't give you a date at this time as to when we are going to start the Marlborolicense production.

David Adelman - Morgan Stanley

Okay, and then if I shift Dinnyto the United States.Was the September price increase part of PM USA's business plan coming intothis year?

Dinny Devitre

Yeah, more or less, yes.

David Adelman - MorganStanley

Okay. And if there is, Dinny,whether it's leaving aside the exact timing or the magnitude, if there is asubstantial increase in the Federal Excise Tax, do you think PM USA is preparedto at least temporarily de-emphasize its historical relative focus on marketshare to go more for profitability?

Dinny Devitre

Well David, we never talk aboutpricing strategy, so I am going to stay away from that question. I will tellyou regarding FET. We don't know what's going to happen to FET. We believe theVeto will be sustained tomorrow, but we don't know what's going to happen tothe FET. We are against the FET as an industry. We think this industry isalready over-taxed and that a Federal Exercise Tax increase would createunintended, unfavorable consequences.

David Adelman - MorganStanley

Okay, fine. And then Dinnylastly, to more generally subsequent to the end of the quarter, have you nowrecouped the $1.3 billion escrow in Engle?

Dinny Devitre

No, not as yet.

David Adelman - MorganStanley

Okay. And lastly, will the twoindividual businesses, Dinny are they likely to articulate or have theirrespective boards authorized share repurchases prior to the PMI spin, or willthat come after the spin is completed?

Dinny Devitre

The Altria board will specify theshare buy-back program and we will announce it sometime before the spin.

David Adelman - Morgan Stanley

Okay. Thank you very much.

Dinny Devitre

Okay.

Operator

Thank you. Your next question iscoming from Judy Hong with Goldman Sachs, please go ahead.

Judy Hong - Goldman Sachs

Hi, Dinny.

Dinny Devitre

Hi, Judy.

Judy Hong - Goldman Sachs

Just looking at PMI, sort oftaking a broader view of what's going on in terms of how you think about thevolume and pricing trade-off, because right now it seems like you are gettingimproved pricing in many markets around the world. But volume has suffered tosome extent because of that. And I'm just wondering, as you sort of think aboutgoing forward, will there be increased focus on volume growth or will wecontinue to see this business volume flattish or maybe down slightly, butreally getting pretty good growth because of the price mix improvement?

Dinny Devitre

I think we've got to look at thisquestion sort of over a longer period of time than just a quarter or even ayear, and clearly PMI wants to balance volume and profit performance. This yearPMI has increased its focus on achieving revenue growth and income growth andthis is clearly evident in the numbers, Judy. You can see, for example, that onan apples-to-apples basis, revenue was up 4.5% and OCI 10%, and these arestrong numbers by any measure.

I'd also like to point out thatif you examine our brand mix and categorize our portfolio into three bucketsfrom the most profitable to least profitable, we've kept the contribution ofour top bucket, and I'm comparing these buckets between the third quarter ofthis year to third quarter next year. We've kept the contribution from our topbucket fairly flat in percentage terms. We've grown our middle bucketsignificantly and we've reduced the contribution of our lowest profit bucket.In fact, we have shared what I would refer to as some volume fodder.

Going forward, it's clearly PMI'sobjective to seek an optimal balance between volume performance on the onehand, and revenue and OCI growth on the other hand. Having said all that, it'simportant to note that PMI must be given credit for the volume it gets fromacquisitions. Acquisitions are part of the business. It's not a one-time thing.And if you look over the last five years, we've had positive volume growthevery year. And so, acquisition is very much part of the base business.

Organically, obviously, thevolume decline we had in third quarter of 1.9%, actually it was 1.7% when youadjust for the fact that the duty-free business which used to be managed by PMIand recorded in PMI's volume, which has now been transferred to Philip MorrisUSA. If you account for that, volume was down 1.7%. But even that is a too higha decline. We are very definitely aiming to have flat to slight growth in ourvolume, and balance that with good operating profit.

Judy Hong - Goldman Sachs

Okay. And then just looking atthe USmarket, are you seeing any sequential improvement in the industry consumptiontrend as we enter the second half of the year versus first half? And secondly,just in terms of the clarification on your shipment numbers in the thirdquarter, was that held by the inventory loading that took place this quarter,or was there something last quarter that affected that number?

Dinny Devitre

No. It was held by the fact thatthis quarter ended on a Sunday. Sunday is like a half day and it got includedin this quarter. Normally, a Sunday gets thrown into the following week whichis the normal way we handle accounting for volume. But this year, the last dayof the quarter was a Sunday. So you could say that the quarter benefited byhalf a day, compared to last year's quarter.

And the first part of yourquestion regarding the consumption rate, it is improving. And volume was down,I'd say more than 4% clearly in the first quarter, above 4% in the secondquarter and is trending down into the 3% to 3.5% range in the third quarter.And so for the year, we are going to end between 3% and 4%.

Judy Hong - Goldman Sachs

Okay. And then finally, if youhave any update on the existing tender offer at this point?

Dinny Devitre

No. No update at this point.

Judy Hong - Goldman Sachs

Okay. Thanks Dinny.

Dinny Devitre

Thank you.

Operator

Thank you. Your next question iscoming from Erik Bloomquist of JP Morgan. Please go ahead.

Erik Bloomquist - JP Morgan

Hi. Good morning, Dinny.

Dinny Devitre

Good morning, Eric

Erik Bloomquist - JP Morgan

I wanted to start off on PM USA.I was just wondering if you could help me understand why Basic was weak in thequarter? Are you seeing an increase in discount competition? If you could justgive us some color around that.

Dinny Devitre

Well, Basic was down in thequarter. There have been quarters when it's been up. There have been quarterswhen it's been down. This quarter unfortunately lost 0.2 points. There is quitea lot of competition from low price bands, not just the deep discount brands,but even low-priced bands from the major manufacturers. And that has affectedBasic in the third quarter.

Erik Bloomquist - JP Morgan

And is that competitionincreasing or intensifying? Or is that simply just kind of the way the businessunfolds through the course of the year?

Dinny Devitre

It's the latter.

Erik Bloomquist - JP Morgan

Okay. Thank you. With respect toPMI then, the view in Germany,it seems like its remaining somewhat in more negative than I had anticipated.Are we still seeing lots of down-trading or shift of volumes from the sticksproduct? Is that going to fine-cut? And when do you think we may see somestabilization in the German market?

Dinny Devitre

Yeah. The German market declinedI think about 5% in this quarter and that decline was exacerbated by the factthat the third quarter in last year, in fact benefited from the World Cupevent, with retailers restocking in the third quarter of last year. And so,that did have some impact. But nevertheless, the decline rate is stillsomewhere in the 3% to 4% range. And the sticks switchback has gone more to afine cut as well as obviously unfortunately the cross-border business hasbenefited from this switchback from portions. At the same time, the lowerpriced segment in Germanyis growing. Our own L&M is doing very well but so are the lower pricedbrands from our competitors.

Erik Bloomquist - JP Morgan

Okay. Thank you. And then lastlyon Japan,you said that you expected the volume up about 4% and market share a bit lowerthan in Q4 '06. Are you attributing that to the price increase that you havetaken in October this year?

Dinny Devitre

No. I don't think so. Because theprice increase we took in October this year just covered about 12% of ourvolume, and the problem remains really with [luck].

Erik Bloomquist - JP Morgan

Okay. Sorry, I had one more if Imay. In the PMI filing, it showed most of the stockholders equity in PhilipMorris International. Could you help us think about how that may be allocatedin the future with respect to PMI and then the Altria PM USA allocation?

Dinny Devitre

That goes to the heart of ourcapital structure, and that is just being deliberated on, Erik, and it willbecome evident over the next few months.

Erik Bloomquist - JP Morgan

Okay. Thank you, Dinny.

Dinny Devitre

Thank you.

Operator

Thank you. Your next question iscoming from Filippe Goossens with Credit Suisse. Please go ahead.

Filippe Goossens - Credit Suisse

Yes, sir. Good morning, Dinny howare you doing today?

Dinny Devitre

Hi, Filippe.

Filippe Goossens - Credit Suisse

First question, just kind ofgoing back to David's earlier question with regard to the FET; the industry iscurrently also lobbying against a proposal in the State of Oregon for an $0.85increase in that tax revenue, if it were to be enacted in November. It looks tome as like it would go to the same kind of programs to help fund healthcare forchildren. Can you just kind of help me understand better if Oregon were to be enacted and there were tobe an FET increase, how the two work together because they seem to be bothaiming for the same objective?

Dinny Devitre

Yeah, that's a good question. Butfirst of all, we do have -- we have joined a coalition in the Oregon matter and we are totally opposed toit. We are doing our best to persuade people that this is the wrong thing todo. We'll have to wait and see on November 7th, whether our persuasion has beensuccessful or not. But I really can't answer that question exactly. Myassumption, though, is that one is a federal excise tax increase the other isthe state excise tax increase, and unfortunately they will be cumulative.

Filippe Goossens - Credit Suisse

Okay, then my second question. Ifwe look at the 50 basis points in market share increase for Marlboro, how muchof that, Dinny, is driven by initial inventory shipments for some of your productline extensions, both the Marlboro Smooth expansion as well as the VirginiaBlend for Marlboro?

Dinny Devitre

Very little, most of it is just acore business of Marlboro.

Filippe Goossens - Credit Suisse

Okay, then moving quickly to Germany.In your prepared comment as well as in the press release, you referred toinventory loading by competition. Was that pretty broad-based or was it justone particular player out there?

Dinny Devitre

It was just one particular playerout there and that load was $600 million in the third quarter of this year, butthe same player made a load of $300 million in the third quarter of last year.

Filippe Goossens - Credit Suisse

Okay. Then moving to thesmokeless marketing initiatives there or test marketing, given that you havetested tobacco for a little over a year, how long do you think you'll need withthe Snus test in Dallas before you will have enough data points to make adecision whether to roll this out nationwide or not?

Dinny Devitre

The test marketing you referredto is the one-year test market, but that was for a totally different brand.Here we are starting-off with Marlboro. It's been in the test market only twomonths. I think it went into test market retail on August 8th. And I reallycan't give you a time Filippe. I think we will just have to study this verycarefully. It's a very, very important initiative and I am not in a position togive you either time or whether this is going to be a step-by-step extension ofthe test market. I am sorry, we will just have to wait and see.

Filippe Goossens - Credit Suisse

Okay. Then few months ago, youfiled a couple of lawsuits related to contraband without the internetretailers. You have not commented for some time now on the historic agreementyou signed a number of years ago with the European Union, where you joinedforces to fight contraband. You did mention that Germany cross-border traffic isstill an issue. Can you just give us quickly an update in terms of how yourinitiatives are currently progressing with regard to contraband, etcetera in Europe?

Dinny Devitre

Actually they are going verywell. Our cooperation with Europeans is terrific. We are working closelytogether and there is very little I can add. The references you make to thesuits against contraband and counterfeit, it was in the United States.

Filippe Goossens - Credit Suisse

Correct.

Dinny Devitre

So I really don't know what thestatus on that is. But I can tell you that in Europethings are progressing very well and there is very solid cooperation.

Operator

Thank you. Your next question iscoming from Bonnie Herzog with Citigroup. Please go ahead.

Bonnie Herzog - Citigroup

Good morning, Dinny.

Dinny Devitre

Hi, Bonnie.

Bonnie Herzog - Citigroup

Hi. Obviously, a lot of questionshave already been asked. So, I also just have one and I don't mind if you cantell us too much about the progress that has been made regarding the Form 10that you have filed. Any feedback that you have heard or anything else you haveheard regarding the other items that need to be achieved before you canofficially spin-off PMI?

Dinny Devitre

Well, I think the first thing tonote Bonnie is that the Form 10 is a work-in-process. We filed at the end ofSeptember and we expect to receive comments from the SEC at the end of October.So, within the next week or so, I think we should receive some comments. Wewill then make necessary amendments and there will be an innovative processbetween now and the end of the year or a fluid process where they ask us questions,and we give them replies, etcetera, etcetera.

This will continue till the endof the year. Then in February next year, we will drop in the final 2007 datawith regard to financials and everything else including the CD&A dataetcetera. And then we have a final Form 10, which we will present to the SEC, Ithink like in the first week of February.

Bonnie Herzog - Citigroup

Okay. That helps. Thank you verymuch.

Dinny Devitre

Thank you.

Operator

Thank you, your next question iscoming from Ann Gurkin with Davenport.Please go ahead.

Ann Gurkin - Davenport

Good morning, Dinny.

Dinny Devitre

Good morning, Ann.

Ann Gurkin - Davenport

I wanted to follow-up on acomment you made about the Ukrainebenefits from consumer up-trading. And just if you can expand on that comment,where is your confidence that up-trading will continue, not only in Ukrainebut throughout to the open markets over the next two years, and what's thebiggest risk to that trend?

Dinny Devitre

Yeah. I think we are seeing up-tradingin a number of markets. The Ukraineis one example. Russiais another example. I think in most eastern European markets, we are seeingthis up-trading. We are also noticing it in markets such as Turkey. So, there's a sense thatconsumers are clearly up-trading in the developing markets. That's obviouslygood for the business. I think the only thing that can upset that movement isif there's some major worldwide financial crisis and certainly I am not goingto predict one way or the other on that. So, I can't see anything specificcoming in the way of the current trend of up-trading that we are seeing in anumber of developing markets around the world.

Ann Gurkin - Davenport

Great. And then switching back tothe US,the plan as I know it is just a shift sourcing of volume from Cabarrus by thethird quarter of 2008. What's the risk that timing might shift out to 2009?

Dinny Devitre

No. I think we are pretty much onschedule.

Ann Gurkin - Davenport

You are on schedule to shift mostof the volume by Q3 '08.

Dinny Devitre

Yeah.

Ann Gurkin - Davenport

That's great. Okay, great.Thanks.

Dinny Devitre

Thank you.

Operator

Thank you. Your next question iscoming from Christine Farkas with Merrill Lynch. Please go ahead.

Christine Farkas - Merrill Lynch

Thank you very much. Just a quickquestion, Dinny, if I could on the global markets. You have touched on thetrading up. If we were to pull out currency from your top line at PMI and ifI've done the math correctly, it looks like the top line actually declined. Iunderstand the volume decline. But can you talk about the price increasesoffset by the country mix in that top line? Thank you.

Dinny Devitre

I don't think that's correct whatyou just said. When you're talking of top line, if you're talking of revenues,net of excise, net of currency, we were up.

Christine Farkas - Merrill Lynch

It was up. Okay. It must be mymiscalculation and that was the only clarification I needed. Thanks Dinny.

Dinny Devitre

Thank you.

Operator

Thank you. Your next question iscoming from Chris Growe with A.G. Edwards. Please go ahead.

Chris Growe - A.G. Edwards

Hi, Dinny. Good morning.

Dinny Devitre

Hi, Chris.

Chris Growe - A.G. Edwards

I just want to follow up. I had aquestion relative to Christine's question there just on mix in general, butit's hard to calculate. I did have a different calculation than she did. I hada pricing, if you will, up 2% to 2.5%. Is there a negative mix just because ofthe way some of you had big shifts in certain markets that worked against thisquarter?

Dinny Devitre

Well certainly, our volume wasdown for the quarter. And therefore, clearly income was down because of that.As far as mix is concerned, it was slightly positive compared to the samequarter last year. And if you recall my first explanation to I think David'squestion, when I spoke about comparing this quarter to the third quarter lastyear and looking at those three buckets from most profitable to leastprofitable. And if you look at those buckets, the most profitable has stayedfairly steady in terms of percentage contribution. The middle bucket which isfairly profitable has grown and the lowest, least profitable bucket hasdeclined in terms of contribution and that would suggest that our mix isimproving.

Chris Growe - A.G. Edwards

Okay. That's very helpful. I hadsome quick follow-ups for you. Just relative to your foreign exchange, the$0.04, if you will boost to guidance, does that put you pretty much like acurrent rate? Is that a good reasonable estimate?

Dinny Devitre

Yeah.

Chris Growe - A.G. Edwards

Okay. And then the Engle escrow,should that come back in Q4? Is that correct or --?

Dinny Devitre

Well we'll just have to wait andsee regarding the Engle escrow it is tied up with certain legal issues and weare not sure that we are going to get it back this year or next year.

Chris Growe - A.G. Edwards

Okay. And then the last questionI had for you was, you outlined a number of countries where you had sometemporary gaps, if you will, in pricing and that led to some weak volumes,whether it’s Indonesia, inthe Czech Republic, Russia, Poland, a few others. It looks likeQ4 could be a much better kind of volume growth quarter. Would that fit withyour internal view?

Dinny Devitre

Not much better, a little better,not much better.

Chris Growe - A.G. Edwards

Okay. Thanks a lot.

Dinny Devitre

Thank you.

Operator

(Operator Instructions). Yournext question is coming from Erik Bloomquist with JP Morgan. Please go ahead.

Erik Bloomquist - JP Morgan

Hi, Dinny. I just wanted tofollow up on the answer you gave to David on the buyback. What I heard was thatyou said the Altria board will announce the buyback prior to the PMI spin.Could you clarify and extend on that please?

Dinny Devitre

The only thing clarification Ican give is I'm talking about the current Altria board.

Erik Bloomquist - JP Morgan

Okay, and so that will be abuyback pertaining to Altria’s post spin?

Dinny Devitre

Altria and PMI post spin

Erik Bloomquist - JP Morgan

Okay so the announcement willdiscuss the aggregate buyback for the entire Altria group and then how that'sallocated between PMI and PM USA will be clarified post spin?

Dinny Devitre

No, it will talk about thebuyback plans for PMI separately and Altria separately.

Erik Bloomquist - JP Morgan

Okay, and that will be announcedprior to the spin being completed?

Dinny Devitre

Yes.

Erik Bloomquist - JP Morgan

Okay. But post the announcementof details on the spin on January 30?

Dinny Devitre

Yes.

Erik Bloomquist - JP Morgan

Great, thank you very much.

Dinny Devitre

Okay.

Operator

Thank you. (OperatorInstructions). Your next question is coming from Chris Burritt with BloombergNews. Please go ahead.

Chris Burritt - Bloomberg News

Dinny, this is Chris Burritt withBloomberg.

Dinny Devitre

Hi, Chris.

Chris Burritt - Bloomberg News

The PM USA folks in Richmond are giving apress tour of your new R&D center tomorrow. And from the corporate view,can you give some inside into your expectation of how that facility is going todevelop products that are going to contribute to PM USA down the road?

Dinny Devitre

Well Chris, as we've said in thepast, the R&D center which I think is already being -- we've already gotsome employees in there. I think the R&D center will be completelyoperational by, I think the second quarter of next year. As we've said before,the purpose of that center is to give Philip Morris USA a much brighter futurein terms of its products both through the improvement of current products, thedevelopment of new innovative products, the development of harm reducedproducts, and certainly also a leg-up in the smokeless category. So, theinvestment is large. It's going to be a state-of-the-art first class researchand technology center and we're pretty sure that it will bear fruit for PhilipMorris USA both in terms of volume and profitability in the years ahead.

Chris Burritt - Bloomberg News

Thank you. And quickly, onMarlboro pricing, what was the average price in the third quarter and how muchwas that up from the year earlier?

Dinny Devitre

The price for Marlboro was 418for the third quarter of this year and the same time last year, it was 394.

Chris Burritt - Bloomberg News

Thanks very much.

Dinny Devitre

Okay.

Operator

Thank you. There appear to be nofurther questions. I'd like to turn the floor back over to management for anyclosing remarks.

Nick Rolli

Well, thank you all for joiningus on the call today. And we're available here at Altria Investor Relations forany follow-up questions. Thank you very much. Have a great day.

Operator

Thank you. This does concludetoday's Altria Group's third quarter 2007 earnings conference call. You may nowdisconnect.

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