Philip Morris International: Great High Dividend Income Yield Of 6.7% With An Inelastic Priced Product

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About: Philip Morris International Inc. (PM), Includes: ADP, BA, DLR, HD, JNJ, OHI, SLP, V
by: William Stamm
Summary

Philip Morris International has increased its dividend for 10 years in a row and presently has a yield of 6.7%, which is well above average.

Its three-year forward CAGR of 8% will give you growth with the increasing earnings from heated tobacco products worldwide.

Philip Morris International total return underperformed the Dow average for my 60.0 month test period by 41.02%, but the company has a solid dividend income, increased twice last year.

This article is about Philip Morris International (PM) and why it's a buy for the dividend income investor that also wants to take advantage of the overdone stock price dip. Philip Morris International is one of the largest manufacturer and distributor of smoking products. PM is a conservative investment for the income investor who also wants moderate growth of 8%.

Philip Morris International is 4.2% of The Good Business Portfolio (a full position). The company has steady growth and has cash it uses to increase the dividends each year.

When I scanned the five-year chart, Philip Morris International has an interesting chart going up and to the right in a choppy slope for 2016 through mid-2017 until the FDA stated it would regulate nicotine in cigarettes. Also, the first quarter's earnings report was not taken well, and PM dropped 20% in a week, I think this was much overdone. I think this provides an opportunity to buy a quality company at a very good entry price for the income investor and with potential moderate growth.

Chart PM data by YCharts

Fundamentals of Philip Morris International will be reviewed on the following topics below.

  • The Good Business Portfolio Guidelines
  • Total Return and Yearly Dividend
  • Last Quarter's Earnings
  • Company Business
  • Takeaways
  • Recent Portfolio Changes

I use a set of guidelines that I codified over the last few years to review the companies in The Good Business Portfolio (my portfolio) and other companies that I am taking a look at. For a complete set of the guidelines, please see my article " The Good Business Portfolio: Update to Guidelines, August 2018". These guidelines provide me with a balanced portfolio of income, defensive, total return and growing companies that hopefully keeps me ahead of the Dow average.

Good Business Portfolio Guidelines

Philip Morris International passes 10 of 11 Good Business Portfolio Guideline, a good score (a good score is 10 or 11). These guidelines are only used to filter companies to be considered in the portfolio. Some of the points brought out by the guidelines are shown below.

  1. Philip Morris International does meet my dividend guideline of having dividends increase for 7 of the last ten years and having a minimum of 1% yield, with ten years of increasing dividends and a 6.7% yield. Philip Morris International is, therefore, a good choice for the dividend income investor. The five-year average payout ratio is high at 88%. After paying the dividend, this leaves some cash remaining for increasing the business of the company.
  2. I have a capitalization guideline where the capitalization must be greater than $7 Billion. PM easily passes this guideline. PM is a large-cap company with a capitalization of $110.0 Billion. Philip Morris International 2018 projected cash flow at $9.5 Billion is good allowing the company to have the means for company growth and increased dividends.
  3. I also require the CAGR going forward to be able to cover my yearly expenses and my RMD with a CAGR of 8%. My dividends provide 3.3% of the portfolio as income, and I need 1.8% more for a yearly distribution of 5.1%. The three-year forward CAGR of 8% meets my guideline requirement. This good future growth for Philip Morris International can continue its uptrend benefiting from the continued growth in the smokeless segments of its business, with new targets of India and the United States.
  4. My total return guideline is that total return must be greater than the Dow's total return over my test period. PM fails this guideline since the total return is 1.52%, less than the Dow's total return of 42.55%. Looking back five years, $10,000 invested five years ago would now be worth over $9,800 today. This makes Philip Morris International a poor investment for the total return investor looking back, that has future growth as the economy continues to grow and the demand for PM smokeless products increases. Looking at the present stock provides an excellent entry point for future position total return.
  5. One of my guidelines is that the S&P rating must be three stars or better. PM's S&P CFRA rating is three stars or hold with a target price of $92.0, passing the guideline. PM's price is presently 17% below the target. PM is under the target price at present and has a low PE of 13, making PM a great buy at this entry point if you are an investor that wants good steady increasing dividends with the potential for future total return growth. Take advantage of being able to buy a great company business at a bargain price.
  6. One of my guidelines is would I buy the whole company if I could. The answer is yes. The total return is weak right now, and the above average growing dividend makes PM a good business to own for income. The Good Business Portfolio likes to embrace all kinds of investment styles but concentrates on buying businesses that can be understood, makes a fair profit, invests profits back into the business and also generates a good income stream. Most of all what makes PM interesting is the potential long-term growth of the smokeless tobacco products. PM gives you an increasing dividend for the dividend investor and good future total return potential.

Total Return and Yearly Dividend

The Good Business Portfolio Guidelines are just a screen to start with and not absolute rules. When I look at a company, the total return is a key parameter to see if it fits the objective of the Good Business Portfolio. Philip Morris International misses against the Dow baseline in my 60-month test compared to the Dow average. I chose the 60 month test period (starting January 1, 2014, and ending to date) because it includes the great year of 2017, and other years that had fair and bad performance. The poor total return of 1.52% makes Philip Morris International a fair investment for the total return investor that also wants a steady increasing income. PM has an above average dividend yield of 6.7% and has had increases for ten years in the last ten years making PM a great choice for the dividend investor. The Dividend was increased in June 2018 to $1.14/Qtr. from $1.07/ Qtr or a 6.5% increase three months earlier than expected.

DOW's 60 Month total return baseline is 42.55%

Company Name

60 Month total return

The difference from DOW baseline

Yearly Dividend percentage

Philip Morris International

+1.52%

-41.02%

6.7%

Click to enlarge

Last Quarter's Earnings

For the last quarter on October 1 8, 2018, Philip Morris International reported earnings that beat expected by $0.16 at $1.44 and compared to last year at $1.27. Total revenue was higher at $7.5 Billion more than a year ago by 0.4% year over year and beat expected revenue by $330 Million. This was a good report with bottom line beating expected and the top line is increasing and having a good increase in the bottom line compared with last year. The next earnings report will be out January 2019 and is expected to be $1.31 compared to last year at $0.45, a good increase. The projected dollar exchange rate is hurting PM's earnings by $0.12 this year.

The graphic below shows the 2018 guidance for PM.

Source: PM 3rd quarter earnings call slides (PM web site)

Business Overview

Philip Morris International is one of the largest manufacturer and distributor of tobacco products in foreign countries.

As per excerpts from Reuters

Philip Morris International is a holding company. The Company is engaged in the manufacture and sale of cigarettes, other tobacco products, and other nicotine-containing products in markets outside of the United States. Its segments include European Union (EU); Eastern Europe, Middle East & Africa (EEMA); Asia, and Latin America & Canada. The Company's portfolio of international and local brands is led by Marlboro. Its mid-price brands are L&M, Lark, Merit, Muratti and Philip Morris. Its other international brands include Bond Street, Chesterfield, Next and Red & White."

Overall Philip Morris International is a good business with 8% CAGR projected growth as the United States and foreign economies grow going forward, with the increasing demand for PM smokeless products as overall smoking slowly decreases. The good high dividend income brings you cash as we wait for the growth of the company and FDA regulations. Their product pricing is inelastic and allows them to increase prices without losing much demand.

The FED has kept interest rates low for some years, and on December 19, 2018, they raised the base rate 0.25%, which was expected. I believe that they will go slow next year, which should help keep the economy on a growth path. If infrastructure spending can be increased, this will even increase the United States growth going forward with better economics for the consumer. The FED lowered GDP projection for next year which may mean they are getting to neutral on the economy, projecting two rate increases for 2019. The recent volatility may keep the FED on hold. Recently the FED Chairman make a statement which was dovish, and the market went up strongly.

From October 18, 2018, earnings call Martin King (Chief Financial Officer) said

As announced this morning, we are reaffirming our 2018 reported diluted earnings per share guidance, at prevailing exchange rates, to be in a range of $4.97 to $5.02.

Our guidance includes $0.12 of unfavorable currency and represents a growth rate, excluding currency of approximately 8% to 9% compared to our adjusted diluted EPS of $4.72 in 2017. Our guidance continues to reflect the full-year assumptions shown on this slide and detailed in today's press release.

Importantly, this includes: PMI heated tobacco unit shipment volume of 41 billion to 42 billion units, reflecting a net anticipated distributor inventory reduction of approximately 3 billion units; and PMI heated tobacco unit in-market sales volume of 44 billion to 45 billion units.

Moving to our third quarter results, total shipment volume decreased by 2.1%, due mainly to the impact of distributor inventory movements, notably related to heated tobacco units in Japan. Excluding inventory movements, total shipment volume increased by 1.1%, driven by higher heated tobacco unit volume in the EU, Japan, Korea, the Middle East, and Africa region and Russia as well as higher cigarette volume in select markets, notably Indonesia, Mexico, Saudi Arabia, Thailand, and Turkey.

September year-to-date, total shipment volume declined by 1.2% but increased by 0.3% excluding inventory movements.

Given the impact of distributor heated tobacco unit inventory movements on our third quarter 2018 results, let me take a moment to put this into perspective vis-à-vis the 3 billion units full-year distributor inventory reduction assumption that we previously communicated.

The full-year reduction is driven by Japan and concentrated in the third quarter, with a decrease of 3.7 billion units. By comparison, there was an inventory increase in the third quarter of 2017 of 3.2 billion units, resulting in a negative total heated tobacco unit inventory variance of 6.9 billion units.

For the fourth quarter this year, we anticipate a 0.5 billion unit inventory increase. This compares to an inventory increase of 7.3 billion units in the fourth quarter of 2017, resulting in a negative total heated tobacco unit inventory variance of 6.8 billion units.

Importantly, heated tobacco unit inventories have been right-sized, and we are poised for future growth."

The graphic below shows the steady growth of IQOS products.

Source: PM 3rd quarter earnings call slides (PM web site)

This shows the feelings of top management to the continued growth of the Philip Morris International business and shareholder return with an increase in future growth. PM has good growth and will continue as the foreign economies grow and demand for its smokeless products in foreign countries and the United States when the FDA makes it's OK to the PM smokeless products.

The graphic below shows the IQOS product.

Source: PM web site

Takeaways

Philip Morris International is a good investment choice for the dividend income investor with it's above average high dividend yield and a poor choice for the total return investor looking back. Philip Morris International is 4.2% of The Good Business Portfolio and will be held and watch it grow. PM will be held in the portfolio and will be trimmed when it reaches 8% of the portfolio. If you want a growing dividend income and fair total return to come in the smoking product business PM may be the right investment for you. I think the price drop; due to the FDA possible regulations and the recent downturn in stock price creates a buying opportunity to buy a quality business at a bargain price.

Recent Portfolio Changes

I intend to watch the earnings reports for the companies in the portfolio and may finally decide to trim my high flyers that are over 8% of the portfolio so I can invest in good companies on my buy list.

  • On November 19 the portfolio trimmed 3M from 1.4% of the portfolio to 0.92%. The last earnings report was fair but and the next year does show the growth that is wanted. I was going to sell this small position, but the recent market volatility makes me want to hold this defensive income position.
  • On October 10 trimmed Home Depot (HD) from 10.1% of the portfolio to 9.6%. I love HD but don’t want it to get above 10% of the portfolio.
  • On October 10 the portfolio added starter position of VISA (V) at 0.4% of the portfolio.
  • On August 22 increased the percentage of DLR to 3.3% of the portfolio, I want to get this REIT to a full position of 4%.
  • On August 15 sold all remaining Amerisource Bergen(ABC) in the portfolio.
  • On August 9 the portfolio reduced Amerisource Bergen(ABC) to 0.4% of the portfolio. I will most likely sell the remainder of ABC next week. The company margin is very thin, and I don't like the present pressure of the opioid crisis. The risk has gotten too high versus the reward.
  • On July 12th bought a small starter position (0.1% of the portfolio) in Simulation Plus (SLP) a small software company that helps test/simulate new drugs before they are released. SLP is a very speculative investment and should be watched carefully.
  • On June 20th closed out covered calls and sold KHC position, I needed some cash. I got a better price using the calls but missed some of the recent gains.
  • On June 8th sold KHC July 57.5 calls against the position and will make 4% if the KHC price remains the same. The calls are now in the money, and I may move them up and out when the time value is small.

The Good Business Portfolio trims a position when it gets above 8% of the portfolio. The four top companies in the portfolio are, Johnson & Johnson (JNJ) is 8.8% of the portfolio, Omega Health Investors (OHI) is 8.7% of the portfolio, Home Depot (HD) is 8.9% of the portfolio and Boeing (BA) is 13.2% of the portfolio. Therefore BA, OHI, JNJ, and Home Depot are now in trim position, but I am letting them run a bit since they are great companies.

Boeing is going to be pressed to 14% of the portfolio because of it being cash positive on 787 deferred plane costs at $316 Million in the first quarter of 2017, an increase from the fourth quarter. The second quarter saw deferred costs on the 787 go down $530 Million a big jump from the first quarter. The second quarter of 2017 earnings was fantastic with Boeing beating the estimate by $0.25 at $2.55. The third quarter of 2017 earnings were $2.72 beating the expected by$0.06 with revenue increasing 1.7% over last year, another good report. The first quarter earnings for 2018 were unbelievable at $3.64 compared too expected at $2.64. Farnborough Air Show sales in dollar value just beat out Air-Bus by about $6 Billion, and both companies had a great number of orders. The second quarter earnings beat expectations by $0.06 at $3.33, but a good report was hurt by a write off expense on the KC-46 which should start delivery in December of 2018. Boeing received an order for 18 more KC-46A planes. As a result of the good third-quarter earnings, S&P CFRA raised the one-year price target to $ 450 for a possible 37% upside potential.

JNJ will be pressed to 9% of the portfolio because it's so defensive in this post-BREXIT world. Earnings in the last quarter beat on the top and bottom line and Mr. Market did like it. JNJ has announced a dividend increase to $0.90/Qtr, which is 56 years in a row of increases. JNJ is not a trading stock but a hold forever; it is now a strong buy as the healthcare sector remains under pressure.

For the total Good Business Portfolio, please see my article on The Good Business Portfolio: 2018 3rd Quarter Earnings and Performance Review for the complete portfolio list and performance. Become a real-time follower, and you will get each quarter's performance after the next earnings season is over.

I have written individual articles on JNJ, EOS, GE, IR, MO, BA, PEP, AMT, PM, LB, Omega Health Investors, Digital Investors Trust (DLR) and Automatic Data Processing (ADP) that are in The Good Business Portfolio and other companies being evaluated by the portfolio. If you have an interest, please look for them on my list of previous articles.

Of course, this is not a recommendation to buy or sell, and you should always do your own research and talk to your financial advisor before any purchase or sale. This is how I manage my IRA retirement account, and the opinions of the companies are my own.

Disclosure: I am/we are long BA, JNJ, HD, OHI, MO, IR, DLR, GE, PM, MMM, ADP, EOS. 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.